Decisions will be entered under Rule 50.
1. Petitioner was engaged in the cattle business as a "cattle feeder"; he purchased calves and yearlings which he fed for 9 to 18 months and he then sold as beef cattle. He regularly kept his books and reported his income on a cash basis. Under his method of accounting, he consistently charged off and deducted as an operating expense, the cost of cattle in the year of purchase. He did not defer deduction of the cost of cattle until the year of sale. Held, that although the petitioner is on a cash basis, he is required, nevertheless, by Regulations 111, section 29.22(a)-7 to defer deduction of the cost of cattle until the year of sale.
2. Petitioner sold cattle in 1945 and 1946 which were purchased prior to 1945, and the cost thereof deducted by the petitioner in the year of purchase. In determining deficiencies for 1945 and 1946, respondent did not include in cost of sales the cost of cattle sold in those years but purchased prior to 1945. Held, petitioner is entitled to include in cost of sales for 1945 and 1946, the cost of cattle which were purchased prior to 1945 and sold in 1945 and 1946, even though the cost thereof had been deducted *227 by petitioner in determining income of a prior year.
*234 The Commissioner determined deficiencies in income tax for the years 1945-1948, as follows:
| Docket No. | Name | Year | Amount |
| 35555 | D. E. Alexander | 1945 | $ 112,355.02 |
| 1946 | 29,944.20 | ||
| 35556 | D. E. and Lucille D. Alexander | 1947 | 34,732.69 |
| 1948 | 1 40,271.70 |
Income for the taxable years of the cattle business of D. E. Alexander was reported on a cash basis. The accounting records for the business were consistently kept on a cash basis, and under this method of accounting petitioner consistently charged off and deducted as an operating expense the cost of livestock, which he purchased for resale, in the year of purchase. The Commissioner has determined that deduction of the purchase cost of livestock, properly, is to be deferred until the year of sale.
*235 The chief question is whether the respondent erred in disallowing deduction for the cost of livestock *228 which was purchased in each of the taxable years, where the livestock was not sold in the year of purchase, so as to require petitioner to defer deduction of the cost thereof until the year of sale.
If the respondent's determination is sustained under the chief issue, it will be necessary to decide whether petitioner is entitled to deduct, in each of the years 1945 and 1946, the cost of certain livestock which was sold in those years but which was purchased prior to 1945, and the cost thereof deducted by petitioner in the year of purchase.
The petitioners concede that other adjustments made by the respondent are proper.
FINDINGS OF FACT.
The facts which have been stipulated are found as facts. The stipulation and the attached exhibits are incorporated herein by this reference.
The petitioners, husband and wife, are residents of Napa, California. D. E. Alexander is referred to hereinafter as the petitioner because the issues presented relate solely to his business. Petitioner kept his books and prepared his tax returns on a cash basis. The petitioners filed separate returns for 1945 and 1946; joint returns were filed for 1947 and 1948. The returns were filed with the collector for the *229 first district of California.
During the taxable years, the petitioner was engaged in the cattle business as a cattle feeder; that is to say, he purchased calves and yearlings which he fed until they reached marketable weight, at which time he sold them as beef cattle. Petitioner conducted his business as a sole proprietor.
The petitioner has been engaged in the cattle business for over 30 years. Prior to 1934, he maintained a breeding herd and bred the cattle which he sold. Beginning in 1934, he began to sell his breeding herd in order to change his business to that of a cattle feeder. By 1939, petitioner's business was confined, exclusively, to that of a cattle feeder.
During the taxable years, petitioner carried on his cattle business in California, Oregon, and Montana. He owned and operated a 3,600-acre ranch in Napa County, California, and a 2,500-acre ranch in Oregon. In addition, he grazed cattle on leased land. The petitioner purchased most of his cattle in Montana. The purchases were usually made in the fall of the year, and as many as several hundred head of cattle were purchased at one time. Calves were purchased at an average weight of 400 pounds, and yearlings were *230 purchased at an average weight of 700 pounds; they were sold when they reached a marketable weight of about 1,100 pounds. The calves were fed for *236 15 to 18 months, and the yearlings for 9 or 10 months before they reached a marketable weight. Petitioner grazed his cattle in California in the winter, and in Oregon in the summer. He did not keep any cattle for more than 18 months.
