*3407 1. March 1, 1913, value of patents determined.
2. Certain development costs and capital expenditures restored to surplus and included in computation of invested capital.
3. Excessive depreciation charged off in prior years restored to surplus and included in computation of invested capital.
4. Value of certain assets acquired in 1910 for stock determined for purposes of invested capital and depreciation.
5. Income computed upon installment sales basis for certain years.
6. Special assessment allowed.
7. Deficiencies held not barred by statutes of limitation.
*1024 These proceedings are for the redetermination of deficiencies in income and profits taxes in the following amounts: for 1918, $42,252.95; for 1919, $12,103.13; for 1920, $104,913.90; for 1921, $49,430.77. Upon motion of the petitioner, the proceedings were consolidated for hearing and decision.
*1025 Petitioner alleges that: (1) Due to the expiration of the statutory periods within which assessment and collection may*3408 be made, collection of the deficiencies for all of the taxable years is barred; (2) reasonable allowances for exhaustion, wear and tear have not been allowed as deductions from income in the four taxable years based on (a) the fair market value on March 1, 1913, of patents and franchises and the cost thereof after that date; (b) the cash value at acquisition of assets acquired from the Michigan Barrel Co. paid in for capital stock of petitioner; (3) for the years 1920 and 1921 income from certain sales should be computed on the installment basis and not on the accrual basis; (4) invested capital for all of the taxable years is understated by respondent who did not include therein (a) the cash value of patents and franchises paid in to petitioner at organization and (b) amounts expended since acquisition in defending and protecting said patents and franchises; (5) invested capital for all of the taxable years is understated by respondent who did not include therein the full cash value of assets acquired from the Michigan Barrel Co. in exchange for capital stock of petitioner; (6) the excess-profits taxes should be computed under the special assessment provisions of the Revenue Acts*3409 of 1918 and 1921.
Other contentions made were either settled by agreement of the parties at the hearing or withdrawn.
FINDINGS OF FACT.
Petitioner, a Michigan corporation with its principal place of business at Grand Rapids, was incorporated on January 1, 1904, for the purpose of taking over and continuing the business of a partnership also known as the Grand Rapids Show Case Co. Petitioner was engaged in the manufacture and sale of show cases, clothing display racks, and wardrobes and store fixtures.
The books of the predecessor partnership can not be found. The original investment of capital in the partnership was about $20,000. The value of the tangible assets when taken over by petitioner in 1904 was $120,000. The increase of net worth, amounting to $100,000, reflects the earnings of the partnership for the years from 1900 to 1903, inclusive. The partnership expended on the average $12,000 to $15,000 a year for advertising and the name "Grand Rapids Show Case Co." had a considerable good will value in 1904 when assumed by petitioner.
Prior to 1907 all retail clothiers kept their stocks of garments in piles on open tables exposed to dust and dirt and damage. *3410 From 1907 to 1910 various patents were issued for cabinets having pull-out racks and pull-out racks which revolved, either automatically or under control. None of these patents were generic but only covered structural claims.
*1026 Prior to 1910 petitioner and also the Architectural Woodworking Co. of Philadelphia were engaged in manufacturing cabinets and wardrobes having pull-out racks. In 1909 the Architectural Woodworking Co. put on the market a wardrobe with a revolving pull-out rack with control exercised over the revolving feature. Oscar L. Smith, who was enterested in that firm, made application on October 25, 1909, for a patent on this wardrobe, the superiority of which lay in the control of the rotation of the rack. An application for a patent assigned to petitioner was also filed in 1909 by three individuals employed by the petitioner on a device to provide wardrobes and cabinets with revolving pull-out racks. At the beginning of 1910 the two applications were pending in the patent office. At this time the capital stock of the Architectural Woodworking Co. was all owned or controlled by J. G. McCrorey and Oscar L. Smith, the latter being the applicant for*3411 the patent referred to above. The Architectural Woodworking Co. had not been financially successful in its business operations and it had been necessary to call on McCrorey frequently for cash to meet current pay rolls and other obligations. In 1910, as a result of negotiations between the representatives of petitioner and McCrorey and Smith, an agreement was entered into by which petitioner acquired all of the assets of the Architectural Woodworking Co., including patents and patent applications pending. The material provisions of this agreement were as follows:
AGREEMENT between OSCAR L. SMITH and J. G. MCCROREY, hereinafter called Sellers, and GRAND RAPIDS SHOW CASE COMPANY, hereinafter called Purchaser, WITNESSETH:
FIRST. Sellers own or control the entire capital stock of Architectural Woodworking Company, a Pennsylvania corporation which is engaged in making "Newway" type revolving wardrobes or cabinets, hereinafter called revolving cabinets, under several patents. Purchaser also manufactures revolving cabinets under other patents and desires to purchase the business of Architectural Woodworking Company.
