*262 Decisions will be entered under Rule 50.
1. Petitioners operated a farm during the years in issue and bred high quality Herefords for sale to other breeders for use as breeding stock. Petitioners' herd was separated into two groups -- animals which were held for sale to other breeders in the ordinary course of petitioners' business and animals which were held for breeding purposes. A number of the latter group were sold in unusual circumstances during the years in issue. Held, animals held for breeding purposes are property used in a trade or business and gains from their disposition are capital gains under section 117 (j) (1), 1939 Code.
2. Petitioners elected to determine their income from farming operations according to the accrual method of accounting. Held, this Court may not adjust the method used by petitioners to determine their income so as to give benefits that might have accrued to a petitioner on the cash basis.
*691 This proceeding presents two questions: Whether the gains realized by petitioners from the sales of certain registered Hereford cattle during the taxable years 1944 through 1950 are taxable as ordinary income or as long-term capital gains, and the determination of the proper construction of section 29.22 (a)-7 of Regulations 111 which specifies the methods for determining farm income. The latter question involves only the years 1948, 1949, and 1950.
The deficiencies claimed are as follows:
| Year | Deficiency |
| 1944 | $ 5,106.08 |
| 1945 | 50,393.26 |
| 1946 | 10,539.64 |
| 1947 | 9,663.74 |
| 1948 | $ 1,656.58 |
| 1949 | 427.74 |
| 1950 | 37,977.20 |
| $ 115,764.24 |
The deficiencies result, in major part, because the respondent*264 claims that gains from the sales of cattle reported by the petitioners as capital gain should have been reported as ordinary income. Other adjustments in the petitioners' income which resulted in deficiencies have not been contested in the petition or have been conceded by respondent.
FINDINGS OF FACT.
The facts which have been stipulated are incorporated by this reference.
C. A. Smith was the original petitioner for the years 1944 to 1947, inclusive, and the joint petitioner with his wife, Lula T. Smith, for the years 1948 to 1950, inclusive. C. A. Smith died on October 13, 1953, and the Estate of C. A. Smith, deceased, C. A. Smith, Jr., and Lula T. Smith, Executors, were substituted as parties in interest. Lula T. Smith is the surviving spouse of C. A. Smith who is hereinafter sometimes referred to as the decedent.Income tax returns of the petitioners for the calendar years 1944 through 1950 were filed with the collector of internal revenue for the collection district of West Virginia, at Parkersburg, West Virginia. Separate petitions involving the years 1944 and 1945, the years 1946 and 1947, and the years 1948, 1949, and 1950 were consolidated for hearing and opinion.
C. *265 A. Smith was, at all times herein material, the owner and operator of a farm of approximately 3,800 acres located near Chester, West Virginia, and known as Hillcrest Farms. The principal sources of income from the farming operations were from the sale of apples and Hereford cattle.
*692 In 1918, the decedent began the development of a herd of Hereford cattle at Hillcrest Farms. The Hereford is a "beef" or "meat" breed, but Hillcrest was devoted to the development of animals for sale to other breeders, and not for slaughter. The decedent continually tried to develop and improve the quality of his breeding herd and sold its offspring to other breeders. His herd eventually developed into one of the outstanding Hereford herds in the country.
During each of the years 1944 through 1950, decedent engaged in the further development of his herd. Some of the calves born on the farm were raised and retained as breeding cattle. Most of the animals born on the farm were sold principally to other breeders.
From time to time, decedent also purchased cattle for incorporation in his breeding herd in order to avoid breeding closely related animals and to introduce new bloodlines to improve*266 the quality of his herd.
The decedent and his spouse reported their income upon the accrual basis of accounting. The farm livestock was inventoried at the beginning of each calendar year.
The Hereford herd was inventoried by age and sex groups and, except for exceptional animals, those of the same sex in any particular age group were assigned the same inventory value. Exceptional animals were assigned higher values based upon the degree of perfection of each animal. These inventory values were used as the basis for determining gains from the sale of cattle. In computing his gains, decedent subtracted the inventory value of the cattle sold each year from the total opening inventory of all cattle on the farm at the beginning of that year.
The number of animals in Hillcrest Farms' entire herd as of the beginning and end of each year involved, with the additions to and the dispositions from the herd, are as follows:
| Year | Beginning | Births | Purchases | Sales to | Other | Ending |
| number | breeders | disposition | number | |||
| 1944 | 428 | 163 | 105 1/2 | 38 | 447 1/2 | |
| 1945 | 447 1/2 | 168 | 53 | 141 | 111 | 416 1/2 |
| 1946 | 416 1/2 | 161 | 89 1/2 | 56 | 432 | |
| 1947 | 432 | 215 | 114 | 72 | 461 | |
| 1948 | 461 | 188 | 3 | 116 1 | 66 | 470 |
| 1949 | 470 | 187 | 13 | 67 | 53 | 550 |
| 1950 | 550 | 199 | 3 | 180 1/2 | 98 | 473 1/2 |
Fractional interests resulted when a partial interest in an animal was sold. "Other Dispositions" were occasioned by the death of animals and the sale of injured or defective animals for slaughter. Animals eliminated from the herd for these reasons are not involved in this proceeding.
*693 For the calendar year 1944, the decedent upon his original income tax return treated the gain from his sales of Hereford cattle to other breeders as ordinary income.
In an amended income tax return filed for the calendar year 1944, and in returns filed for the succeeding calendar years 1945 through 1950, the decedent treated his sales to other breeders of Hereford cattle which were held for more than 6 months as sales of property which produced capital gains or losses.