Petitioner kept his books and reported his income on a straight cash receipts and disbursements basis. He has regularly followed that method of accounting since 1936. Petitioner did not keep an inventory of cattle and he did not use an inventory in determining his income. In accounting for and reporting his income, petitioner deducted from gross receipts in each year the cost of the cattle which he purchased in the same year; that is to say, the cost of cattle was deducted from gross receipts as an operating expense in the year in which the cattle were purchased, rather than from the proceeds of sale in the year in which the cattle were sold.
The following schedule shows the petitioner's gross receipts and net income (or loss) from his cattle business as reported in his income tax return for each of the *231 years 1945 to 1948, inclusive. The schedule also shows the cost of the cattle purchased by the petitioner in each year and deducted from gross receipts in determining income:
| Cost of cattle | |||
| purchased by | |||
| Gross | Net income | petitioner | |
| Year | receipts | (or loss) | and deducted |
| as an expense | |||
| 1945 | $ 209,879 | $ 44,453 | $ 125,030 |
| 1946 | 215,294 | 27,428 | 101,127 |
| 1947 | 249,565 | (73,569) | 207,912 |
| 1948 | 440,728 | (1,117) | 305,661 |
The parties have stipulated the following facts:
9. The following schedule shows the number of cattle on hand on January 1 of each year; the number purchased during the year; the number sold during the year; the number of casualties suffered in each year; and the number on hand at the end of the year for each of the years 1945 to 1949, inclusive:
| 1945 | 1946 | 1947 | 1948 | 1949 | |
| On hand January 1 | 1,683 | 1,688 | 1,636 | 2,049 | 2,010 |
| Purchases | 1,272 | 978 | 1,685 | 1,772 | 790 |
| Totals | 2,955 | 2,666 | 3,321 | 3,821 | 2,800 |
| Sold | 1,214 | 988 | 1,206 | 1,737 | 1,269 |
| Missing and died | 53 | 42 | 66 | 74 | 82 |
| Total deductions | 1,267 | 1,030 | 1,272 | 1,811 | 1,351 |
| On hand December 31 | 1,688 | 1,636 | 2,049 | 2,010 | 1,449 |
10. The following schedule shows an estimated breakdown of the cattle on hand on December 31 of each year from 1944 to 1949, inclusive, as between cattle purchased in each of said years and those [cattle] purchased *232 in the preceding year, and it is stipulated that the following schedule shall be accepted as accurate for purposes of these proceedings: *237
| 1944 | 1945 | 1946 | 1947 | 1948 | 1949 | |
| Current year | 718 | 1,265 | 968 | 1,181 | 1,262 | 732 |
| Previous year | 965 | 423 | 668 | 868 | 748 | 717 |
| Totals | 1,683 | 1,688 | 1,636 | 2,049 | 2,010 | 1,449 |
11. The average cost per head of cattle purchased in each of the years 1943 to 1949, inclusive, was as follows:
| Year | Average cost |
| 1943 | $ 52.90 |
| 1944 | 84.38 |
| 1945 | 98.29 |
| 1946 | 103.40 |
| 1947 | $ 123.39 |
| 1948 | 172.49 |
| 1949 | 131.68 |
12. The following schedule, assuming sales on a first-in, first-out basis, shows the total cost of cattle on hand on the dates indicated based upon the average unit costs set forth in paragraph 11 above and the breakdown of the cattle on hand on each of said dates as set forth in paragraph 10 above:
| Dec. 31, 1944 | $ 111,633.34 | |
| Dec. 31, 1945 | 160,029.59 | |
| Dec. 31, 1946 | 165,748.92 | |
| Dec. 31, 1947 | 235,474.80 | |
| Dec. 31, 1948 | 309,978.10 | 1 $ 288,208.60 |
| Dec. 31, 1949 | 220,065.09 | 1 207,696.84 |
The data set forth in paragraphs 9, 10, 11, and 12 of the stipulation filed herein is based on information contained in the petitioner's books and in the supporting records, *233 including purchase invoices, bills of sales, and notebooks used by petitioner's cowhands. The petitioner and his accountant prepared and submitted the data during the course of the revenue agent's investigation, and it was used by the respondent in determining the deficiencies.