SECOND. Sellers agree to procure on or before July 6th, 1910, *3412 a conveyance and transfer to Purchaser of all the assets (including unfinished contracts and orders and all patents and pending applications for patents as per list hereto attached) or the Architectural Woodworking Company, or if the Purchaser shall prefer, Sellers to assign to it, or to whomsoever it may designate, all of the capital stock of said Architectural Woodworking Company.
* * *
FOURTH. Purchaser shall pay to J. G. McCrorey ten thousand dollars ($10,000) in cash upon the full performance of the second paragraph hereof, and a royalty on all revolving cabinets hereafter sold by Purchaser, whether or not made under the patents acquired under this agreement until the total payments to J. G. McCrorey (including the ten thousand dollars cash payment) amount to eighty-five thousand dollars ($85,000). This royalty is to be on the basis of $7.50 for each cabinet sold at $135 or over, and proportionately less on cabinets sold for less prices according to the sliding scale A hereto annexed.
FIFTH. Purchaser shall pay to Oscar L. Smith a royalty on all revolving cabinets hereafter sold by Purchaser, whether or not made under the patents *1027 acquired under this agreement. *3413 This royalty is to be on the basis of $5.00 for each cabinet sold at $135 or over, and proportionately less on cabinets sold for less prices according to the sliding scale B hereto annexed, until these shall have been paid to Oscar L. Smith the sum of fifty-three thousand three hundred and thirty-three dollars ($53,333) and thereafter the said royalty to Oscar L. Smith shall be on the basis of $7.50 for each cabinet sold for $135 or over, and proportionately less on cabinets sold for less prices according to the sliding scale A hereto annexed. And provided also that on the first 10,666 cabinets made after the royalties paid under this agreement to Oscar L. Smith have aggregated the sum of fifty-three thousand three hundred and thirty-three dollars ($53,333) there shall be paid to Oscar L. Smith royalty of one dollar and twenty-five cents ($1.25) per cabinet in addition to the royalties above specified, until the sum of thirteen thousand three hundred and thirty-three dollars ($13,333) has been paid. The royalties shall thereafter continue on the basis of $7.50 per cabinet subject to sliding scale A.
Purchaser will use its best efforts to maintain the trade demand and good will*3414 of the invention and patents acquired under this agreement from the Sellers.
SIXTH. So long as Purchaser continues to manufacture revolving cabinets, it shall pay the royalties provided by this agreement, but not for exceeding seventeen years from this date, and if at any time it shall cease to manufacture revolving cabinets, it shall reassign and transfer to Oscar L. Smith all the patents acquired by it under this agreement, together with a license to use all patents for improvements in revolving cabinets granted or applied for by either party during the life of this agreement. Purchaser will make reasonable efforts to maintain the trade in revolving cabinets and will continue the manufacture and sale so long as it can realize a net profit or at least ten per cent (10%) on gross sales of such cabinets.
