Court Opinion

ID: 8597170
Source: CourtListenerOpinion
Date Created: 2022-11-23 16:04:31.025022+00
Date Added: 2024-06-11T16:54:58.415709
License: Public Domain

KASHIWA, Judge,
concurring in result:
I concur with the result reached by the per curiam opinion of the majority, but I feel the Thor Power line of accounting cases granting deference to the Commissioner’s accounting determinations must be more thoroughly discussed. The majority approach assumes there is no Thor Power problem here because the majority decides the characterization question, i.e., whether line pack is "inventory” or a "capital asset,” first. Thus, because line pack is not inventory, the Commissioner is in error and, ergo, his determination is entitled to no weight. The majority’s approach, it seems to me, assumes what it must decide. I therefore have chosen to concur in result, explaining what I perceive to be the necessary analysis.
During the years in question, the plaintiff depreciated the cost of the gas necessary to completely fill the pipeline prior to operation. An equal volume of this gas, or line pack, must always be present for the pipeline to operate. The line pack is virtually unrecoverable when pipeline operations end. The Commissioner of Internal Revenue disallowed the depreciation deductions after concluding such deductions do not clearly reflect Transwestern’s income. The Commissioner recomputed Transwestern’s income by including the line pack costs in inventory. This suit eventually followed.
The Government asserts that Thor Power Tool Co. v. Commissioner, 439 U. S. 522 (1979), and related cases require that we hold for defendant. Simply stated, it is the Government’s contention that as this is an accounting problem, the Commissioner’s determination is entitled to great deference under Thor and its predecessors. E.g., Lucas *416v. American Code Co., 280 U. S. 445, 449 (1930); Brown v. Helvering, 291 U. S. 193, 203 (1934); Automobile Club of Michigan v. Commissioner, 353 U. S. 180, 189-190 (1957); American Automobile Association v. United States, 367 U. S. 687, 697-698 (1961); Schlude v. Commissioner, 372 U. S. 128, 133-134 (1963). The Government’s argument continues that while generally accepted accounting principles and regulatory accounting practices are of relevance, they are by no means dispositive of whether a taxpayer’s accounting methods clearly reflect income, as the Internal Revenue Code mandates. American Automobile Association, 367 U. S. at 690, 693; Frank Lyon Co. v. United States, 435 U. S. 561, 577 (1978); Thor, 439 U. S. at 541. See Commissioner v. Idaho Power, 418 U. S. 1, 15 (1974). The Supreme Court, the Government says, has consistently recognized that divergence occurs between tax and financial accounting when a taxpayer seeks a current deduction for future losses, e.g., Commissioner v. Hansen, 360 U. S. 446 (1959) (deduction to establish reserve for anticipated nonperformance of guaranty disallowed); Brown v. Helvering, 291 U. S. 193 (1934) (deduction to establish reserve for potential liabilities due to anticipated insurance policy cancellations disallowed); Lucas v. American Code Co., supra (deduction to establish reserve for potential liability on contested lawsuit disallowed). Divergence between tax and financial accounting also occurs, the Supreme Court has recognized, when an accrual basis taxpayer seeks to avoid current inclusion despite present receipt, e.g., American Automobile Association, supra (prepaid club dues presently includible despite financial attribution to later periods when "earned”); Schlude, supra (prepaid dance lesson fees presently includible although financial attribution proper to later years when lessons actually taught). Thus, the Government concludes, because the Commissioner has determined this line pack must be treated as inventory to clearly reflect income, and because a taxpayer’s heavy burden is not met merely by showing his method concurs with generally accepted accounting principles or regulatory accounting practices, these depreciation deductions must be disallowed under Treas. Reg. § 1.167(a)-2 (1956).
*417With this analytic framework, I have no disagreement. The issue here is whether Transwestern’s method of accounting for line pack costs (depreciation) clearly reflects income. That is an accounting question under sections 446(b) and 471 of the Code and must be dealt with as such as the primary matter. All-Steel Equipment, Inc. v. Commissioner, 467 F. 2d 1184, 1185-1186 (7th Cir. 1972). The Code provides no other framework. Nor do the cases of the Supreme Court interpreting sections 446(b) and 471 and their predecessors under the 1939 Code. To decide this case, therefore, we must look beyond a simple choice of "inventory” or "capital asset.” Instead, before reaching the characterization issue, we must recognize that deference be shown the Commissioner’s determination that Transwestern’s method of accounting does not clearly reflect income and that use of accepted financial accounting or regulatory principles, without more, will not control. The Supreme Court requires no less.
Even within this framework of deference to the Commissioner, this is a close case. Two factors, however, convince me that this taxpayer has met the heavy burden necessary to reverse a determination that a method of accounting does not clearly reflect income.
First, the plaintiff has demonstrated through expert testimony that line pack gas is essentially similar to cushion gas used to line underground reservoirs. Under Rev. Rul. 75-233, 1975-1 Cum. Bull. 95, the cost of cushion gas is to be capitalized and then depreciated; while under Rev. Rul. 68-620, 1968-2 Cum. Bull. 199, and Rev. Rul. 78-352, 1978-2 Cum. Bull. 168, the cost of line pack is not depreciable and, instead, is subject to inventory accounting. Apparently, the rate of molecular interchange between line pack gas and all gas injected afterwards is faster than the rate of molecular interchange between cushion gas and gas injected afterwards. However, the relative rates of molecular interchange are an inadequate basis on which to require radically different accounting treatments for purposes of the federal income tax. This inadequate distinction alone allows the plaintiff recovery, for it is settled law here and elsewhere that the Commissioner’s determinations must *418not be arbitrary. E.g., Morgan Guaranty Trust Co. v. United States, 218 Ct. Cl. 57, 72, 585 F. 2d 988, 997 (1978).
Second, the plaintiffs expert witnesses testified that only depreciation of the line pack cost would clearly reflect income. The Government, significantly, did not rebut this testimony with that of its own expert witnesses. Such testimony, of course, is only of limited value in determining the ultimate legal conclusion, i.e., whether a given accounting method clearly reflects income. I feel, however, that such testimony by Government experts would have more clearly explained the Commissioner’s determination that depreciation of the line pack cost is not clearly reflective of income. I view this failure as significant. Missouri Baptist Hospital v. United States, 213 Ct. Cl. 505, 515-517, 555 F. 2d 290, 296-297 (1977).
I conclude, therefore, that on these peculiar facts depreciation of the line pack cost clearly reflected Transwestern’s income for the years before us. Plaintiff is entitled to recover to the extent determined by the trial judge, plus interest at the statutory rate.