Opinion ID: 265355
Heading Depth: 1
Heading Rank: 1

Heading: The Revocation Issue

Text: 2 On its income tax return for 1950, the taxpayer used the LIFO (Last-In First-Out) method of valuing its inventories of zinc, copper and red metals. We explained this accounting convention in R. H. Macy & Co. v. United States, 2 Cir., 255 F.2d 884, cert. denied, 358 U.S. 880, 79 S.Ct. 119, 3 L.Ed.2d 110, as follows: 3 'Under any method of inventory, 'costing' the closing inventory is a necessary step in the calculation of taxable income. FIFO and LIFO are alternative accounting methods for arriving at this cost. LIFO assumes that the last articles purchased during the year were the first ones sold, so that articles left in the inventory at the end of the year were the first ones purchased. FIFO (first-in, first-out) assumes the converse, that the earliest article purchased was the first one sold, so that articles left in the inventory at the end of the year were the last ones purchased. Obviously neither FIFO nor LIFO corresponds with actual fact, although the FIFO assumption seems more logical in the normal course of business operations. In a period of stable prices the application of either theory renders the same result. But during an inflationary period, LIFO is distinctly advantageous to the taxpayer, for, in effect, he is not required to include as profit increases in value of inventory. This illustrates the real purpose of the methods-- to reflect accurately what normally is considered as profit during inflationary and deflationary periods in the economy.'The underlying assumption of the LIFO method is that businessmen are always able to purchase enough goods to maintain their inventories at a relatively stable level. The method permits the increase in prices of articles purchased during an inflationary period to be allocated to cost, rather than profits. However, during a period of scarcity, it may not always be possible to replace inventories. As a result, the so-called basestock inventory will be depleted, and the cost of goods sold will represent, not current market prices, but the prices prevailing in previous years, normally lower. This, accountants contend, tends to inflate profits above what they realistically are. More important, in the absence of special provisions in the tax law, the cost of bringing inventory up to normal when it becomes possible to do so would not be deductible as an expense for income tax purposes. 4 Congress granted relief to taxpayers in this situation in 1942, when the problem of involuntary inventory liquidation had become acute as a result of World War II. Revenue Act of 1942, 56 Stat. 814, which added section 22(d)(6) to the Internal Revenue Code of 1939. This provision as amended, applies to liquidations occurring in taxable years beginning after December 31, 1940 and prior to January 1, 1948. Subsequently, a similar provision waas added for taxable years ending after June 30, 1950 and prior to January 1, 1954, by the Act of January 11, 1951, 64 Stat. 1244. Section 22(d)(6)(F). This provision, at issue here, is set out in the footnote. 1 5 Briefly, the statute provides that in cases where taxpayers can establish that a liquidation of inventory has occurred due to specified circumstances beyond their control, and that in a subsequent year they replace the inventory, they may elect to adjust their net income for the year of liquidation by deducting from it the excess of the cost of goods replaced over the cost of the goods liquidated. Once the adjustment is made, taxes for the year of liquidation, the year of replacement, and all intervening and subsequent years must be redetermined accordingly. 6 Section 22(d)(6)(D), applicable to transactions under section 22(d)(6)(F), provides that 7 'An election by the taxpayer to have the provisions of this paragraph apply, once made, shall be irrevocable and shall be binding for the year of the involuntary liquidation and for all determinations for prior and subsequent taxable years insofar as they are related to the year of liquidation or replacement.' 8 The present controversy arises over the taxpayer's contention that section 22(d)(6)(D) is subject to an implied exception, where a notice of revocation of election to use section 22(d)(6)(F) is filed prior to the time set by the regulations for making the election. Although the Tax Court rejected this claim, we find merit in it, in the circumstances presented here, and accordingly reverse the judgment on this issue. 9 Section 22(d)(6)(F) was added to the Code by the Act of January 11, 1951, ch. 1227, 64 Stat. 1244. On September 22, 1952, the Commissioner, pursuant to that statute, issued an amendment to Regulations 111, conforming to the new statute. T.D. 5932, 1952-2 Cum.Bull. 76. Under these regulations, a taxpayer's election to have section 22(d)(6)(F) apply, with respect to years of liquidation ending after June 30, 1950 and before March 1, 1952 might be made at any time up to December 15, 1952. On March 4, 1952, before adoption of these regulations, the taxpayer had sent a registered letter to the Commissioner, notifying him of its election to invoke the new statutory provisions with respect to involuntary liquidation, during the taxable year 1950, of its inventories of zinc, copper and other red metals. The letter also stated that the taxpayer had made every reasonable effort to maintain its base stock inventory of these materials, but that prevailing conditions were such as to make this impossible. 10 On December 12, 1952, taxpayer sent a registered letter to the Commissioner revoking its election with respect to the zinc inventory and confirming it with respect to the other two metals. It took this step, according to the testimony of its officers, because changes in the available supply of zinc made it economically advantageous to do so. The Commissioner refused to accept the revocation, and required taxpayer to abide by its March election, assessing a substantial deficiency on the 1952 tax return. 