SEVENTH. Purchaser will employ Oscar L. Smith for a period of one year from the date of this agreement at a salary of five thousand dollars ($5,000) per year, and said Smith agrees to faithfully serve the Purchaser and devote his whole time to the Purchaser's business and perform such reasonable duties as may be assigned to him. This contract will be renewed from time to time, *3415 but not exceeding in the aggregate five years, provided said Smith shall so faithfully and efficiently perform his duties as to justify his retention. This question to be determined in the manner usually employed by Purchaser in determining such questions with its employees.
* * *
EIGHTEENTH. This contract shall become of force and shall take effect as of June 1, 1910, and shall remain in force for the period of seventeen years from the date hereof and shall enure to the benefit of and be binding upon the executors, administrators, successors and assigns of each of the parties hereto.
Executed this 9th day of July, A.D. 1910.
A supplemental agreement executed July 9, 1910, made various changes as to the method of payment to Smith and McCrorey and provided for the assignment of the patents and patent applications to a trustee for the petitioner.
The assets of the Architectural Woodworking Co. other than the patents and patent rights were liquidated, and after paying off the liabilities, amounting to approximately $43,000, there remained a net realization of about $23,000. Smith entered the employ of petitioner in the capacity of sales manager at a salary of $5,000 per*3416 annum.
*1028 Thereafter the priority of the Smith invention was conceded at the patent office by the representatives of petitioner and the application originally filed by Smith was completely revised to include claims generic in their scope. On March 21, 1911, patent No. 987,183 was issued and it was basic or dominating in its provisions relative to any structure which worked on the broad principle employed. A patent, assigned to a trustee, was issued on the application of the three individuals employed by the petitioner, but it was of specific scope only. Petitioner continued to perfect and to patent various devices in connection with the rotating rack. These patents were subservient to patent No. 987,183.
With the elimination of the competition of the Architectural Woodworking Co. petitioner immediately increased its selling prices on wardrobes containing the swinging racks, the average increase being $60 per wardrobe. At that time petitioner called its wardrobe the "Twentieth Century Revolving Wardrobe," but the name was changed to "The New Way Revolving Wardrobe," in accordance with its agreement with Smith.
The consideration to McCrorey for his interest was*3417 paid as follows, and those payments were charged directly to expense account:
| Year | Cost of McCrorey interest in patent |
| 1910 | $8,266.70 |
| 1911 | 17,208.40 |
| 1912 | 18,867.87 |
| 1913 | 17,726.94 |
| 1914 | 22,930.09 |
| 1915 | |
| Total | 85,000.00 |
The royalties to Smith for his interest were paid as follows:
| On company's own product | |||
| Year | Amount | Number of cabinets | Average royalty per cabinet |
| 1910 1 | $6,197.15 | 1,472 | $4.21 |
| 1911 | 11,753.99 | 2,371 | 4.96 |
| 1912 | 14,253.49 | 2,998 | 4.75 |
| 1913 | 16,704.35 | 3,418 | 4.89 |
| 1914 | 20,249.52 | 2,825 | 7.17 |
| 1915 | 16,884.47 | 1,991 | 8.48 |
| 1916 | 26,373.19 | 3,045 | 8.66 |
| 1917 | 26,438.90 | 3,003 | 8.80 |
| 1918 | 18,273.25 | 2,327 | 7.85 |
| 1919 | 21,727.50 | 2,897 | 7.50 |
| 1920 | 25,500.00 | 3,400 | 7.50 |
| 1921 | 12,292.50 | 1,639 | 7.50 |
| 216,648.31 | 31,386 | 6.90 |
| On licensee's product | |||
| Year | Amount | Number of cabinets | Average royalty per contract |
| 1910 1 | |||
| 1911 | |||
| 1912 | |||
| 1913 | $2,107.50 | 425 | $4.96 |
| 1914 | 8,008.75 | 1,535 | 5.22 |
| 1915 | 5,147.20 | 1,338 | 3.85 |
| 1916 | 4,628.19 | 1,268 | 3.65 |
| 1917 | 4,902.08 | 1,335 | 3.67 |
| 1918 | 7,878.38 | 1,931 | 4.08 |
| 1919 | 8,285.88 | 2,046 | 4.05 |
