*15 Decision will be entered for the respondent.
Petitioner, under section 29.22(c)-6 of Regulations 111, elected to change the basis of his return for the year 1947 from that of cash receipts and disbursements used in prior years to an inventory basis. Petitioner, a farmer, has the right to make such change without securing the formal permission of the Commissioner provided he complies with the regulations. Held, petitioner did not comply with the applicable regulations and the Commissioner is sustained in refusing to recognize his right to use an accrual basis. Kenneth S. Battelle, 9 T.C. 299">9 T. C. 299, distinguished.
*475 The Commissioner has determined a deficiency in petitioner's income tax in the amount of $ 4,409.28 for the calendar year 1947. The deficiency notice shows adjustments to net income as follows:
| Net income as disclosed by return | $ 11,959.99 | |
| Unallowable deductions and additional income: | ||
| (a) Taxes | $ 276.56 | |
| (b) Inventory adjustmemt | 17,330.69 | |
| Total | $ 17,607.25 | |
| Nontaxable income and additional deductions: | ||
| (c) Net operating loss deduction | 12,222.01 | |
| Net adjustment to income | 5,385.24 | |
| Net income as corrected | $ 17,345.23 |
Petitioner contests only one of the three adjustments as made by respondent in the deficiency notice to petitioner's net income for the taxable year, namely, adjustment (b).
Prior to 1947, petitioner, a farmer, reported his income on a cash receipts and disbursements basis, but on his tax return for*17 the year 1947, petitioner reported his income on an accrual basis. The issue here is whether petitioner, for the year 1947, may change from the cash receipts and disbursements method of reporting his income to the farm inventory method using the "farm-price" method of valuing his inventories. The Commissioner has determined the deficiency using the cash receipts method.
FINDINGS OF FACT.
Petitioner is an individual residing in Memphis, Tennessee. Petitioner's Federal income tax return for the taxable year 1947 was filed with the collector at Nashville, Tennessee.
For over 20 years petitioner has been engaged in the business of farming. Petitioner's income tax returns for the years prior to 1947 were prepared on a cash receipts and disbursements basis. Petitioner's tax returns for the years 1944, 1945, and 1946 which are in evidence indicate that during these years petitioner's income was derived almost entirely from his farming operations.
Petitioner's net income from farming as reported on the cash basis on his 1946 tax return was $ 3,826.39. This included all cash receipts and disbursements which need not be separately detailed here. They are detailed in petitioner's return*18 for 1946 which is in evidence and are incorporated herein by reference. The tax return for the year 1946 was prepared on a cash receipts and disbursements basis, excepting *476 the merchandise inventory of $ 825 at the beginning of the year and $ 250 at the end of the year. These inventories represent the merchandise on hand in the commissary or store operated by petitioner. In computing his net income for the year 1946, as reported on his tax return, petitioner did not take into account the beginning and ending inventories for cotton on hand and cattle and hogs on hand.
Petitioner prepared his income tax return for the year 1947, the taxable year before us, on an accrual basis, his cotton inventory and cattle and hog inventory at the beginning and end of the taxable year being valued according to the "farm-price" method. On his tax return for the taxable year petitioner reported net income from farming of $ 8,805.43. The items of gross income and deductions need not be separately detailed here. They are detailed in petitioner's tax return for 1947 which is in evidence and are incorporated herein by reference. Petitioner did not request permission of the Commissioner to*19 change his method of reporting income, but did include with his tax return the following statement:
Prior to the taxable year I have been filing my returns upon the cash receipts basis. Until the recent Tax Court decision in the case of Kenneth S. Battlle, [sic] 9 T. C., No. 45, September 9, 1947, I was not aware of my privilege of filing my returns on any other basis. In line with this decision, I am herewith filing my return on the inventory basis. I have kept records of my inventories for all years and have made no changes in the method of valuing the same. The inventory basis more completely reflects my income.
There is also attached, adjustment sheets as required by the regulations and as set forth in the Court decision, covering a period of three prior years. Since two of these years show overassessments in amounts greater than the tax I would owe for the prior year, it is obvious that I do not owe any prior year tax by reason of the change in my basis of accounting.
