Brookshire v. Comm'r of Internal Revenue, Docket Nos. 57277
| Decision Date | 18 March 1959 |
| Docket Number | Docket Nos. 57277,57278. |
| Citation | 31 T.C. 1157 |
| Parties | STANFORD R. BROOKSHIRE AND EDITH M. BROOKSHIRE, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.VORIS G. BROOKSHIRE AND HELEN M. BROOKSHIRE, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
F. T. Miller, Jr., Esq., Elton B. Taylor, Esq., and F. A. McCleneghan, Esq., for the petitioners.
Richard C. Forman, Esq., for the respondent.
A partnership of which the petitioners were members kept its books and filed its income tax returns on the cash receipts and disbursements method of accounting for all years prior to 1952. In 1952 it changed its method of accounting to an accrual method and filed its return for that year accordingly. Held, that the respondent properly adjusted reported income of the partnership for the year 1952 by increasing income by amounts collected in that year on accounts receivable as of the beginning of the year representing sales made in the prior year, and by reducing the cost of goods sold by that portion of the cost of inventory on hand at the beginning of 1952 which had been paid and deducted in the prior year.
The respondent determined deficiencies in income tax against the petitioners as follows:
+----------------------------------------------------------------+
¦Petitioner ¦Docket No.¦Year ¦Income tax¦
+-----------------------------------+----------+------+----------¦
¦Stanford R. and Edith M. Brookshire¦57277 ¦( 1950¦$15,806.32¦
+-----------------------------------+----------+------+----------¦
¦ ¦ ¦( 1952¦28,109.88 ¦
+-----------------------------------+----------+------+----------¦
¦Voris G. and Helen M. Brookshire ¦57278 ¦( 1950¦15,269.24 ¦
+-----------------------------------+----------+------+----------¦
¦ ¦ ¦( 1952¦27,785.56 ¦
+----------------------------------------------------------------+
The principal question is whether in 1952, the year in which a partnership changed from a cash to an accrual method of accounting and reporting income it is required to include in taxable income the accounts receivable as of the beginning of that year which were collected in that year, and to reduce the cost of goods sold by that portion of inventory on hand at the beginning of 1952 which had been paid for and deducted prior to 1952.
The year 1950 is before us as a result of an alternative determination of the respondent for that year involving similar adjustments.
Some of the facts are stipulated and the stipulation is incorporated herein by this reference.
The petitioners, Stanford R. Brookshire and Edith M. Brookshire, are husband and wife, residing near Charlotte, North Carolina. The petitioners, Voris G. Brookshire and Helen M. Brookshire, are husband and wife, residing near Charlotte, North Carolina. Stanford Brookshire and Voris Brookshire are brothers. For the years 1950 and 1952 both couples filed joint income tax returns with the collector of internal revenue at Greensboro, North Carolina.
Engineering Sales Company, hereinafter referred to as the partnership, is a partnership composed of the petitioners, which was organized in 1932. The partnership filed income tax returns for the calendar years 1950 and 1952 with the collector of internal revenue at Greensboro, North Carolina.
The partnership originally operated as a manufacturers' agent, selling mechanical equipment to manufacturing plants on a commission basis, the partnership taking no title to the merchandise, assuming no responsibility for collection of the accounts, and being reimbursed purely on a commission basis.
The books of the partnership were originally set up on a cash receipts and disbursements method of accounting. A cash receipts journal and a cash disbursements journal were maintained with columns for various income and expenses. Monthly profit and loss statements were prepared by bookkeepers based upon the cash receipts and the disbursements. Annual profit and loss statements were prepared on the same basis. The partnership income tax returns for all years prior to 1952 were prepared on the cash basis, and the figures used in computing income were taken solely from the cash receipts journal and the cash disbursements journal. The partnership returns of income and the partnership books were examined by field agents of the Internal Revenue Service for 1948 and certain prior years, and the partnership's practice of accounting and reporting income on the cash method was accepted.
About 1940 an accounts receivable ledger was established as the partnership began to make credit sales on its own responsibility, in addition to earning commissions as an agent. This ledger was kept principally for collection purposes. The partnership recorded therein sales and collections on sales. It also maintained a sales journal in which invoices were listed by number and notations made as to dates of payments on the invoices. The entries in this journal were never totaled. They were used for cross-reference purposes only.