The petitioners now claim that the gains from the sale of only the following animals sold during the period 1944 through 1950 to other breeders are entitled to capital gains treatment.
| Number of animals | |||||
| Year | Inventory | Total sale | Net gain | ||
| basis | price | ||||
| Bulls | Females | ||||
| 1944 | 2 | 20 | $ 7,500 | $ 16,560.00 | $ 9,060.00 |
| 1945 | 3 | 46 | 13,900 | 100,878.20 | 86,978.20 |
| 1946 | 1 1/2 | 19 | 5,900 | 16,190.00 | 10,290.00 |
| 1947 | 5 | 5 | 12,850 | 21,703.00 | 8,853.00 |
| 1948 | 7 | 6 | 35,350 | 41,746.19 | 6,396.19 |
| 1949 | 1 | 4 | 9,750 | 17,515.30 | 7,765.30 |
| 1950 | 7 1/2 | 44 | 83,700 | 202,189.88 | 118,489.88 |
| 27 | 144 |
*268 From the establishment of the breeding activities at Hillcrest Farms in 1918 through each of the years here involved, the Hereford herd was physically separated into two groups. One of these was the "breeding herd"; the other was the "sale herd." Such separation is the customary practice among the better managed Hereford herds maintained in this country.
Animals incorporated in the breeding herd were selected when they were calves. The selection of a particular calf for incorporation in the breeding herd was made by the cattle superintendent and was based on his appraisal of the quality of the animal. All calves born on the farm to animals in the breeding herd were examined by the cattle superintendent within a few days after birth. Exceptional calves, along with their dams, were removed shortly after birth to barns, where they would receive special care, including additional milk from one of the Holsteins maintained by the farm for suckling. Other calves were not removed until they were weaning -- usually occurring at the age of 8 or 9 months. At this time, the cattle superintendent would make a final selection of the calves to be incorporated into the breeding herd.
Approximately*269 one-half of the calves born to the herd in any one year were bull calves. Only exceptional bull calves were added to the breeding herd because the number that could be used was limited. Usually, 2 to 5 bull calves would be added to the breeding herd each year. Approximately 50 to 70 per cent of the heifer calves born yearly to the herd would be added to the breeding herd.
*694 The breeding herd and the sale herd were distinguishable in the following particulars:
(a) The two herds were physically segregated in separate pastures and barns and were not permitted to intermingle. Records were kept, by tattoo numbers, so that it could be determined which animals were in each group.
(b) The animals in the breeding herd were given preferred feeding and treatment.
(c) The animals in the breeding herd were either used or intended to be used to produce calves at Hillcrest Farms whereas no such use was intended for the animals in the sale herd.
(d) The animals in the breeding herd were not held out for sale to other breeders and were sold only under unusual circumstances and then only with the specific permission of the decedent. On the other hand, the animals in the sale herd were *270 available for purchase at the farm at any time without the knowledge or permission of the decedent. The sale of animals in the sale herd to other breeders was a regular part of the business of Hillcrest Farms.
(e) The animals in the breeding herd were superior in quality to the animals in the sale herd and included all of the animals used for exhibition at the various shows sponsored by Hereford associations throughout the United States.
Most of the animals born and raised on the farm were registered with the American Hereford Association by the time they were 6 months old, and detailed card files were maintained for all registered cattle showing their registration numbers, age, production record, and other pertinent data for identification. Registration fees increase with the age of the animal. Before an animal is 6 months old, it can be registered for $ 1; between 6 and 12 months, the fee is $ 2. The fee continues to increase for registration between 12 and 18 months and again between 18 and 24 months of age. Animals cannot be registered after they have passed the age of 24 months.
Under the rules of the American Hereford Association, a male Hereford may not be used for breeding*271 purposes until he has attained the age of 12 months. A female animal may not be bred until she has attained the age of 15 months. The association enforces these restrictions by refusing to register calves sired by bulls which were less than 12 months old at the time of breeding or calves born to cows which are less than 24 months of age. Hillcrest Farms followed the practice of breeding its heifers after approximately 18 months of age in the belief that stronger and better calves were thus obtained. Hillcrest Farms first used its bulls at ages of from 16 to 24 months, depending upon the animal's status in the show herd.
Hillcrest had a number of bulls at all times which were actively used for breeding purposes. These animals were the "main herd sires." *695 A bull at Hillcrest Farms would usually service from 70 to 75 heifers or cows a year. About 60 per cent of these breedings successfully resulted in calves. In order to service his herd of female animals, except for the year 1950, the decedent required from 10 to 15 herd bulls.
Hillcrest also had a number of outstanding bulls that were held in reserve in the event that one of the main herd sires was injured or became*272 sterile or otherwise became unsatisfactory as a breeder. These bulls were known as "reserve bulls."
Decedent also had a number of very prominent bull calves which had not attained the age preferred by him for first use as breeders. These animals were being held as prospective future herd sires and were known as "junior herd bulls."
Some of the outstanding young animals on the farm were used for exhibition purposes and entered in competition at various cattle exhibitions to bring publicity to the herd and to the kind and quality of animals that were available at the farm. During an animal's stay in the show string, he was seldom used for breeding purposes because such use interfered with the proper conditioning of the animal for show purposes.
Prior to 1947 the Hillcrest Farms herd was known principally for its outstanding female Herefords. The farm had not produced outstanding breeding bulls. Beginning in 1947 when a junior herd sire, H. C. Larry Domino 12th, won the grand championship at the International Show at Chicago, Illinois, the farm began producing both outstanding male and female animals. Thereafter, many outstanding bulls were produced at Hillcrest Farms.