I would like also to state that the farm crops I sold in 1947 came from prior year crops. I had no inventory of cotton on hand at the end of 1947. Other than some cotton*20 remaining in the fields from the 1946 crop which had to be gathered in 1947, I had no operations from growing cotton this year. The only cotton raised in 1947 in which I had any interest was from a partnership of which I owned a one-third interest.
Petitioner attached to his 1947 income tax return adjustment sheets converting his income as reported on his tax returns to the inventory method for the years 1944, 1945, and 1946. Inventory adjustments relate to petitioner's cotton inventory and his cattle and hog inventories which were valued under the farm-price method as follows:
| Value of | |||
| Value of | cattle and | ||
| Date | cotton | hog inventory | Total |
| inventory | |||
| Dec. 31, 1947 | $ 5,800.00 | $ 5,800.00 | |
| Dec. 31, 1946 | $ 15,330.69 | 7,800.00 | 23,130.69 |
| Dec. 31, 1945 | 8,436.57 | 7,500.00 | 15,936.57 |
| Dec. 31, 1944 | 28,556.00 | 5,000.00 | 33,556.00 |
| Jan. 1, 1944 | 32,640.00 | 5,000.00 | 37,640.00 |
*477 On these adjustment sheets petitioner showed the following results:
| For 1946, corrected net income | $ 11,178.01 | |
| Tax on corrected net income above | $ 2,933.26 | |
| Less tax paid with original return | 605.00 | |
| Balance of tax due by reason of adjustment | $ 2,328.26 | |
| For 1945, corrected net income | $ (8,724.29) | |
| Tax on corrected net income above | 0 | |
| Tax paid with original return | $ 2,165.39 | |
| Overassessment | $ 2,165.39 | |
| For 1944, corrected net income | $ (1,329.02) | |
| Tax on corrected net income above | 0 | |
| Tax paid with original return | 457.00 | |
| Overassessment | $ 457.00 |
*21 In the deficiency notice respondent determined that petitioner realized additional net income by disallowing the use of farm inventories. Based on this adjustment, the amount of $ 17,330.69 was added to net income as reported by petitioner on his 1947 income tax return. The effect of this adjustment is to place petitioner on the cash basis on his farming operations and to disallow petitioner the use of farm inventories in 1947. For the year 1947, petitioner contends his income on an accrual basis is less by $ 17,330.69 ($ 23,130.69 less $ 5,800) than the amount determined by the respondent.
Petitioner filed claims for refund for the years 1944 and 1945 based on the change in method of reporting income, claiming refunds in income tax of $ 457 for 1944 and $ 2,165.39 for 1945. For the year 1946, based on additional income of $ 7,194.12 from reporting income on the accrual basis, petitioner would concede an additional tax due of $ 2,328.26. Petitioner's two claims for refund were rejected by the Commissioner.
Petitioner filed no adjustment sheet for the year 1943. The beginning merchandise inventory used on his 1944 tax return which was a cash basis return was $ 950 with no cotton*22 inventory or cattle and hog inventory being used. In petitioner's adjustment sheets and on his claim for refund petitioner used as opening inventory for the year 1944, as prepared on the accrual basis, the following:
| Merchandise inventory | $ 950 |
| Cotton inventory | 32,640 |
| Cattle and hog inventory | 5,000 |
As a result of changing from the cash receipts and disbursements basis to the accrual basis of reporting his farm income and going back to 1944, petitioner would start out with an inventory of $ 37,640 from products, the cost of producing which had been deducted in 1943.
*478 In the notice of deficiency for the taxable year 1947, respondent based his action on the following ground:
(b) It has been determined that you received deduction, through cost of goods sold, for opening inventories in an amount excessive to the extent of $ 17,330.69 and your income has been increased accordingly.
Beginning with the taxable year 1947, petitioner rented his Blue Point Farm at Hughes, Arkansas, to a partnership. In his return filed for the year 1947, petitioner reported $ 3,624.25 as his share of the partnership profits. As to this item there is no controversy.
