Virginia-Lincoln Furniture Corp. v. Com'r of Int. Rev.

• Decision Date: 07 March 1932
• Docket Number: No. 3159.,3159.
• Citation: 56 F.2d 1028
• Parties: VIRGINIA-LINCOLN FURNITURE CORPORATION v. COMMISSIONER OF INTERNAL REVENUE.
• Court: U.S. Court of Appeals — Fourth Circuit

56 F.2d 1028 (1932)

VIRGINIA-LINCOLN FURNITURE CORPORATION v. COMMISSIONER OF INTERNAL REVENUE.

No. 3159.

Circuit Court of Appeals, Fourth Circuit.

March 7, 1932.

J. P. Buchanan, of Marion, Va., for petitioner.

Morton K. Rothschild, Sp. Asst. to the Atty. Gen. (G. A. Youngquist, Asst. Atty. Gen., Sewall Key, Sp. Asst. to the Atty. Gen., and C. M. Charest, Gen. Counsel, Bureau of Internal Revenue, and R. N. Shaw, Sp. Atty., Bureau of Internal Revenue, both of Washington, D. C., on the brief), for respondent.

Before PARKER and SOPER, Circuit Judges, and WAY, District Judge.

PARKER, Circuit Judge (after stating the facts as above).

Petitioner, a furniture manufacturing corporation, had outstanding accounts at the end of the year 1922 of $188,854.92 upon which its customers were entitled to trade and time discounts of between two and fifteen per cent. Based on the experience of that year, it claimed before the Commissioner a deduction from the amount of the accounts of $13,219.84. As a matter of fact, the discount allowed on these accounts in the year 1923 was $14,639.01. At the end of the year 1923 petitioner had outstanding accounts of $258,137.91, upon which the estimated discount was $22,141.00, and the discount actually allowed in 1924 was $22,112.90.

It appears that in its return for the year 1922, petitioner did not claim any deduction by way of estimated discount on accounts outstanding at the end of the year. In its return for 1923, however, it claimed a deduction of $22,141.00 for accounts outstanding at the end of that year. On January 17, 1927, the Commissioner reviewed its returns for both years, allowed the deduction claimed for 1923 and also allowed a deduction from the 1922 return of $13,219.84 for discounts on the accounts outstanding at the end of that year. The sum of $13,219.84 was at the same time added to the 1923 income, as the allowance of the deduction in the year in which the accounts were created precluded its being allowed in the year in which they were paid. The letter of January 17th however, was followed by one of March 5th in which the Commissioner disallowed the deduction of the $22,141.00 from the 1923 income and the $13,219.84 from the 1922 income, but allowed the latter amount to remain as a deduction from the 1923 income as shown in the original returns. The record does not show whether or not the taxpayer received in 1924 a deduction for the $22,112.90 time discounts allowed customers in 1924 on the accounts outstanding at the end of the year 1923.

After receipt of the letter of March 5, 1927, petitioner filed its petition with the Board of Tax Appeals asking that it be allowed to deduct for each of the years in question the estimated discount on the accounts outstanding at the end of the year. Before this petition was heard, it filed an amended petition setting forth that the discounts in question had actually been allowed to customers in the years 1923 and 1924 respectively and their amount definitely and accurately determined. It asked that it be allowed as a deduction from the accounts outstanding at the end of the years 1922 and 1923 the amount of the discounts so determined, conceding that under prior decisions of the Board it was not entitled to the estimated discounts as set up in its original petition. The Board denied the petition, holding in accordance with its previous decisions that reserves set up by a taxpayer at the close of a taxable year in amounts equal to a certain percentage of its then outstanding accounts, for discounts anticipated in connection with the settlement of such accounts, were not deductible in determining net income, and that such deductions would not be allowed on the ground that the discounts had been rendered certain by the happenings of subsequent years.

The contention of petitioner before us is that it is entitled to deduct the estimated discount from the accounts outstanding at the end of the year, but, if not this, certainly the discount as actually allowed in the succeeding year. The Commissioner denies that petitioner is entitled to a deduction on either basis and makes the further point that, because petitioner did not urge in its amended petition before the Board the right to deduct the estimated discount, it may not rely upon that position here.

We think that the Board was in error in holding that petitioner was not entitled to deduct from accounts outstanding at the end of the year a reserve properly set up in accordance with experience to take care of the discounts to which customers were entitled upon such accounts. The fact that the discounts were to an extent contingent upon the time of payment is immaterial. The experience of petitioner showed with reasonable certainty what the percentage of discount would be; and it was nothing but just and right that, when the government included the unpaid accounts in its estimate of income, it should permit the deduction from such accounts of the discount which the experience of petitioner showed was reasonably to be expected. The question presented is not one of deducting losses from gross income under section 234, 42 Stat. 254. It is a question of determining the amount due on the unpaid accounts included in gross income.

While there is some controversy as to whether or not the books of petitioner were kept upon the accrual basis, the Board of Tax Appeals proceeded upon the assumption that they were so kept; and there can be but little doubt but that this was the case. The action of the Commissioner in including the unpaid accounts as income would seem to be conclusive of the matter so far as the question before us is concerned. See Klein, Federal Income Taxation, p. 106, et seq. The keeping of books on such basis is expressly authorized by section 212(b) of the Revenue Act of 1921, 42 Stat. 237, which provides:

"The net income shall be computed upon the basis of the taxpayer's annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer; but if no such method of accounting has been so employed, or if the method employed does not clearly reflect the income, the computation shall be made upon such basis and in such manner as in the opinion of the Commissioner does clearly reflect the income."

Treasury Decision 2433 promulgated as early as 1917 provided in substance that "when the taxpayer, following a consistent accounting practice, sets up reserves to meet liabilities, the `amount of which or date of maturity' is not definitely determinable, such reserve may be deducted from gross income." United States v. Anderson, 269 U. S. 422, 438, 46 S. Ct. 131, 133, 70 L. Ed. 347. Here petitioner's method of book-keeping was to charge customers with the full amount of their purchases, although they were entitled to certain trade and cash discounts. Petitioner contends that it was entirely possible, from the experience of the business, to estimate with substantial accuracy what discounts would be allowed from these accounts and what percentage should be deducted to ascertain the amount collectible thereon, i. e. their reasonable net value; and the action of the Board was based, not upon the fact that these estimates were not substantially accurate, but upon the fact that the discounts were taken in the succeeding year when the accounts were paid. We see no reason why petitioner should not have been allowed to deduct the reserve set up in anticipation of such discounts, as it was certainly necessary that this be done to ascertain what part of the accounts could properly be considered as income. It would be manifestly unjust to charge as a part of income accounts which every one knew were subject to a reduction of approximately 10 per cent.

Of course, if the method of accounting employed by a taxpayer does not clearly reflect his true income, the computation of the tax must be made in such manner as in the opinion of the Commissioner does reflect it. Section 212(b), supra. But no contention is made here that the books of the taxpayer were not properly kept or...