During the*273 years 1944 to 1949 Hillcrest Farms followed the practice of "hand" breeding, i. e., the females were brought to a bull for natural breeding. The farm also "pasture bred," i. e., a bull was turned into a pasture with a small number of females. In 1950, Hillcrest Farms changed to breeding by artificial insemination and fewer bulls thereafter were required to service its herd.
To improve its quality, the breeding herd maintained by the decedent was continually culled. Less desirable animals were eliminated and younger, more desirable animals added to the herd. Animals culled from the breeding herd were transferred to the sale herd and made available for immediate sale.
The particular animals which are involved in this proceeding are the following:
On September 15, 1944, the decedent consigned 14 heifers to the exhibition and sale conducted by the Tri-State Hereford Association at Pittsburgh, Pennsylvania. They ranged in age from 11 to 29 months and were inventoried at $ 4,800 and sold for $ 8,860. Of the 14 animals sold, 13 were bred and 1 had not yet attained breeding age. *696 The older animals in the group were in an advanced stage of pregnancy, having been bred at approximately*274 18 months of age.
The decedent also consigned one bull (Hillcrest Domino 202nd) to the Pittsburgh exhibition and sale in September 1944. This animal was 22 months old at the time of the sale. He was inventoried at $ 500 and was sold for $ 1,625. He was one of the show animals in the Hillcrest show string during 1944 and he was the top male animal on the farm by a herd bull with a bloodline different from the other bulls in service at the farm. He had not been used for breeding purposes at the time of his disposition because of the decedent's practice of not using animals in the show string for breeding purposes until the show period of the animal was completed.
All of the animals consigned to the Pittsburgh exhibition and sale were selected by a committee of the Tri-State Hereford Association and were picked from the decedent's segregated breeding herd. All of the heifers that had been bred were bred in the regular operation of Hillcrest Farms to produce calves at the farm.
The animals consigned were of superior quality and most of them were in the Hillcrest Farms 1944 show string but could not be exhibited due to wartime travel restrictions. The bull sold at the sale was intended*275 to be used for breeding purposes following his stay in the show string. None of the animals had previously been offered for sale.
During each of the years involved in this proceeding, the decedent consigned animals to the West Virginia Hereford Association exhibitions at Jackson Mills, West Virginia, and Charles Town, West Virginia. One of the conditions of exhibiting animals at these shows was the requirement that the consignor permit sale of his animals after the exhibition.
The West Virginia Hereford Association exhibitions and sales are widely attended by Hereford breeders from West Virginia, Virginia, North Carolina, Tennessee, Kentucky, Ohio, and Pennsylvania. In order to win the top awards and for the further purpose of obtaining the top price or near the top price at the sale, the decedent customarily consigned a few of his outstanding breeding animals to these shows. The advertising incident to the consignment of top breeding animals to these exhibitions and sales promoted the sale of the Hereford animals held by decedent for sale to other breeders in the ordinary course of his business.
The animals consigned to the West Virginia Hereford Association exhibitions were *276 selected by a committee from the association and the selection approved by the decedent. All of the animals selected for these exhibitions came from the segregated breeding herd of Hillcrest Farms and they had not been offered for sale prior to their selection for exhibition. The heifers which were already bred when *697 selected for exhibiting had been bred at the farm for the production of calves at the farm. Except for their disposition at the West Virginia Hereford Association sales, they would have remained as part of the breeding herd. One heifer consigned during 1945 was in the 1945 farm show string.
The following table shows the number, the age, whether bred or open, inventory value, and sale price of the heifers consigned to the West Virgina Hereford Association exhibitions during the years in issue:
| JACKSON MILLS, W. VA., EXHIBITIONS AND SALES | ||||||
| Year | Number of animals | |||||
| Number of | Age of animals | Inventory | Sale price 1 | |||
| animals | value | |||||
| Bred | Open | |||||
| 1944 | 6 | 13-22 mos | 4 | 2 | $ 1,800 | $ 4,275.00 |
| 1945 | 5 | 21-27 mos | 5 | 0 | 1,700 | 5,610.00 |
| 1946 | 5 | 17-26 mos | 5 | 0 | 1,500 | 5,790.00 |
| 1947 | 2 | 22-24 mos | 2 | 0 | 2,900 | 4,944.00 |
| 1948 | 2 | 21 mos | 2 | 0 | 850 | 4,926.19 |
| 1949 | 2 | 23 mos | 2 | 0 | 2,250 | 2,928.63 |
| 1950 | 2 | 23 mos | 2 | 0 | 4,500 | 4,864.88 |
| CHARLES TOWN, W. VA., EXHIBITIONS AND SALES | ||||||
| 1945 | 3 | 22-25 mos | 3 | 0 | $ 900 | $ 2,058.20 |
| 1947 | 1 | 20 mos | 1 | 0 | 800 | 980.00 |
In 1944 the decedent consigned one bull (Hillcrest Domino 234th) to Jackson Mills. This animal was inventoried at $ 400 and was sold for $ 1,800. He was 22 months old when sold and was never offered for sale prior to exhibition. He was one of the show animals in the Hillcrest Farms show string and for that reason had not been used for breeding purposes prior to his sale.
In 1945, the decedent consigned one bull (H. C. Mixer Domino 9th) to the autumn Jackson Mills exhibition. This animal was inventoried at $ 400 and was sold for $ 1,485. The particular animal was one of the show animals in the Hillcrest barns during 1945. He was 24 months old when he was sold. He had not been used for breeding purposes prior to his sale.
On October 17, 1947, the decedent sold a bull (H. C. Royal Star 39th) at the West Virginia Hereford Association show and sale at Jackson Mills, West Virginia, for a price of $ 3,062. This animal was included in inventory at $ 250 and had not previously been offered for sale.