Farm income as reported*23 by petitioner on his tax returns during the years 1944 to 1947, was as follows:
| Year | Net profit from farm |
| 1944 cash basis | $ 2,754.98 |
| 1945 cash basis | 8,444.73 |
| 1946 cash basis | 3,826.39 |
| 1947 inventory basis | 8,805.43 |
Petitioner kept his records on a cash receipts and disbursements basis with the exception of a small inventory of goods in his plantation commissary.
The expense of producing the cotton inventory of $ 15,330.69, petitioner's opening inventory of cotton for the year 1947, had been deducted as farming expenses in computing taxable income reported by petitioner for the taxable year 1946. Petitioner disposed of this cotton inventory during 1947 and his closing inventory on December 31, 1947, did not include any cotton. For the year 1947 and years prior thereto, petitioner did not regularly keep inventories of cotton. The inventories of cotton were determined from sources other than actual physical counts, namely, gin tickets or records of cotton ginned and sales invoices.
OPINION.
Respondent has determined a deficiency against petitioner for the taxable year 1947. Petitioner contends that the years 1944 and 1945 are also in issue, respondent having denied petitioner's*24 claims for refund for the years 1944 and 1945. We have no jurisdiction to grant refunds for 1944 and 1945 because the Commissioner has not determined a deficiency in those years. Section 272, I. R. C.
The only issue here is whether petitioner, beginning with the calendar year 1947, may change from the cash receipts and disbursements method of reporting his income to the farm inventory method without securing the formal permission of the Commissioner to do so.
The petitioner relies upon section 22 (c) and section 41 of the Internal Revenue Code and the corresponding section of Regulations *479 111. Applicable provisions of the Code and regulations are set forth in the margin. 1
*25 On his 1947 income tax return petitioner elected to avail himself of option 1 of the regulations and computed the amount of his net farm profit using inventory values. 2 Petitioner's farm inventory values on hand were $ 23,130.69 at the beginning of 1947 and $ 5,800 at the end of the taxable year. For each of the years preceding the taxable year petitioner's income tax returns were prepared on a cash basis, that is to say, that the amount of farm net profits was computed for each year without using inventory values. As a result of reporting income in this manner, petitioner had already deducted in preceding years the expenses incurred in producing the $ 23,130.69 farm inventory on hand at the beginning of the taxable year. To this extent petitioner's 1947 accrual basis tax return is inconsistent with petitioner's cash basis tax returns for years preceding the taxable year.
*26 Section 29.22 (c)-6 of Regulations 111 is particularly concerned with this inconsistency. This section of the regulations provides two options to a farmer such as the petitioner who seeks to change from the cash basis to the accrual basis and who has an inventory of *480 farm products on hand at the beginning of the year of change. Petitioner elected option 1, printed in the margin.
Adjustment sheets are required of the farmer changing his basis under option 1, the option chosen by petitioner. Petitioner has not fully complied with option 1. As provided therein, he used in 1947, the year of change, his actual opening and closing inventories, and also in his opening inventory he included all farm products (including livestock) whether purchased or raised. This was all right so far as it went. But petitioner failed to comply with the additional requirement of option 1, that the farmer must submit,
* * * with the return for the current taxable year an adjustment sheet for the preceding taxable year based on the inventory method, upon the amount of which adjustment the tax shall be assessed and paid (if any be due) at the rate of tax in effect for that year. * * *27 * [Emphasis added.]
When a taxpayer has filed his return and otherwise complied with the aforesaid requirements of the regulations he has completed the first step in changing his basis of reporting income. After this first step is completed, the Commissioner then must decide whether the adjustment sheet for one year is sufficient to reflect income clearly and if the adjustment sheet for one year is not sufficient to reflect income clearly, adjustments for earlier years may be accepted or required.