The respondent, in his notices of deficiencies, adjusted the amount of the deduction claimed by petitioner in each of the taxable years as cost of feeder cattle, so as to defer deduction of the purchase cost of the cattle until the year of sale. The respondent's notice of deficiency for the year 1947 contains the following explanation of the adjustments:
Income is increased by $ 74,725.87 through adjustment of deduction allowable for costs of cattle sold in 1947, computed as follows:
| 1685 head of cattle purchased in 1947 by D. E. Alexander and | |||
| charged to expense | $ 207,912.29 | ||
| Less cattle sold, died, or missing during the year from 1947 | |||
| purchases -- 504 head | 62,188.70 | ||
| Remaining cost of cattle purchased in 1947 transferred to | |||
| later years when sales were made | 145,723.59 | ||
| Less: Cost of cattle purchased in 1945 and sold in | |||
| 1947 -- 668 head | $ 65,657.72 | ||
| Cost of cattle purchased in 1946 and sold in | |||
| 1947 -- 100 head | 10,340.00 | ||
| $ 75,997.72 | |||
| Balance | 69,725.87 | ||
| Add for correction of costs claimed in return: | |||
| Cost of 1947 purchases claimed in return | $ 212,912.29 | ||
| Actual cost, as determined by audit, and as shown | |||
| above | 207,912.29 | ||
| 5,000.00 | |||
| Increase | $ 74,725.87 |
*234 *238 Similar adjustments were made by the respondent for the years 1945, 1946, and 1948 with one exception. In determining the deficiency for each of the years 1945 and 1946, the respondent did not include in cost of sales the amounts of $ 75,940.60 and $ 35,692.74, respectively, which amounts represent the cost of cattle which were actually sold in those years but which were purchased prior to 1945, and the cost thereof deducted by the petitioner in the year of purchase.
In his notice of deficiency for 1948, the respondent erroneously determined that the cost of cattle sold in 1948, including cattle which were lost or which died in 1948, was $ 252,927.24. The correct cost of cattle sold in 1948, including cattle which were lost or which died in 1948, is $ 231,148.97. The respondent, by an amended answer filed at the hearing, has claimed an increased deficiency for 1948 based upon a correction of the error.
OPINION.
The chief *235 question is whether the petitioner, who is on a cash basis, is entitled to deduct the cost of feeder cattle in the year of purchase, as he contends, or whether the deduction of such cost must be deferred until the year in which the cattle are sold, as respondent determined.
The respondent contends that the petitioner's practice of deducting the cost of cattle as an operating expense in the year of purchase without regard to when the cattle are sold distorts income. He argues that although the petitioner is on a cash basis, petitioner is required, nevertheless, by section 29.22(a)-7 of Regulations 111, 1*236 to compute gross income *239 by including the purchase cost of cattle in cost of sales for the year of sale; that is to say, petitioner must defer deduction of the purchase cost of cattle until the year of sale. The specific provision of the regulation upon which the respondent relies is as follows:
The profit from the sale of live stock or other items which were purchased after February 28, 1913, is to be ascertained by deducting the cost from the sales price in the year in which the sale occurs, * * *
The respondent takes the position that if petitioner elects to use a cash basis in reporting income, he must do so subject *237 to the limitation contained in the aforementioned provision of the regulations. Respondent concedes that the petitioner has an option under the applicable regulations to report income on either a cash or an inventory-accrual basis. He denies that his determination would force the petitioner to adopt an inventory-accrual method of accounting, or that it requires the use of inventories.