On October 31, 1945, the decedent conducted an auction at Hillcrest Farms at which he disposed of 2 bulls and 38 heifers from the breeding herd. This was the*278 first farm sale held by the decedent since the founding of the herd in 1918. The sale was suggested by a representative *698 of the American Hereford Association as a medium to publicize the Hereford breed in the eastern part of the United States.
Of the 38 heifers sold at the Hillcrest Farms sale of October 31, 1945, 27 were bred when sold and 11 animals had not been bred. 2 The inventory cost of these animals was $ 10,500 and they were sold for $ 85,150. All of the animals had been raised by the decedent and they ranged in age from 10 months to 32 months.
The two bulls were sold from the breeding herd at the Hillcrest Farms sale of October 31, 1945. One (H. C. Axtell 3rd) was actively shown at various exhibitions and was the winner in his class at the Ohio State Fair in 1945. Decedent had offers for the purchase of this animal at the Ohio State Fair but refused to sell. He was 15 months old, was inventoried at $ 200, and was sold for $ 5,000. *279 The other bull (H. C. Larry Domino 7th) was also in the farm show string during 1945. He was 11 months old, was inventoried at $ 200, and was sold for $ 1,575. Neither animal had been used for breeding purposes because of his youth and the fact that he was in the show string.
All of the 38 heifers and the 2 bulls hereinbefore referred to as sold at the Hillcrest Farms sale of October 31, 1945, were selected by a representative of the American Hereford Association from the decedent's breeding herd and the selection approved by the decedent. The sales catalog for the farm sale was also prepared by the representative of the Hereford Association. None of the animals had previously been offered for sale. The heifers that were bred when sold had been bred in the regular operation of Hillcrest Farms to produce calves and were animals of superior quality, including some of the outstanding young females at the farm.
On September 25, 1946, the decedent sold a one-half interest in a bull (Jr. Axtell 4th) which he had purchased on June 30, 1943, as a calf. The inventory value of the animal for the one-half interest was $ 200 and the one-half interest was sold for $ 900. This animal was*280 purchased by the decedent to introduce new blood in the herd. Except for the disposition of a one-half interest in this animal at a previous date, the animal had not been offered for sale. This bull was held in the segregated breeding herd and the decedent intended him to be used for breeding purposes, but the bull failed to develop according to expectations and was never actually used for breeding purposes. Thus, he was eliminated from the breeding herd and sold after having been held for 38 months.
On March 29, 1946, the decedent sold a bull (H. C. Woodford 1st) for export to South America. This animal was inventoried at a cost of $ 1,000 and was sold for $ 2,500. He was one of the show animals at Hillcrest Farms and had not been used for breeding purposes for this *699 reason. He was sold at the urging of the secretary of the American Hereford Association in order to promote the Hereford breed in South America. The animal was held in the segregated breeding herd of the decedent, had not previously been offered for sale, and was intended to be used for breeding purposes at Hillcrest Farms. He was 20 months old when sold.
During 1946, the decedent sold 14 heifers which*281 were eliminations from the breeding herd. These 14 animals, ranging in age from 15 to 23 months, were inventoried at a total cost of $ 3,200 and were sold for $ 7,000. Of the 14, 11 were bred when sold and 3 were not bred. All of the heifers in this group were held in the segregated breeding herd of the decedent prior to their transfer to the sale herd and those that were with calf had been bred in the ordinary course of operations of Hillcrest Farms to produce calves. These animals were eliminated from the breeding herd due to the availability of better and more promising replacements.
On April 26, 1947, the decedent sold a bull (Royal Star) which he had purchased as a calf for a price of $ 1,000. This animal was included in inventory at a value of $ 4,000. He was in the segregated breeding herd before his disposition and had been actively used as a herd bull, and had descendants in the Hillcrest Farms herd. The decedent held this animal 45 months.
On September 30, 1947, the decedent sold a bull (H. C. Larry Domino 30th) for a price of $ 6,500. This animal was included in inventory at a value of $ 2,000 and was 15 months of age when sold. He was in the 1947 show string and*282 had not been used for breeding purposes prior to his disposition for this reason. He was reserve champion at one of the West Virginia exhibitions in 1947. He had not been offered for sale prior to his disposition in 1947.
On November 13, 1947, the decedent sold a bull (H. C. Larry Domino 17th) for $ 2,000. This animal was 19 months of age when sold and was included in inventory at $ 400. He was from the segregated breeding herd and had been used for breeding purposes. The animal has descendants in the Hillcrest Farms herd and was not offered for sale previous to his disposition in 1947.
On September 6, 1947, the decedent sold a bull (Hillcrest Domino 241st) for $ 250. This animal was included in inventory at $ 1,000. He was from the segregated breeding herd of the decedent and had been used for breeding purposes. He was 55 months old when sold. He has descendants in the Hillcrest Farms herd and had not been offered for sale prior to his disposition in 1947.
On December 15, 1947, the decedent sold a heifer (Hillcrest Belle 14th) at the Eastern National Sale, Baltimore, Maryland, for $ 1,967. She was inventoried at $ 1,000. She was 23 months old when sold and had been bred.
*283 *700 On December 23, 1947, the decedent sold a young heifer (H. C. Woodford Lady 23rd) to Highfield Farms of Cockeysville, Maryland. She was 19 months old and was bred when sold; her inventory value was $ 500 and she was sold for $ 1,000. This animal was sold because Highfield Farms agreed to purchase 2 bulls from the sale herd upon condition that it be permitted also to purchase 1 female out of the breeding herd which had been bred to 1 of the main herd sires. To effect the sale of the 2 bulls from the sale herd, the decedent consented to the disposition of the heifer from his breeding herd. The animal was bred in the ordinary course of the operation of Hillcrest Farms to produce calves and she was of superior quality and had not previously been offered for sale.