Petitioner has not complied with the very first step of the regulations which is when petitioner filed his return for the current taxable year on an accrual basis he must file an adjustment sheet for the prior year, which adjustment sheet shall also be on an accrual basis, and pay the tax shown to be due thereon. Petitioner filed his adjustment sheet for 1946 all right and so far as we can see it was correctly prepared. It showed an additional tax due of $ 2,328.36. Petitioner did not pay this amount as the regulations require but instead filed adjustment sheets for 1944 and 1945, the net result of which was to show that the Government owed him instead of his owing the Government $ *28 2,328.36 as shown by his adjustment sheet for 1946. This, it seems to us, is plainly not in compliance with the regulations. The adjustment sheets filed by petitioner reflect the following:
| Year | Deficiency | Overpayments |
| 1946 | $ 2,328.36 | |
| 1945 | $ 2,165.39 | |
| 1944 | 457.00 | |
| Total | $ 2,328.36 | $ 2,622.39 |
| Net overpayment for three years | $ 294.03 |
Since petitioner failed to follow the procedure outlined in the regulations, he is not entitled in 1947 to change his method of reporting income. Respondent did not err in using the cash basis method of computing petitioner's net income for 1947, the same method used by *481 petitioner in computing the amount of net income reported by him during the taxable years preceding 1947. When the petitioner complies with the applicable regulations he has the right to make the change without securing the formal permission of the Commissioner. Until he does comply with the regulations he has no authority to make such a change.
In support of what he has done petitioner relies upon Kenneth S. Battelle, 9 T.C. 299">9 T. C. 299. In our opinion the Battelle case is distinguishable on its facts. If the interpretation*29 of the regulations which is involved here was present in that case it was not raised as an issue nor discussed by us in our opinion. In that case we said:
The respondent does not challenge the fact that the petitioner's return clearly and properly reflects his income, nor does he even suggest that the petitioner did not follow precisely respondent's regulations which set forth the mode and mechanics of the change from a cash basis. * * *
As we have already pointed out such is not the situation here. Petitioner, in our opinion, did not follow the regulations required of him when he undertook to change over from a cash basis to an accrual basis. Until he does do so he cannot make the change.
Respondent's determination that petitioner's net income for the year 1947 must be computed on the same basis as was used by petitioner in preceding years, that is, without using farm inventories is, therefore, sustained.
Decision will be entered for the respondent.
Footnotes
1. SEC. 22. GROSS INCOME.
(c) Inventories. -- Whenever in the opinion of the Commissioner the use of inventories is necessary in order clearly to determine the income of any taxpayer, inventories shall be taken by such taxpayer upon such basis as the Commissioner, with the approval of the Secretary, may prescribe as conforming as nearly as may be to the best accounting practice in the trade or business and as most clearly reflecting the income.
SEC. 41. GENERAL RULE.
The net income shall be computed upon the basis of the taxpayer's annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer; but if no such method of accounting has been so employed, or if the method employed does not clearly reflect the income, the computation shall be made in accordance with such method as in the opinion of the Commissioner does clearly reflect the income. * * *
Regulations 111.
Sec. 29.22 (c)-6. -- Inventories of Livestock Raisers and Other Farmers. -- Farmers may change the basis of their returns from that of receipts and disbursements to that of an inventory basis provided adjustments are made in accordance with one of the two methods outlined in (1) and (2) below. It is optional with the taxpayer which method is used, but, having elected one method, the option so exercised will be binding upon the taxpayer for the year for which the option is exercised and for subsequent years unless another method be authorized by the Commissioner.
(1) Opening and closing inventories shall be used for the year in which the change is made. There should be included in the opening inventory all farm products (including livestock) purchased or raised which were on hand at the date of the inventory, and there must be submitted with the return for the current taxable year an adjustment sheet for the preceding taxable year based on the inventory method, upon the amount of which adjustment the tax shall be assessed and paid (if any be due) at the rate of tax in effect for that year. Ordinarily an adjustment sheet for the preceding year will be sufficient, but if, in the opinion of the Commissioner, such adjustment is not sufficient clearly to reflect income, adjustments for earlier years may be accepted or required. If it is impossible to render complete inventories for the preceding year or years, the Commissioner will accept estimates which, in his opinion, substantially reflect the income on the inventory basis for such preceding year or years; but inventories must not include real estate, buildings, permanent improvements, or any other assets subject to depreciation.↩
2. Petitioner used the "farm-price method" of valuing his inventories, which method is defined in Treasury Regulations 111↩, section 29.22 (c)-6, and need not be repeated here.