WOODWARD IRON COMPANY v. United States

• Citation: 396 F.2d 552
• Decision Date: 20 June 1968
• Docket Number: No. 24097.,24097.
• Parties: WOODWARD IRON COMPANY, Appellant, v. UNITED STATES of America, Appellee.
• Court: United States Courts of Appeals. United States Court of Appeals (5th Circuit)

396 F.2d 552 (1968)

WOODWARD IRON COMPANY, Appellant, v. UNITED STATES of America, Appellee.

No. 24097.

United States Court of Appeals Fifth Circuit.

June 20, 1968.

Meade Whitaker, Birmingham, Ala., for appellant.

Macon L. Weaver, U. S. Atty., Birmingham, Ala., Harold C. Wilkenfeld, Howard J. Feldman, Attys., Tax Div., Dept. of Justice, Washington, D. C., for appellee.

Before RIVES, GOLDBERG and DYER, Circuit Judges.

GOLDBERG, Circuit Judge:

"A paradox, a paradox,

A most ingenious paradox!"¹

The taxpayer, through 1953 consistent in its ratable deductions of state ad valorem taxes, reads a 1954 statute as automatically transmuting it into taking lump sum deductions while urging that the congressional intent of the statute was to accommodate change from lump sum to ratable methods.

The taxpayer owns property in Alabama, in which state ad valorem taxes are assessed and collected on the basis of a fiscal year beginning October 1 and ending September 30. During the years in question the taxpayer used the calendar year as its accounting period and computed its income on the accrual basis. Through 1953 the taxpayer accrued and deducted state property taxes ratably on its federal income tax return. For example, in 1953 it deducted 9/12ths of the ad valorem assessment which became a lien on October 1, 1952 (ratably attributable to the months of January 1953 through September 1953), plus 3/12ths of the taxes which became a lien on October 1, 1953 (ratably attributable to the months of October 1953 through December 1953).

In 1954 the taxpayer changed its method of accounting for state property taxes from the ratable accrual method to the lump sum accrual method. Thus, it listed on its 1954 federal income tax return the entire state ad valorem tax assessment which became a lien on October 1, 1954. It also listed the taxes ratably attributable to the first nine months of 1954, which had not been deducted on the 1953 return. A total, then, of twenty-one months property taxes was set off against its 1954 income.

In making the foregoing change in its method of accounting for Alabama property taxes, the taxpayer did not obtain the consent of the Commissioner. Following an audit of the taxpayer's returns, the Commissioner disallowed the change and reduced the property tax deductions to the amount taken under the ratable accrual method. The taxpayer paid the additional tax and filed for a refund. The district court upheld the Commissioner's determination and entered judgment for the government. Woodward Iron Co. v. United States, N.D.Ala.1966, 254 F.Supp. 835. The taxpayer appeals. We affirm.

We begin with Section 446(e) of the Internal Revenue Code of 1954, which requires a taxpayer to secure the consent of the Secretary or his delegate before changing his method of accounting:

Sec. 446(e): "Requirement Respecting Change of Accounting Method. — Except as otherwise expressly provided in this chapter, a taxpayer who changes the method of accounting on the basis of which he regularly computes his income in keeping his books shall, before computing his taxable income under the new method, secure the consent of the Secretary or his delegate." 26 U.S.C. § 446.

The reason for this rule is that a change in an accounting method will frequently cause a distortion of taxable income in the year of change; therefore, the Commissioner is empowered to prevent such distortion and consequent windfall to the taxpayer by conditioning his consent on the taxpayer's acceptance of adjustments that would eliminate any distortion. See Treas.Regs. §§ 1.446-1(c) (2) (ii), (e) (2), and (e) (3). See also Wright Contracting Co. v. C.I.R., 5 Cir. 1963, 316 F.2d 249, 254, cert. den., 375 U.S. 878, 84 S.Ct. 147, 11 L.Ed.2d 110; Hackensack Water Co. v. United States, 1965, 352 F.2d 807, 809-811, 173 Ct.Cl. 606 (and cases cited therein). Cf. United States v. Catto, 1966, 384 U.S. 102, 114-116, 86 S.Ct. 1311, 16 L.Ed.2d 398, 406-408.

The district court found, and we agree, that a change from the ratable method of accruing property taxes to the lump sum method is a change of "a method of accounting" as provided in Section 446(e). See Rev.Rul. 60-133, 1960-1 Cum.Bull. 187. Likewise, we concur with the district court's finding that the change involved a "material item" of accounting and was thus covered by Section 446(e). See Treas.Regs. § 1.446-1(e) (2) (i). See also Wright Contracting Co. v. C.I.R., supra; Graff Chevrolet Co. v. Campbell, 5 Cir. 1965, 343 F.2d 568, 570 (footnotes 3 and 4 and accompanying text).