Petitioner contends that under the pure cash method of accounting, which he has regularly followed in keeping his books and reporting his income, it is proper for him to deduct the cost of cattle in the year of purchase, and that his method of accounting, when consistently followed, clearly reflects his income. This is particularly true, he asserts, where, as here, a relatively constant level of operations is maintained. He contends, further, that the respondent's method of accounting for the purchase cost of cattle does not clearly reflect his income because it is a hybrid method which combines a cash basis with the use of inventories. In support of this contention, petitioner argues that the respondent actually determined the deficiencies by the use of reconstructed inventories. Finally, petitioner *238 contends that the provision of the regulation upon which the respondent relies was not, in fact, followed by the respondent in computing the deficiencies, and that, in any event, the regulation is not applicable to the facts of this case.
Petitioner belongs to the class "farmer" under Regulations 111, section 29.22(a)-7. Farmers have an option under the regulations to report income on either a cash basis (in which no inventory to determine profits is used), or an accrual basis (in which an inventory to determine profits is used). Regs. 111, secs. 29.22(a)-7 and 29.22(c)-6. Petitioner has elected to report income on a cash basis. Section 29.22(a)-7 of Regulations 111 sets forth the manner in which the gross income of farmers who elect to report on a cash basis is to be determined. The regulation provides, in pertinent part, that a farmer who reports on a cash basis shall include in gross income for *240 the taxable year, inter alia, the profit from the sale of livestock or other items which were purchased, and that the profit from the sale of livestock or other items which were purchased is to be determined by deducting the cost thereof from the sales price in the year of sale. Consequently, *239 if the regulation is valid, and if it has been correctly applied to the facts of this case, the respondent's determination must be sustained.
Treasury regulations are valid unless unreasonable or inconsistent with the statute. The Supreme Court, in , observed that, "This Court has many times declared that Treasury regulations must be sustained unless unreasonable and plainly inconsistent with the revenue statutes and that they constitute contemporaneous constructions by those charged with administration of these statutes which should not be overruled except for weighty reasons." The regulation in question is not unreasonable and plainly inconsistent with the revenue statutes. In fact, it must be regarded as having the approval of Congress and the force of law.
The applicable provisions of section 29.22(a)-7 of Regulations 111, appeared initially in Article 38 of Regulations 45, promulgated January 28, 1921. Article 38 of Regulations 45 implemented section 213(a) of the Revenue Act of 1918, relating to gross income. Identical provisions have appeared in the regulations promulgated to implement corresponding sections of every *240 revenue act since the 1918 act. It is well settled that a regulation which has continued in force substantially unchanged through successive reenactments of the statutory provision to which it pertains must be regarded as having congressional approval. ; ; . As stated by the Supreme Court in , "the legislative approval of existing regulations by reenactment of the statutory provision to which they appertain gives such regulations the force of law."
The purpose of the regulation is to prevent a shifting or postponing of income from year to year through the medium of livestock purchases. If the cost of livestock which is purchased for resale could be deducted in the year of purchase without regard to when it was sold, the income of any accounting period could be readily distorted. For example, a farmer could offset, in whole or in part, income which he receives from crops by the purchase of livestock for resale in a subsequent year or years. Or a "farmer" who deals exclusively in livestock which he purchases for *241 resale, as does the petitioner, could shift or postpone income indefinitely simply by increasing in each year his purchases of young animals. To prevent such practices, the regulation requires a cash basis farmer who purchases livestock for resale *241 to defer deduction of the cost thereof until the year of sale. We find nothing in this requirement of the regulation which could be construed as unreasonable and plainly inconsistent with the revenue statutes. To the contrary, the regulation by preventing distortions of income is in harmony with section 41 of the Code.
Although petitioner contends that under what may be called a pure cash method of accounting, purchases are regarded as costs chargeable against income in the period in which payment is made, the regulations do not give the petitioner an option to account for, and to report income on, a pure cash basis. If petitioner elects to report on a cash basis, he must do so in the manner prescribed by the regulations and subject to the limitations contained therein. The fact that the regulations require a departure from a pure cash basis is not significant. Farmers who with the consent of the Commissioner report income on a crop *242 basis depart from a pure cash method of accounting. See Regs. 111, sec. 29.23 (a)-11.
