Court Opinion

ID: 4494670
Source: CourtListenerOpinion
Date Created: 2020-01-23 18:13:57.114064+00
Date Added: 2024-06-11T09:28:22.565755
License: Public Domain

*1065OPINION.
Smith:
During the years 1920 to 1923 the taxpayer’s business increased rapidly. The taxpayer dealt with customers throughout the United States. Its experience showed that a considerable percentage of accounts which had been uncollected for more than 90 days were never collected. Prior to the enactment of the Revenue Act of 1921 it was not permitted to deduct from gross income any amount set up as a reserve for bad debts. In lieu thereof it claimed in its returns the deduction from gross income of debts actually ascertained to be worthless and charged off during the taxable year. *1066When it came time for it to make up its return for the fiscal year ended September 30, 1922, the Commissioner’s Regulations 62 had. been promulgated, which permitted a taxpayer, under certain circumstances, to set up a reserve for bad debts and deduct the addition thereto from gross income. The provision of the Revenue Act of 1921 which permits a corporation taxpayer to deduct from gross income a reserve for bad debts is section 234 (a) (5), which reads as follows:
Debts ascertained to be worthless and charged off within the taxable year (or in the discretion of the Commissioner, a reasonable addition to a reserve for bad debts) ; and when satisfied that a debt is recoverable only in part, the Commissioner may allow such debt to be charged off in part.
In his answer to the taxpayer’s petition the Commissioner alleges that the deduction by the taxpayer of a reasonable addition to a reserve for bad debts is allowable only in the discretion of the Commissioner; that when a taxpayer elects to claim as a deduction an addition to a reserve for bad debts there should be set up at the beginning of the year a reserve for the doubtful accounts already contained in the accounts receivable, and the net addition to this reserve should be made during the taxable year and prior to the date of the closing of the books for that year.
The real question presented by this appeal is whether a taxj>ayer changing from the basis of claiming as a deduction from gross income debts actually ascertained to be worthless to a deduction of a reasonable addition to a reserve for bad debts may, for the year in which the change is made, deduct both debts ascertained to be worthless during the year and a reserve set up for bad debts at the close of the year. We are of the opinion that the statute does not permit such a deduction. The income tax and excess-profits tax are each computed upon the basis of a 12-month period. A return for such period must reflect the actual gains, profits, and income of such period. Manifestly, a taxpayer which claims the deduction of a greater amount for debts ascertained to be worthless than properly belongs to such year is claiming a benefit not warranted by the statute. In the instant appeal the taxpayer has elected to deduct from gross income a reasonable addition to a reserve for bad debts. We are of the opinion that it is entitled to such deduction, but not to the deduction of such an addition to a reserve for bad debts and also debts ascertained to be worthless during the year.
The evidence of record shows that for the fiscal years ended September 30, 1921 to 1923, inclusive, gross sales were $292,033.22, *1067$756,902.53, and $783,914.62, respectively. Debts ascertained to be worthless during the period total $16,157.32, or approximately .0088 per cent of gross sales. This computation does not take into .account the large increase in gross sales during the last two years of the three-year period. We think that a reserve of 1 per cent of gross sales is a reasonable addition to a reserve for bad debts for each of the fiscal years ended September 30, 1922, and September 30, 1923. Upon this method of computation the taxpayer’s bad-debt reserve at the close of each of the fiscal years ended in 1922 and 1923 would be as follows:
Tear ending Sept. 30, 1922:
Bad-debt reserve, 1 per cent of sales_§7, 669.03
Amount charged against such reserve_ 4,302.14
Balance in reserve_ 3,266. 89
Tear .ending Sept. 30, 1923:
Additions to bad-debt reserve, 1 per cent of sales_ 7, 839. IS
Total-11,106.04
Amount charged against reserve_ 8,996.76
Balance in reserve_ 2,109.28
We think, therefore, that the taxpayer is entitled to a deduction of a reasonable addition to reserve funds for the fiscal year ended September 30, 1922, of $7,569.03, and that this amount is inclusive of $4,302.14 claimed as a deduction for debts ascertained to be worthless and charged off within the year.
Order of redet&rmination will l>e entered on 10 days’ notice, under Bule 50.