*3307 Where a perpetual inventory is kept at cost and adjusted at the end of each year to "cost or market, whichever is lower," in such adjustment depreciated or obsolete merchandise may be included at its actual value as determined by officials of the taxpayer experienced in the business and thoroughly familiar with the merchandise and its value.
*127 This is a proceeding for the redetermination of income and profits taxes for the calendar year 1920. The Commissioner had determined a deficiency of $8,161.52 in said Taxes, of which amount approximately $5,545 is in controversy. It is alleged that the Commissioner erred in adjusting petitioner's closing inventory and thereby increasing its taxable net income $12,062.16.
FINDINGS OF FACT.
Petitioner is an Ohio corporation and is engaged in the wholesale automobile equipment and supply business at Columbus, Ohio.
Petitioner keeps upon its general books a perpetual inventory of merchandise priced at cost. At the end of each year a physical inventory of all merchandise on hand, including any*3308 that may have been carried over from preceding years, is taken at the original invoice *128 cost and then adjusted for changes in market value or replacement cost and for obsolete and unsalable merchandise. The book inventory is then changed to agree with the adjusted physical inventory.
At the close of the taxable year 1920 a physical inventory was taken at original invoice cost and an analysis thereof made by the president and general manager of the company, who made notations after each individual item entering into the adjustment. Some items were marked "dead" or with an "x," some were marked 20 per cent off or less 20 per cent, and some were marked 50 per cent off or less 50 per cent. All obsolete or out-of-date merchandise was marked with an "0" and a separate list thereof made. The president and general manager then, in consultation with the general purchasing agent of the company - both of whom had been with the petitioner in their respective capacities for a number of years and were thoroughly familiar with its merchandise and the values thereof, fixed the value of each item for which an adjustment from cost price was made. The merchandise marked "dead" or with*3309 an "X," totaling $3,825.41 at original invoice cost, was considered of no value. The items marked 20 per cent off and 50 per cent off, aggregating $3,063.58 and $7,718.35, respectively, at original invoice cost, represented merchandise the market value or replacement cost of which was 20 per cent and 50 per cent, respectively, less than the original invoice cost. The items marked "0" and listed separately, in the total sum of $16,263.41 at original invoice cost, represented obsolete, shopworn and broken merchandise, most of which could not be replaced, if desired, except probably from the stocks of other wholesale dealers. These items were valued at the prices for which, in the judgment of the officers of the company they could be sold, aggregating the sum of $1,228.89. The list of obsolete merchandise contained some duplication of items marked "dead," 20 per cent off and 50 per cent off, for which allowance was made by the petitioner in determining the final closing inventory.
The book inventory at the end of 1920 was in the amount of $87,406.10. The physical inventory taken at original invoice cost at the end of 1920 amounted to $98,258.96. The physical inventory was then*3310 adjusted for changes in market value and for obsolete merchandise, and accordingly reduced to $78,906.10. This latter amount was entered upon the books as the closing inventory for 1920 and the book inventory was credited $8,500.
The book inventory at the close of 1919 was in the amount of $62,287.08. The physical inventory taken at original invoice cost at the end of 1919 amounted to $76,312.48, which was reduced for changes in market value and for obsolete merchandise. The physical *129 inventory as reduced approximately equaled the book inventory and no change therein was made upon the books at that time. Thereafter, upon investigation of petitioner's tax liability for 1919 and prior years and an audit of its records by the respondent, the 1919 closing inventory was further reduced for obsolete merchandise to the sum of $58,697.29. In like manner physical inventories at original invoice cost were taken for preceding taxable years and reduced for changes in market value and for obsolete merchandise, and the book inventories were adjusted accordingly. The inventories so determined for preceding taxable years were accepted by the respondent in the determination of petitioner's*3311 tax liability for such years.
The respondent recomputed the 1920 closing inventory and determined it to be $90,968.26. In his recomputation and determination the respondent made adjustments to the physical inventory taken at original invoice cost for changes in market value and for "dead" material, but refused to allow any adjustment for obsolete merchandise. Petitioner's taxable net income was accordingly increased $12,062.16. Upon the basis of this increase in net income, together with other adjustments not in issue, the respondent determined the deficiency for 1920.
OPINION.
VAN FOSSAN: The method employed by the petitioner in the valuation of its 1920 closing inventory is "cost or market, whichever is lower," one of the bases of inventory valuation designated by the Commissioner in his regulations adopted pursuant to the provisions of the Revenue Act of 1918. (See section 203 of Revenue Act of 1918 and articles 1582 et seq. of Regulations 45.) It is conceded by the respondent that the petitioner has the right to reduce its 1920 closing inventory, taken at original cost, for changes in market value and for obsolete merchandise, but he contends that the petitioner*3312 has failed to establish the reduction claimed or any proper reduction for obsolete merchandise.
It appears that the physical inventory taken at the end of 1920 was examined in detail by the president and general manager of the petitioner, the responsible officer and active head of the company. This officer, entirely familiar with the merchandise dealt in and its market values, then made a separate, itemized list of all merchandise considered obsolete and unsalable in general trade, most of which could not be replaced by purchase in the open market or from any source except probably the stocks of other wholesale dealers. This list was then reviewed and each item was valued by the president and general manager of the company, in consultation with the general purchasing agent, at the price for which, in their opinion, it could be sold. The *130 total value of the obsolete merchandise was thus determined and an adjustment was made in the physical inventory, in which such merchandise was entered at original cost, for this reduction in value.
Both the president and purchasing agent of the company testified at the hearing that the value of the obsolete merchandise fixed by*3313 them represented its actual market value. The list of obsolete merchandise, showing the itemized valuation, was introduced in evidence. No contradictory evidence was offered. This Board has heretofore held that inventories may be reduced for obsolete merchandise carried therein (; ; ), and that the valuation of such merchandise for inventory purposes by officers of the company familiar with the business and having knowledge of the market value of the material dealt in, is sufficient evidence of the actual market value of such merchandise to be included in the inventory. (; ; ;; ; ; *3314 .) In our opinion the reductions made by the petitioner from its physical inventory taken at cost at the close of 1920 for changes in market value and for obsolete and unsalable merchandise are proper and the final closing inventory for 1920 as determined by the petitioner is fair and reasonable and should be accepted.
At the hearing it was stated by counsel for the petitioner, and not denied, that the respondent adjusted the 1920 closing inventory and did not make a corresponding adjustment of the 1920 opening inventory, and that had the opening inventory been correspondingly adjusted no increase in net income would have resulted. We have held in a number of cases that the adjustment of the closing inventory by the respondent, without a corresponding adjustment of the opening inventory, was improper and resulted in a distortion of income, which could not be approved. (; ; ) It further appears that the petitioner has valued its inventories for other taxable years consistently upon the*3315 same basis as was used for the year in question, and consistency in inventory valuation is of prime importance. (;; )
The respondent erred in adjusting petitioner's closing inventory for the taxable year 1920 and increasing its taxable net income by reason thereof.
Judgment will be entered under Rule 50.