11 It is always a difficult matter to give the words used in statutes, especially such strong language as that contained in section 22(d)(6)(D), anything other than their most natural and commonly accepted meaning. On the other hand, we are confident that the purpose of that provision was to ensure that, once a final election was made, subsequent events would not permit a taxpayer to change it and possibly distort its tax liability for succeeding years, as would be the case if the election were exercised for some but not all years. This danger is not present in this case, since the taxpayer notified the Commissioner, within the period set by his own Regulations, of its final position with respect to its exercise of the option given it by Congress. In no way could the revenue be prejudiced by a decision, on these facts, to allow the taxpayer to revoke its election. It is also noteworthy that the Regulations which existed at the time taxpayer made its initial election, required taxpayers who desired to elect to employ section 22(d)(6)(A), to take action within six months following their filing of an income tax return for the year of liquidation. There could be no certainty at that time that, when the Regulations were finally changed to reflect the new statute, any longer period of time would be granted. The taxpayer's initial election was made five months and 20 days after it filed its tax return for 1950. 12 We believe that the Supreme Court's decision in Haggar Co. v. Helvering, 308 U.S. 389, 60 S.Ct. 337, 84 L.Ed. 340 (1940) provides a close parallel to the instant case. That case involved the 'capital stock' and 'declared value excess profits' taxes imposed on corporations by section 215 of the National Industrial Recovery Act of 1933. The statute required corporations to file a declaration of capital stock value, which might be set at any figure, and pay an annual tax at the rate of $1 for each $1,000 of declared value. An additional tax was imposed with respect to corporate income which exceeded 12 1/2% Of the declared value of the capital stock. 13 Section 215(f) of the Act stated that 'the adjusted declared value shall be the value, as declared by the corporation in its first return under this ection (which declaration of value cannot be amended)   .' The Haggar Company, a Texas corporation, filed its tax return for the year ending June 30, 1933 in August 1933, and under the belief that it was required to use the par value of its stock for purposes of the declared value tax, declared a value of $120,000. It was later better advised and, before the final date for filing returns for that year, filed an amended return declaring a higher value. The Commissioner, relying on the literal language of the statute, refused to accept the amended declaration of value. His position was sustained by the Board of Tax Appeals (38 B.T.A. 141) and the Circuit Court of Appeals for the Fifth Circuit (104 F.2d 24 (1939)), but the Supreme Court unanimously reversed. In an opinion by Mr. Justice Stone, the Court stated that 'to construe 'first return' as meaning the first paper filed as a return, as distinguished from the paper containing a timely amendment, which, when filed is commonly known as the return for the year for which it is filed, is to defeat the purposes of the statute by dissociating the phrase from its context and from the legislative purpose in violation of the most elementary principles of statutory construction.' 308 U.S. at 395, 60 S.Ct. at 340. 14 The Court also noted that the purpose of the statute was to allow the taxpayer to fix for itself the value of its capital stock, provided that this value must be adopted for all subsequent years, thus avoiding the necessity of a complicated formula to determine actual value. At the same time, understatements of value were discouraged through the excess profits tax device. The Court emphasized that 'It is plain that none of the purposes would have been thwarted and no interest of the Government would have been harmed had the Commissioner, in conformity to established departmental practice, accepted the petitioner's amended declaration. It is equally plain that by its rejection petitioner has been denied an opportunity to make a declaration of capital stock value which it was the obvious purpose of the statute to give, and that denial is for no other reason than that the declaration appeared in an amended instead of an unamended return. We think that the words of the statute, fairly read in the light of the purpose, disclosed by its own terms, require no such harsh and incongruous result.' Id. at 394-395, 60 S.Ct. at 340. 15 The Government attempts to distinguish Haggar from the instant case by noting that the taxpayer there was under a mistake of fact when it filed its original return, whereas here the taxpayer changed its position as a result of changes in market conditions between March and December 1952. It also stresses the fact that the statutory provision under consideration in Haggar did not require an election on the part of the taxpayer. However, in J. E. Riley Investment Co. v. Commissioner, 311 U.S. 55, 61 S.Ct. 95, 85 L.Ed. 36 (1940), the Court stated that 'Haggar Co. v. Helvering    would compel the conclusion that had the amended return been filed within the period allowed for filing the original return, it would have been a 'first return' within the meaning of 114(b)(4)' of the Revenue Act of 1934, ch. 277, 48 Stat. 680. That section provided for a taxpayer's election to use the percentage depletion method, and required the taxpayer to abide by his initial election during all succeeding years. The taxpayer, which did not learn of the new section until many months after it filed its tax return for the calendar year 1934, attempted to make the election in an amended return filed long after the deadline. Had the amended return been timely filed, it seems clear from the above quotation that the decision would have gone in its favor. 16 We believe that the Haggar and Riley cases suffice to demonstrate the correctness of the present taxpayer's position. As in Haggar, the purpose of the relevant statute-- here even more clearly to benefit the taxpayer-- is furthered by acceptance of the amended election; as in Haggar, the government is in no way disadvantaged thereby since the final election was made within the time specified by law. None of the cases cited to us by the government, such as R. H. Macy & Co. v. United States, supra; Aeolian Co. of Missouri v. United States, 257 F.2d 24 (8 Cir. 1958); Rosenfield v. United States, 156 F.Supp. 780 (E.D.Pa.1957), aff'd, 254 F.2d 940 (3 Cir. 1958); cert. denied, 358 U.S. 833, 79 S.Ct. 55, 3 L.Ed.2d 71 (1958); and Raymond v. United States, 269 F.2d 181 (6 Cir. 1959) stand for the contrary proposition, since in all those cases the taxpayers attempted to revoke elections well after the period allowed for making them. We can see no reason for denying taxpayers the benefit of a locus poenitentiae specifically given them by statute or appropriate regulation.