On December 9, 1948, decedent sold a show heifer (H. C. Blanche Axtell 44th), age 26 months, at the Eastern National Sale at Baltimore, Maryland. The inventory value of this animal was $ 1,000 and it was sold for $ 2,570. She was bred and she was selected for the exhibition from the segregated breeding herd. She was one of the outstanding animals in the 1948 show string, and was an outstanding female at the Eastern*284 National Show. She had been bred in the regular operation of Hillcrest Farms to produce calves and had not been offered for sale prior to disposition at Baltimore in 1948.
On April 12, 1948, the decedent sold a bull (Hillcrest Supreme) for $ 750. This animal was inventoried at $ 300. He had been one of Hillcrest Farms herd sires, was in the segregated breeding herd prior to his disposition, and had been actively used by the decedent for breeding purposes. He was 107 months old at the time of disposition.
On May 7, 1948, the decedent sold a bull calf (Hillcrest Larry 7th), aged 9 months, for a price of $ 12,000, to Myrin Hereford Farms, Audubon, Pennsylvania. This animal was inventoried at $ 10,000. He was one of the top young animals at Hillcrest Farms in 1948 and was held in the segregated breeding herd. He had not been used for breeding purposes prior to his disposition because of his youth but he was being held by the decedent for use as a prospective herd sire. He had not previously been offered for sale.
At the time of the sale of the foregoing bull calf, the purchaser was permitted to buy 2 good females to go with the bull to aid the development of his herd. These heifers*285 were inventoried at a cost of $ 1,700 and were sold for $ 3,000. One animal was aged 11 months and the other 19 months when sold; the older was bred when sold. At the time of their disposition, these 2 animals were part of the segregated breeding herd, they were among the better young females at the farm, neither had been offered for sale at a previous date, and both animals were being held for the production of calves at Hillcrest Farms.
On September 23, 1948, the decedent sold a bull (Woodford's Return) for $ 2,000. This animal was inventoried at $ 6,000. He was 74 *701 months old at the time of sale. He was one of the main herd sires at Hillcrest Farms and had been actively used as a breeder by decedent. Prior to his disposition, he was among the animals in the segregated breeding herd of the decedent.
On February 12, 1948, the decedent sold an 8-month-old bull calf (H. C. Larry Domino 62nd) for $ 1,500. This animal was inventoried at $ 2,000. He was among the segregated breeding herd of the decedent and had not been used for breeding purposes because of his youth, although it was the intention of decedent to use him for such purpose.
On January 5, 1948, the decedent*286 sold a bull (Real Silver Domino) which he had purchased as a calf. This animal was 18 months of age when sold. He was sold for $ 5,000. His inventory value was $ 8,000. This animal had not been used for breeding purposes by the decedent because he had not developed to the requirements of Hillcrest Farms. He was an elimination from the breeding herd.
On January 30, 1948, the decedent sold a bull (H. C. Larry Domino 32nd) to the Agricultural College of Purdue University. The inventory value of this animal was $ 2,500 and the animal was sold for $ 5,000. He was sold to obtain the publicity connected with the maintenance of a Hillcrest animal at the agricultural department of a large college. He had not previously been offered for sale, and he was one of the outstanding young male animals in the breeding herd at the time of his sale. He was 16 months old when sold and, although he had not been used for breeding purposes prior to his sale, he was being held by decedent for future use as a breeder.
On January 15, 1948, the decedent sold a bull calf (H. C. Larry Domino 54th), age 8 months, and a heifer, age 21 months, to the Agricultural Department of Michigan State College. The*287 bull calf was inventoried at $ 2,500 and was sold for $ 4,000. The heifer had been purchased by the decedent as a calf and was bred when sold. She was inventoried at $ 500 and was sold for $ 1,000. Both of these animals were sold to obtain the publicity connected with the maintenance of Hillcrest animals in the herd of large agricultural colleges. At the time of their sale, both animals were in the segregated breeding herd. The heifer had been bred in the ordinary course of the operation of Hillcrest Farms for the production of calves, and the bull, although too young to be used for breeding purposes, was being held by decedent with the intention to use him for breeding. Neither animal had previously been available for purchase and both were of superior quality.
In 1949 the decedent sold 2 heifers and 1 bull (Beau Supreme) at the sales following the Chicago International Exhibition at Chicago, Illinois. The heifers were inventoried at $ 5,500 and were sold for $ 13,121.67. The bull had been purchased by the decedent as a calf, *702 was inventoried at $ 2,000, and was sold for $ 1,465. Both heifers were bred when sold.
The 2 heifers sold at Chicago were in the string *288 of show animals. One of them (H. C. Belle Larry 73rd) was reserve champion as a calf at the International Exhibition and the other animal was near the top of its class at the same show. They were 25 and 31 months of age when sold and both were from the segregated breeding herd. Neither animal had at any time previously been available for purchase and both animals had been bred in the regular operation of the Hillcrest Farms to produce calves at the farm. Although 1 of the animals was 31 months of age when sold and ordinarily would have calved at that age, she had not because she had been bred so that she would not calf before her show period was completed. Except for this consideration, the heifers in the show string were bred about the same time as the other female animals.
The bull sold at the Chicago International Sale in 1949 was 31 months of age and he had been used by decedent for breeding purposes, and has descendants in the Hillcrest herd. Prior to his disposition, he was in the segregated breeding herd. He had not previously been offered for sale and was held by the decedent for use as a breeder.