Until about 1943 the partnership's inventory consisted solely of ‘V-belts,‘ at which time it began to have material from belts left over which was put into inventory. About 1943 the partnership adopted the practice of taking a physical inventory at the end of each year and preparing, for managerial information and occasionally for bank and credit report purposes, a balance sheet with amounts shown thereon for accounts receivable, accounts payable, and inventory. About 1945 the partnership began to make certain purchases for inventory. Prior to April 1951, inventory records were kept on inventory sheets. Thereafter a card system of perpetual inventory records was kept.
Prior to 1952 the accounts receivable ledger, the sales journal, and the inventories were not used in computing or reporting income under the cash method employed by the partnership. Prior to 1952 the partnership maintained no accounts payable ledger.
The usual type of accounts receivable carried by the partnership was ‘2% cash, net 30.’ During the years in issue the partnership had no debts with respect to its accounts receivable and there was no instance of a customer taking as much as a year to pay his account.
In the year 1952 a general ledger was set up. Accounts receivable, accounts payable, and inventory existing at January 1, 1952, were set up in this ledger with proper offsetting credits to the partners' capital accounts. When the time came for filing the partnership return for 1952, that return was prepared and submitted on an accrual method of accounting. In such return the partnership did not include in income the amount of the accounts receivable existing as of the beginning of 1952 or the collections thereon during the year. Therein, in the computation of cost of goods sold, it included in opening inventory the full amount of inventory existing at the beginning of the year, including that which had been paid for and deducted prior to 1952.
At no time did the partnership request or receive specific permission from the Commissioner of Internal Revenue to change its method of accounting and reporting income from the cash to an accrual method, as prescribed by the Internal Revenue Code of 1939 and applicable regulations.
The following tabulation shows the amounts of inventory, accounts receivable, commissions earned and receivable, and value of partnership assets as of January 1 of each of the years 1945 to 1952, as shown by financial statements:
+-------------------------------------------------------+
¦ ¦ ¦Accounts ¦Commissions¦ ¦
+---------+---------+----------+-----------+------------¦
¦January 1¦Inventory¦receivable¦earned and ¦Gross assets¦
+---------+---------+----------+-----------+------------¦
¦ ¦ ¦ ¦receivable ¦ ¦
+---------+---------+----------+-----------+------------¦
¦1945 ¦$8,890.24¦$8,878.99 ¦$19,228.93 ¦$52,530.43 ¦
+---------+---------+----------+-----------+------------¦
¦1946 ¦8,263.14 ¦17,159.40 ¦57,081.83 ¦92,216.78 ¦
+---------+---------+----------+-----------+------------¦
¦1947 ¦11,575.25¦16,501.43 ¦80,779.18 ¦124,475.21 ¦
+---------+---------+----------+-----------+------------¦
¦1948 ¦12,710.00¦26,918.50 ¦65,082.42 ¦120,813.75 ¦
+---------+---------+----------+-----------+------------¦
¦1949 ¦41,120.60¦39,798.25 ¦34,256.64 ¦141,328.35 ¦
+---------+---------+----------+-----------+------------¦
¦1950 ¦35,272.07¦7,677.30 ¦9,795.33 ¦89,412.32 ¦
+---------+---------+----------+-----------+------------¦
¦1951 ¦39,725.93¦48,876.94 ¦45,529.16 ¦148,280.89 ¦
+---------+---------+----------+-----------+------------¦
¦1952 ¦62,679.22¦32,402.54 ¦34,968.36 ¦147,485.75 ¦
+-------------------------------------------------------+
The partnership returns show two main sources of income, namely, commissions and sales of merchandise. The amount of gross sales, gross profit from sales, the amount of commissions, and the net income for each of the years 1948 to 1951, inclusive, as shown therein were as follows:
+----------------------------------------------------+
¦Year¦Gross sales¦Gross profit¦Amount of ¦Net income¦
+----+-----------+------------+-----------+----------¦
¦ ¦ ¦from sales ¦commissions¦ ¦
+----+-----------+------------+-----------+----------¦
¦1948¦$356,636.10¦$62,262.49 ¦$67,032.90 ¦$68,085.90¦
+----+-----------+------------+-----------+----------¦
¦1949¦281,774.23 ¦91,920.60 ¦39,069.01 ¦78,873.27 ¦
+----+-----------+------------+-----------+----------¦
¦1950¦314,374.44 ¦53,458.25 ¦28,799.54 ¦25,747.35 ¦
+----+-----------+------------+-----------+----------¦
¦1951¦408,256.73 ¦85,594.20 ¦39,865.37 ¦67,487.11 ¦
+----------------------------------------------------+
At least by 1952 the...
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