*2166 RETURNS ON THE INSTALLMENT SALES BASIS - SECTION 705, REVENUE ACT OF 1928. - The petitioner filed an original return for the taxable year on the installment basis prior to February 26, 1926, changing from the accrual basis of reporting its income, and the evidence shows its income is properly to be computed on the installment basis. Held, certain inaccuracies in the computation of profits on the installment basis are immaterial since the allowable deductions exceed the gross income and there is no deficiency.
*158 This is a proceeding for the redetermination of a deficiency in income tax for 1923 determined by the respondent in the amount of $6,876.22.
The petitioner claims that its gross income should not include the unrealized profits from sales in 1923 upon its lease sale contracts.
FINDINGS OF FACT.
The petitioner is a corporation with principal office at Birmingham, Ala., and during the taxable year was engaged in the retail furniture business. The sales of the petitioner were made principally upon the*2167 installment basis, with a minor amount of sales on the cash basis.
The accounts of the petitioner have been consistently maintained on the accrual basis. The tax liability of the petitioner for 1920, 1921, and 1922 was determined by a revenue agent on the accrual basis in disregard of the petitioner's desire to report on the cash receipts and disbursements basis; the reason being given by the revenue agent that inventories were necessary in the computation of net profits. The petitioner employed a public accountant at the end of the year to close its books for 1923. The net profits from all sources were first determined upon the accrual basis, whereupon a reserve computed in the amount of $113,950.72 was set aside from the undivided profits account to reflect the amount of unrealized gross profit attributable to installment sales in 1923 which had not yet been collected.
A separate account for each installment sales customer was maintained in a ledger containing the individual accounts receivable. *159 These installment accounts reflected respectively the dates and amounts of the sales and of the various cash payments and/or other credits. In the general ledger a*2168 control account was maintained, reflecting in summary form the aggregate of the individual accounts receivable. In the general ledger separate accounts were maintained for sales and for merchandise. Sales were reduced by credits for returned sales and for discounts and allowances. The installment sales contracts provided for repossession of the merchandise in the event of failure of the customer to make the promised payments. Repossessions were made during the taxable year, in part of merchandise sold in previous years and in part of sales of the current year. All of these repossessions were accounted for upon the books by credits to the individual accounts receivable in the amounts of the balances standing open and unpaid. However, during the taxable year no merchandise repossessed was of actual value in excess of the said credits. The amounts credited to the several accounts receivable were debited to the merchandise account. At the end of the year an inventory was taken of merchandise on hand, valued on the basis of the lower of cost or market, and the total of this closing inventory was carried forward in the merchandise account while the remainder of the merchandise account*2169 was charged to profit and loss as representing the cost of goods sold.
The return filed on June 12, 1924, by the petitioner for the taxable year was its original complete return, and it agreed within 30 cents with the determination of net profits upon the books. Gross income was reported in the return as follows: gross profit from trading, $92,127.27; discounts received, $9,428.39; furniture rent, $36.70; adjusted accounts, $1,730.97; or an aggregate gross income of $103,323.33. Deductions were claimed in the return in an aggregate of $163,673.33 which included bad debts in the amount of $3,222.99, being worthless accounts reflecting sales of prior years. As a result of the excess of claimed deductions over gross income the return reported no tax liability.
The gross profit from trading was computed from the books as follows:
| Sales 1923 | $530,654.32 | |
| Cost of goods sold: | ||
| Inventory Jan. 1, 1923 | $115,164.32 | |
| Purchases | 339,164.67 | |
| 454,328.99 | ||
| Less inventory Dec. 31, 1923 | 129,752.66 | |
| 324,576.33 | ||
| Gross profit 1923 | 206,077.99 | |
| Percentage, gross profits to sales, 38.85%. | ||
| Collections of 1923 sales | $163,412.22 | |
| Cash and C.O.D. sales | 34,584.16 | |
| Subtotal | 197,996.38 | |
| Credits for repossessions | 39,139.44 | |
| 237,135.82 | ||
| Profit realized at 38.85% of $237,135.82 | 92,127.27 |
*2170 *160 The following footnote showed upon the return:
Taxes paid on all income realized and unrealized to December 31, 1922, change made January 1, 1923, to conform to regulations in re Installment Sales, as per Article 42, Regulations 62.
When the tax liability of the petitioner for the taxable year was investigated in the field by a revenue agent all of the books of account were not rendered available to him, and he recommended to the Bureau of Internal Revenue that the return be put on the accrual basis for the reason that a proper basis for the installment sales reporting had not been disclosed to him.
In determining the deficiency the respondent has computed income as follows:
| Net loss reported | $60,350.00 | |
| Additions to income: | ||
| Donations | $187.50 | |
| Capital items | 1,221.82 | |
| "Unrealized profits" | 113,950.72 | |
| 115,360.04 | ||
| Deduct error in computation | .30 | |
| Net income | 55,009.74 |
OPINION.
TRAMMELL: The evidence shows that the petitioner regularly sold furniture on the installment plan, and it is not disputed that the petitioner is entitled to the optional method of accounting for the income from its installment sales as provided in sections*2171 1208 and 212(d) of the Revenue Act of 1926, provided, however, that the books of account enable a satisfactory ascertainment of the net income upon such basis. After a consideration of the testimony, we are satisfied that the books of account afforded a foundation for a satisfactory determination of the gross profits on the installment basis. This conclusion reduces the issue to a factual redetermination of the amount of net income.
The return filed by the petitioner for the taxable year, being an "original" return, changing to the installment sales basis, and having *161 been filed prior to February 26, 1926, comes within the retroactive provisions of section 705 of the Revenue Act of 1928 which follow:
(a) If any taxpayer by an original return made prior to February 26, 1926, changed the method of reporting his net income for the taxable year 1924 or any prior taxable year to the installment basis, then, if his income for such year is properly to be computed on the installment basis -
* * *
(2) No deficiency shall be determined or found in respect of any such taxes unless the taxpayer has underpaid his taxes for such year, computed by excluding, in computing income, *2172 amounts received during such year on account of sales or other dispositions of property made in any year prior to the year in respect of which the change was made.
In view of the above statutory provisions we dismiss from consideration any amount of income realized through collections in the taxable year out of sales made in prior years the profits from which were included in income in the prior-year returns on the accrual basis.
The respondent offered some objection to the method used by the petitioner in accounting for repossessions. In computing the gross profit on installment sales for the taxable year the petitioner valued the repossessed goods through credits to the accounts of customers for the amounts of the unpaid balances; some of the goods repossessed in the taxable year were sold in a previous year. We are satisfied, however, that any errors in thus reporting repossessions were not due to the absence of basic facts obtainable from the records. The correct income was ascertainable.
These errors of the petitioner are immaterial, for if all of the repossessions, at book value, are treated entirely against the petitioner, and all of the bad debts claimed in the*2173 return are excluded from the deductions, still the allowed and undisputed deductions will exceed any amount of revised income and there would, in no event, be a deficiency in this case.
Decision will be entered of no deficiency.