On January 24, 1950, the decedent sold a bull (Hillcrest Larry 20th) for*289 $ 3,500. This animal was 20 months of age and was inventoried at $ 3,200. He was from the segregated breeding herd, had been used by the decedent as a breeder, and has descendants in the Hillcrest herd. He was not previously offered for sale.
On January 10, 1950, the decedent sold a bull (H. C. Larry Domino 92nd) for $ 4,000. This animal was 20 months of age and was inventoried at $ 3,500. He was in the breeding herd prior to his disposition. He had been used for breeding purposes, has descendants in the Hillcrest Farms herd, was of superior quality, and until his disposition in 1950 was not offered for sale.
On January 5, 1950, the decedent sold a bull (H. C. Larry Domino 80th) for $ 3,000. This animal was 24 months of age and was inventoried at $ 2,500. He was held in the breeding herd prior to disposition. He had been used for breeding purposes and has descendants in the herd.
On December 26, 1950, the decedent sold a bull (H. C. Larry Domino 87th) to E. C. McCormick of Akron, Ohio. This animal was 31 months of age, he was inventoried at $ 10,000, and was sold for $ 10,400. Prior to his disposition, he was in the segregated breeding herd of decedent and was one of the*290 animals among the show string. He had not previously been offered for sale. He had not been used for breeding purposes because he was in the show string. Except for his disposition in 1950, decedent intended the use of this animal as one of his herd sires. The animal was sold for the advertising value that was *703 expected to accrue to the Hillcrest herd from using this bull as a main herd sire in an outstanding herd.
On November 7, 1950, the decedent conducted an auction at Hillcrest Farms at which he sold 18 bulls and bull calves and a one-half interest in 1 outstanding bull (Hillcrest Larry 4th) and 31 heifers. This sale and the sale held on October 31, 1945, were the only auctions conducted by the decedent. He had concluded that the 1945 sale had been of considerable value in publicizing his herd and in increasing the value of the animals in his sale herd. The 1950 sale was held to further these objectives.
The following table shows the number and sex, the age, whether bred or open, the inventory value, and sale price of the animals included in the auction which were taken from the breeding herd at Hillcrest:
| Number of animals | |||||
| Inventory | |||||
| Age of animals | Bred | Open | value | Sale price | |
| 3 1/2 3 bulls | 9-41 mos | $ 19,500 | $ 63,400 | ||
| 31 heifers | 12-29 mos | 24 | 7 | 33,500 | 99,525 |
The heifers in the sale were selected from the superior young females in the decedent's breeding herd. The purpose was to obtain a record price and the animals which were selected and sold did bring a record price, which resulted in valuable publicity for the Hillcrest Farms herd. None of these heifers had been offered for sale prior to the auction on November 7, 1950. Those that had been bred were bred to produce calves for the farm.
The outstanding bull sold at the sale was Hillcrest Larry 4th in which decedent had a one-half interest. The inventory value of the half interest was $ 15,000 and it brought $ 35,000 at the sale -- at the time the highest price paid for any Hereford. This animal was 41 months old when sold and he had been used as a herd sire by decedent and had sired a considerable number of calves for Hillcrest Farms. This animal was listed in the sales catalog as a herd sire, and he was not initially included among the*292 animals scheduled for the sales ring. However, prospective purchasers attending the sale persuaded decedent to put the animal on the block on the promise of a record price for the animal.
As in the case of the heifers, the other bulls included in the farm sale were from the Hillcrest Farms breeding herd, were intended to be used for breeding purposes, and had not been offered for sale prior to the farm sale.
During the course of the farm sale, the decedent withdrew a number of heifers from the offering in order to keep the average price per animal high. The following day, he sold 10 of these to E. C. McCormick of Akron, Ohio. These heifers ranged in age from 16 to *704 25 months. They were inventoried at $ 6,500 and were sold for $ 12,500. All had been bred for the purpose of producing calves for the Hillcrest herd and, prior to their selection for inclusion in the catalog for the auction, none had been available for sale.
On October 30, 1950, the decedent sold a heifer to Waldo Brown of Finleyville, Pennsylvania. The inventory basis of this animal was $ 500 and she was sold for $ 1,000. This animal was 25 months old and was bred when sold. She had not previously been*293 offered for sale and was disposed of by the decedent because she was "wild" or nervous.
During the years in issue, decedent had receipts from the sale of some cattle sold at Hillcrest Farms which were not claimed as capital assets. The gains on all these sales were reported in his income tax returns as ordinary income in the following amounts:
| 1944 | $ 3,385.59 |
| 1945 | 7,501.78 |
| 1946 | 5,950.22 |
| 1947 | 12,748.02 |
| 1948 | $ 4,903.41 |
| 1949 | 8,886.34 |
| 1950 | 25,421.02 |
The 171 animals set forth in our findings above were, at the time of their sale, held by petitioners for breeding purposes on Hillcrest Farms and any profit or loss from their disposition constitutes capital gain or loss.
The sale of a factory by decedent in 1948 resulted in a long-term capital gain of $ 8,750 which had been erroneously reported as ordinary income.
OPINION.
The principal question in this proceeding is whether the petitioners are entitled to treat the sales of certain registered Hereford cattle during the years in issue as property used in their trade or business. If such cattle were held by the petitioners as breeding cattle, then, under the provisions of section 117 (j) (1) of the Internal Revenue Code of*294 1939, as retroactively amended by section 324 of the Revenue Act of 1951, the petitioners are entitled to treat their profits from the sales as gain from the sale of capital assets and not as ordinary income.
The second question involves a consideration of the methods of farm accounting and, particularly, the determination of the construction of section 29.22 (a)-7 of Regulations 111 which specifies the methods for computing income from farming operations.