We therefore turn to the taxpayer's main contention on appeal, that Section 461(c) of the Code permitted the unilateral change to lump sum. Cf. John Wanamaker Philadelphia, Inc. v. United States, 1966, 359 F.2d 437, 439-441, 175 Ct.Cl. 169 (containing thorough analyses of both the general rule requiring Commissioner approval for changes in accounting methods and the exception to the general rule which occasionally arises when a taxpayer is given statutory authority to make specific changes); Scofield v. Lewis, 5 Cir. 1958, 251 F.2d 128; North Carolina Granite Corp., 1964, 43 T.C. 149.

Section 461(c), which was enacted in 1954, reads in relevant part:

Sec. 461(c): "Accrual of Real Property Taxes —

(1) In general. — If the taxable income is computed under an accrual method of accounting, then, at the election of the taxpayer, any real property tax which is related to a definite period of time shall be accrued ratably over that period."

The taxpayer focuses its argument on the phrase "at the election of the taxpayer." The argument proceeds thusly: The accrual of real property taxes can be accomplished through either ratable or lump sum methods; Section 461(c) (1) allows a taxpayer to use the ratable method, but only if he so elects; therefore, if he does not so elect, if he stands mute, he is automated into lump sum status (thereby averting the requirement of Commissioner consent under Section 446 (e)).

We look first to the words of the statute which, though perhaps arguably susceptible to the taxpayer's interpretation, are not convincing in that regard. The words are permissive, not compelling, and on their face they permit the election of only the ratable method. In fact, the term "lump sum" is noticeably absent from the entire section. To read the words as granting an election to change from ratable to lump sum would require certain interpretative creativity which is to be avoided especially when it results in a distortion of taxable income.²

Statutes, however, are rarely read in isolation, and in this case both sides urge us to consider the legislative history of Section 461. The bill was originally passed by the House in terms making it manditory for accrual taxpayers to deduct real property taxes on a ratable basis.³ The Report of the House Ways and Means Committee analyzed that bill as follows:

"Under present law a deduction for the payment of local property taxes accrues upon the date when the amount and liability for the tax become fixed. In many jurisdictions the amount and liability for a property tax for the calendar year 1955 would be fixed on a date late in 1954 and, under court decisions, is deductible for accrual basis taxpayers only at that time.

"The bill provides that an accrual basis taxpayer may in the future accrue a real property tax ratably over the period for which the property tax is imposed.

"Special rules are provided to cover the transitional problems which may arise as a result of the change." H. Rep. No. 1337, 83 Cong. 2 Sess. 50 (1954), U.S.Code Cong. Service pp. 4017, 4076 (1954).

"Subsection (c) is new. Real property taxes which relate to a definite period of time shall be treated by all accrual basis taxpayers as accruing ratably over that period. Under present law the tax is deemed to accrue at some definite moment which is determined by reference to State or local law fixing when the tax becomes a lien on the property or when personal liability for the tax arises or on some other basis. Under the proposed provision a real property tax for the calendar year 1954 regardless of when due, when a lien, or when the taxpayer becomes personally liable for the tax shall be treated as accruing ratably over the period for which the tax is levied." H.Rep. No. 1337, 83 Cong. 2 Sess. A 161-62, U.S.Code. Cong.Service, p. 4300 (1954).

The bill was changed to its present form by the Senate. The Report of the Senate Finance Committee notes the change and presents the most authoritative legislative analysis of the amended bill:

"Under present law a deduction for the payment of local property taxes accrues upon the date when the amount and liability for the tax become fixed. In many jurisdictions the amount and liability for a property tax for the calendar year 1955 would be fixed on a date late in 1954 and, under court decisions, is deductible for accrual-basis taxpayers only at that time.

"The House bill provides that an accrual basis taxpayer must in the future accrue a real property tax ratably over the period for which the property tax is imposed.

"Special rules were provided by the House to cover the transitional problems which might arise as a result of the change. These rules would create a gap in property tax deductions and would artificially inflate income in the year of transition for many taxpayers who had deducted 1954 taxes in an earlier year.

"Your committee\'s bill, therefore, provides that real property taxes related to a definite period of time may, at the election of the taxpayer, be accrued ratably over that period. Making the provisions elective will permit those taxpayers whose income would otherwise be distorted in the transition year to continue consistently the method under which their real property taxes have been accrued in the past. The transitional rules will apply only in those cases in which an election is made under this subsection." S. Rep. No. 1622, 83 Cong. 2 Sess. 66 (1954), U.S.Code

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