| 1920 | 8,403.75 | 2,073 | 4.05 |
| 1921 | 4,173.75 | 964 | 4.33 |
| 53,535.48 | 12,915 | 4.15 |
*1029 Attempts were made by competitors to manufacture wardrobes with swinging racks and petitioner was put to expense in defending its patent rights. Amounts expended for attorney fees for this purpose were as follows:
| Year | Amount | Cumulative total |
| 1910 | $1,580.01 | $1,580.01 |
| 1911 | 1,960.55 | 3,540.56 |
| 1912 | 9,649.97 | 13,190.53 |
| To Mar. 1, 1913 | 1,660.83 | 14,851.36 |
| Mar. 1, 1913, to Dec 31, 1913 | 8,304.17 | 23,155.53 |
| 1914 | 2,471.09 | 25,626.62 |
| 1915 | 7,725.26 | 33,351.88 |
| 1916 | 5,229.43 | 38,581.31 |
| 1917 | $2,387.89 | $40,969.20 |
| 1918 | 2,108.95 | 43,078.15 |
| 1919 | 425.00 | 43,503.15 |
| 1920 | 790.35 | 44,293.50 |
| 1921 | 1,841.25 | 46,134.75 |
| Total | 46,134.75 |
Suit for infringement was brought at Boston, Mass., by petitioner in 1911 against the Welch Manufacturing Co. which had been engaged in the manufacture and sale of wardrobes since 1910. Prior to March 1, 1913, the cause had been heard on the merits and argued, and on March 1, 1913, was awaiting the decision of the court. The Welch Manufacturing Co. started negotiations in the spring of 1913 which resulted in a consent verdict for Grand Rapids Show Case Co. in June, 1913, and in*3419 the granting of a license to the Welch Company to manufacture wardrobes under the Smith patents.
The wardrobe containing racks which could be pulled out and rotated was of great value to the retailers in saving floor space, protecting garments from damage and enabling the simultaneous exhibition of a large number of them, and dominated the store-fixture market through the universal preference for it. A tactical advantage was enjoyed by any dealer in store fixtures who was in a position to furnish either revolving racks or other styles at the buyer's option. By 1912 there was an active demand by a number of dealers in store fixtures for licenses to construct revolving equipment. A majority of these requests were denied by petitioner, but some licenses were granted. Under an agreement in January, 1913, the John Hoffman Co. was licensed to manufacture revolving wardrobes under patent No. 987,183 for a royalty of $20 per wardrobe sold at $135 or more, and proportionately less on wardrobes sold at a lower price. The licensee agreed to maintain petitioner's list prices.
In January, 1913, an agreement was entered into with Smith relative to a reduction in the royalty payments with*3420 respect to the license of Hoffman. By this agreement Smith reduced his royalty to $3.75 per cabinet on those manufactured by the Hoffman Company where the cabinets were of standard size, and made corresponding reductions in royalties on other sizes. He agreed to make the same reduction if others were licensed.
*1030 An agreement was effected in June, 1913, with the Welch Manufacturing Co. providing that the Welch Company might manufacture revolving wardrobes under Smith patent No. 987,183 for a royalty of $15 a wardrobe. The agreement also provided that for each $50,000 increase of capital and surplus of the Welch Company over $250,000, the royalty would increase $5 per unit. The agreement further restricted the Welch Company to the manufacture of revolving wardrobes constructed with double vertical column supports for the racks and doors with right angle tracks, and specifically prevented it from manufacturing wardrobes of an improved pattern.
In June, 1913, an agreement was entered into with Smith relative to a reduction in the royalty payments with respect to the license of of a standard size, and made corresponding deductions in Welch Manufacturing Co. By that*3421 agreement Smith reduced his royalty to $3.75 a cabinet on those manufactured by the Welch Company of a standard size, and made corresponding deductions in royalties as to other sizes.
Wardrobes subsequently manufactured by the Welch Manufacturing Co. under the license were named the "Welch Revolving Wardrobe."