Some background is necessary for the proper appreciation of the matters in controversy.
The petitioner C. A. Smith, now deceased, 4 established a registered Hereford herd in 1918 with the expectation of developing an outstanding *705 herd. It was his plan to sell quality cattle to other cattlemen for use by them as breeding cattle. Through the years, the quality of his herd developed until, during the years in issue, it was recognized as one of the outstanding Hereford herds in the United States. During the years before us, the petitioner continued to develop the quality of his herd and to sell some of his animals to other breeders for use by them as breeding stock. A few animals were occasionally culled from the herd *295 and sold for beef but this practice was unusual and such animals are not involved here. Nor are we concerned with the animals which the petitioners sold in the ordinary course of their business to other breeders for use by them as breeding stock in their herds. We are concerned only with the animals which were sold in unusual circumstances to other breeders.
In the 7 years before us, the petitioner sold over 800 Herefords to other breeders. In his returns, he treated the gains from all of these as long-term capital gains. The respondent determined that all of these cattle were the stock in trade of the petitioner and were sold in the ordinary course of his business and the profits on their sale were returnable as ordinary income.
Each side has receded from its original extreme position. The petitioners now contend that *296 only 171 of the cattle sold over the 7 years involved were cattle held for breeding purposes, and concede that the remainder were held for sale to customers in the ordinary course of their business.
The respondent now argues that all the raised heifers under 27 months of age and all raised bulls under 34 months of age which were sold during the years in issue were held primarily for sale to petitioners' customers.
It is now firmly established that cattle held for breeding purposes come within the definition of the term property used in a trade or business and qualify under section 117 (j) (1) of the Internal Revenue Code of 1939 for treatment as capital assets, provided they are held for the requisite period. Even before the 1951 amendment, courts and the Commissioner had recognized this. Fawn Lake Ranch Co., 12 T.C. 1139">12 T. C. 1139; Franklin Flato, 14 T. C. 1241; Albright v. United States, 173 F. 2d 339; I. T. 3666, 1944 C. B. 270; I. T. 3712, 1945 C. B. 176.
Despite apparent agreement on this general principle, there was considerable controversy*297 between the Commissioner, on the one hand, and the courts and cattlemen, on the other, in its application. This disagreement ultimately led to the amendment of section 117 (j) (1) by the Revenue Act of 1951. Section 324 of the 1951 Act added the provision that defined the term "property used in the trade or business," to include:
livestock, regardless of age, held by the taxpayer for draft, breeding, or dairy purposes, and held by him for 12 months or more from the date of acquisition.
*706 The foregoing amendment is applicable to this case. It is retroactive to taxable years beginning after December 31, 1941, except that the extension of the holding period from 6 to 12 months is applicable only to taxable years beginning after December 31, 1950. No issue is raised in this proceeding on the holding period of the animals involved. It is apparently conceded that all the animals which petitioners claim were in the breeding herd were held by them for at least 6 months -- the period required for the years in issue.
The determination of which animals, if any, were held by the petitioners for breeding purposes is essentially a question of fact. As noted above, the respondent*298 would make this determination by an age test, relying on Walter S. Fox, 16 T. C. 854, affd. (C. A. 4, 1952) 198 F. 2d 719. The age limits suggested, 27 months for heifers and 34 months for bulls, are the minimum ages when, under the circumstances and breeding practices of petitioners, it would normally be determined whether a particular animal had the ability to produce offspring with sufficient quality characteristics to be included in the breeding herd. The respondent points out that heifers were usually not bred at Hillcrest Farms until they were 18 months old. Allowing 9 months for gestation, it was not until she was 27 months old that it could be determined whether she was capable of producing quality calves. Bulls normally were not used for breeding until they were 15 months old. Allowing 9 months for gestation, plus an additional 8 or 9 months for the development of the calf to weaning when its quality was determined, the minimum age at which it could be determined whether a bull had desirable progeny was approximately 34 months, according to the respondent.
The appeal of the respondent's suggested criterion is in*299 its simplicity. We adopted the age test 5 in the Fox case because we had to make an approximation of which animals involved were part of the breeding herd. In that case, the taxpayers had relied exclusively on the fact that the registration of their purebred animals was enough to classify them as members of the breeding herd. We felt that more evidence of the purpose for which the animals were held was necessary. However, we were convinced that some of the animals involved were part of the breeding herd but, because of the state of the record in that case, we were unable to determine with respect to particular animals whether or not they were held for breeding. Therefore, we adopted the age test as a kind of rule of evidence to decide the case. On review, the Fourth Circuit held that our test was reasonable and fair in the circumstances of that case.
The principal difficulty in cases*300 of this kind revolves around the corroboration for the claims that young and immature animals are *707 part of the breeding herd and, although physically incapable of having offspring, are nevertheless being held until they come of age and start producing progeny. It is obvious that a breeding herd must be constantly replenished with young animals to continue its vitality. In the period when the younger animals are developing, presumably their immaturity alone is not conclusively determinative of the purpose for which they are being held. That is the fault with the respondent's proposed test; it would make immaturity conclusive.
The legislative history of the 1951 amendment plainly indicates that Congress was concerned over the Commissioner's reluctance to recognize that young animals were capable of being held as breeding stock. 6 And, the phrase "regardless of age" written into the statute indicates a clear intent to prevent age alone from being used as the criterion. As the Fourth Circuit said, in commenting on the 1951 amendment in the course of affirming our decision in the Fox case, "The important thing is not the age of the animals but the purpose for which they*301 are held." 198 F. 2d at 722; cf. also McDonald v. Commissioner, (C. A. 2, 1954) 214 F.2d 341">214 F. 2d 341, reversing 17 T. C. 210 (1951).