Petitioner's contention that, in order to comply with the regulation, he would have to use inventories, and that the respondent, in determining the deficiencies, used reconstructed inventories, is without support in the record. As set forth in the Findings of Fact, the respondent determined the deficiencies by adjusting the amount of the deduction claimed in each of the taxable years as cost of feeder cattle. He did not compute cost of sales by using inventories. The fact that a result similar to the respondent's determination is obtained by using inventories valued at cost to compute cost of sales is not material.
We have carefully considered all of the petitioner's arguments and we find that they are without merit. The regulation upon which the respondent relies is valid and we are aware of no reason why it should not be applied in this case.
It is held that the petitioner must determine his profit from the sale of cattle by deducting the cost thereof from the sales price in the year in which the sale occurs as provided by Regulations 111, section 29.22 (a)-7.
The remaining question is whether petitioner *243 is entitled to deduct in each of the years 1945 and 1946 the cost of the cattle which were sold in each of those years but which were purchased in prior years, such costs having been deducted by petitioner in the years of the purchase or purchases of the cattle.
As of January 1, 1945, petitioner had on hand cattle which he purchased prior to 1945, at a cost of $ 111,633.34, and which he sold in 1945 and 1946. The cattle sold in 1945 cost $ 75,940.60; the cattle sold in 1946 cost $ 35,692.74. Under the method of accounting which petitioner followed, he deducted the cost of the cattle in the year of purchase. In determining the deficiencies for 1945 and 1946, the respondent did not *242 include such cost in the cost of the cattle sold in those years, namely $ 75,940.60, and $ 35,692.74, respectively, on the theory that to do so would allow the petitioner a second, or double, deduction for the identical cost.
Petitioner contends that, under the rationale of , and , the respondent's determination is erroneous. We agree with the petitioner. The respondent's determination presents essentially the same problem as was *244 involved in the Dwyer and Caldwell cases. Although the respondent's determination in this proceeding did not require petitioner to change from a cash to an inventory-accrual method of accounting, and inventories or accounts receivable are not involved here, there is no distinction in principle between this case and the cited authorities.
The cost of the cattle which were purchased prior to 1945, and were sold in 1945 and 1946, was improperly deducted by the petitioner in determining income of a prior year or years. The respondent, in failing to allow deduction in 1945 and 1946 of the cost of the cattle which were sold in 1945 and in 1946, has, in effect, attempted to tax in 1945 and 1946 income of a prior taxable period or periods, the taxation of which is now barred by the statute of limitations. This he cannot do. . The respondent's determinations under this issue are overruled and it is held that the petitioner is entitled to include $ 75,940.60 in costs of sales for 1945 and $ 35,692.74 in costs of sales for 1946.
Decisions will be entered under Rule 50.
Footnotes
1. The deficiency for 1948 was increased by the Commissioner from $ 26,348.20 to $ 40,271.70 in his amended answer which was filed at the hearing.↩
1. With 1948 purchases valued at 155.24, representing market value of 1948 purchases at December 31, 1948.↩
1. Sec. 29.22 (a)-7. Gross Income of Farmers. -- A farmer reporting on the basis of receipts and disbursements (in which no inventory to determine profits is used) shall include in his gross income for the taxable year (1) the amount of cash or the value of merchandise or other property received during the taxable year from the sale of live stock and produce which were raised during the taxable year or prior years, (2) the profits from the sale of any live stock or other items which were purchased, and (3) gross income from all other sources. The profit from the sale of live stock or other items which were purchased after February 28, 1913, is to be ascertained by deducting the cost from the sales price in the year in which the sale occurs, except that in the case of the sale of animals purchased as draft or work animals or solely for breeding or dairy purposes and not for resale, the profit shall be the amount of any excess of the sales price over the amount representing the difference between the cost and the depreciation theretofore allowed (but not less than the amount allowable) in respect to such property as a deduction in computing net income.
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