In this case, we have more evidence concerning the breeding operations and the farm management than we had in the Fox case. The record shows that the Hillcrest Farms herd was physically separated into two main groups, one, animals which were available for immediate sale, and the other, animals in a breeding herd. Records were kept so that at any time it could be determined which animals were in the breeding herd and which were available for sale. None of the animals in the breeding herd were available for sale in the ordinary course of business. They were held to produce calves, some of which, depending on their quality, would be added to the breeding herd as future breeding stock but most of which would be offered for sale to other breeders in*302 the regular course of the farm's business.
The petitioners have shown that the particular animals which are involved were of extremely high quality and would not have been sold except for unusual circumstances. We are convinced especially that the younger animals were of the quality ordinarily retained by the petitioners to replenish their breeding stock and that they were held for breeding purposes at the time of their disposition.
For example, the record indicates that many of the cattle involved were sold at auctions at fairs or exhibitions where the animals were displayed and had competed for awards. Each year it was the petitioners' practice to select high quality calves and yearlings from their herd, groom them carefully, and ship them to cattle exhibitions and fairs. Permission to display and compete for awards and honors was conditioned, in most cases, on the requirement or, at least the *708 understanding, that the petitioners would allow the animals that were exhibited to be sold at the auctions that followed the exhibition.
The animals displayed at these exhibitions were outstanding young animals in the petitioners' herd. They had to be; otherwise there would be*303 no point in entering them in the exhibition. Sometimes, the animals which were displayed were selected by representatives of the breeding association and not by petitioners. But whether selected by petitioners or by someone else, the object was to select outstanding young animals for display in order to publicize the quality and character of the breed and petitioners' herd. Such was the kind of animals that would have been held for future breeding purposes by petitioners.
Many of the foregoing observations also apply to the animals that were sold at the two auctions held at the farm in 1945 and 1950. The animals involved here that were disposed of at those sales were of extremely high quality. These auctions were conducted largely at the urging of the representatives of the breeding association. The purpose was to create interest in the Hereford breed in the eastern part of the country. Representatives of the association, whose testimony is in the record, selected some of the outstanding young animals on the farm for inclusion in the sales catalogs. Not all the animals came from the breeding herd but, with the petitioners' permission, some were selected from among the younger*304 animals being held for future breeding purposes.
The high quality of the animals involved is further proved by the fact that one here in issue was exported to South America to be a representative of his breed in that part of the world. Some were selected also for experimental use in the agricultural departments of prominent universities. From all of these facts, and from the entire record, we are convinced that the petitioners have proved that the animals now in issue were actually part of their breeding herd at the time of disposition, and that they were being held for breeding purposes, and they were not held primarily for sale to other breeders in the ordinary course of the petitioners' business. Consequently, the petitioners are entitled to treat their gains on the sales of these animals as long-term capital gains.
The second issue concerns only the last 3 years before us, 1948 through 1950. The question raised is the interpretation of section 29.22 (a)-7 of Regulations 111 7 which prescribes the methods for determining the gross income of farmers.
*305 *709 The crux of the petitioners' claim on this issue is that, although they have been regularly keeping their books and records and reporting their income on an accrual basis, in the treatment of the sale of animals which were held for breeding purposes, we should compute their income from this source as if petitioners were in fact on a cash basis. There is, of course, no authority under the law for petitioners' proposed treatment.
Finally, the parties have stipulated that the petitioner are entitled to treat gain in the amount of $ 8,750 from the sale of a factory in 1948 as a capital gain. The gain from the transaction had been erroneously reported as ordinary income. Effect can be given to this stipulation in proceedings under Rule 50.
Decisions will be entered under Rule 50.
Footnotes
*. The proceedings of the following petitioners are consolidated herewith: Estate of C. A. Smith, Deceased, C. A. Smith and Lula T. Smith, Executors, Docket No. 40880, and Estate of C. A. Smith, Deceased, C. A. Smith, Jr., and Lula T. Smith, Executors, and Lula T. Smith, Docket No. 50705.↩
1. Includes 4 calves at the side of the dam; sale units for the year were 112.↩
1. Aggregate of group.↩
2. The term "open" is sometimes used for a female without calf.↩
3. Fractional unit results from the sale of a one-half interest in an animal.↩
4. C. A. Smith is the petitioner for the years 1944 through 1947. C. A. Smith and Lula T. Smith are petitioners for the years 1948 through 1950. Executors have been substituted for C. A. Smith.↩
5. In the Fox↩ case, we held that heifers under 26 months and bulls under 34 were not part of the taxpayers' breeding herd.
6. S. Rept. No. 781, 82d Cong., 1st Sess., pp. 41-42.↩
7. Sec. 29.22 (a)-7. Gross Income of Farmers. -- * * *
In the case of a farmer reporting on the accrual basis (in which an inventory is used to determine profits), his gross profits are ascertained by adding to the inventory value of live stock and products on hand at the end of the year the amount received from the sale of live stock and products, and miscellaneous receipts for hire of teams, machinery, and the like, during the year, and deducting from this sum the inventory value of live stock and products on hand at the beginning of the year and the cost of live stock and products purchased during the year. In such cases all live stock raised or purchased for sale shall be included in the inventory at their proper valuation determined in accordance with the method authorized and adopted for the purpose. Also live stock acquired, for draft, breeding, or dairy purposes and not for sale, may be included in the inventory, instead of being treated as capital assets subject to depreciation, provided such practice is followed consistently by the taxpayer. In case of the sale of any live stock included in an inventory their cost must not be taken as an additional deduction in the return of income, as such deduction will be reflected in the inventory.↩