Royalties received by petitioner from licenses amounted as follows:
| Year | Total number of units | Total royalties | Average royalty per cabinet |
| 1913 1 | 425 | $6,445.00 | $15.16 |
| 1914 | 1,535 | 22,838.75 | 14.88 |
| 1915 | 1,338 | 19,281.06 | 14.14 |
| 1916 | 1,268 | 18,315.46 | 14.44 |
| 1917 | 1,335 | 18,996.52 | 14.23 |
| 1918 | 1,931 | 24,251.84 | 12.56 |
| 1919 | 2,046 | $25,762.42 | $12.59 |
| 1920 | 2,073 | 26,055.00 | 12.57 |
| 1921 | 964 | 12,350.00 | 12.81 |
| 12,915 | 174,296.05 | 13.50 |
Wardrobes with revolving racks were under production by March 1, 1913, at a rate of 3,000 per annum. At that time the show case business was highly competitive and had been so since 1910. During this period the business of petitioner remained good with the exception of the year 1911, when a strike occurred of all employees of the furniture factories in Grand Rapids, including*3422 that of petitioner.
The fair market value of patent No. 987,183 on March 1, 1913, was $200,000.
On July 1, 1910, petitioner acquired all of the assets and assumed all of the liabilities of the Michigan Barrel Co. of Grand Rapids, Mich., issuing in exchange therefor $100,000 par value of its capital stock. The debits and credits upon the books of account of petitioner covering this transaction were as follows:
| Debits: | |
| Land on account | $20,000.00 |
| Building and factory fixtures | 40,000.00 |
| Machinery Shafting and Belting | 30,000.00 |
| Inventory | 64,383.19 |
| Michigan Barrel Co. (a/c Rec. 7/1) | 35,006.57 |
| Michigan Barrel Co. (Bills Rec. 7/1) | 1,695.00 |
| Michigan Barrel Co. (Cash 7/1) | 14,284.88 |
| Michigan Barrel Co. (Collection 7/1 & 2) | 754.74 |
| Credits: | |
| Capital Stock | 100,000.00 |
| Surplus a/c | 93,046.56 |
| Bills Payable | 5,000.00 |
| Mich. Bbl. Co. (Note paid 7/2) | 5,000.00 |
| Mich. Bbl. Co. (a/cs paid 7/2) | 1,184.44 |
| Mich. Bbl. Co. (Payroll 7/2) | 1,893.38 |
*1031 Petitioner sold the good will and patents of the Michigan Barrel Co. to the Grand Rapids Refrigerator Co. under an agreement which first provided for a payment based upon a percentage of the business done and*3423 which was subsequently altered and a lump sum cash payment of $10,000 accepted by the petitioner in lieu of the payments originally provided in the agreement.
Respondent allowed a value of $135,000 for the assets acquired from the Barrel Company.
The plant of the Michigan Barrel Co. was located on the south side of Monroe Avenue, one block from petitioner's plant in the City of Grand Rapids, Mich. The land was of an area of 13 acres and was located along a railroad right of way. There were three factory buildings, each approximately 40 by 200 feet in dimensions and in addition a main factory building covering an area of approximately 100,000 square feet. All were in a good state of repair. The machinery was designed for woodworking and had been used in the manufacture of refrigerators. A part of one building, about 20 by 30 feet, used as an office, was torn down in 1918 to make way for a new structure. Prior to 1921 one of the buildings burned.
In June, 1910, the City of Grand Rapids purchased for the purpose of a filtration plant 4 acres of land adjoining on the north the land of the Michigan Barrel Co., paying therefor a consideration of $14,666.
The cash value*3424 of the assets of the Michigan Barrel Co. paid in for capital stock was at least $153,000.
The net earnings of the petitioner, according to the books of account, were as follows:
| Year | Net sales | Operating profit | Net profit before unrealized |
| profit and income tax | |||
| 1904 | $373,604.53 | $74,038.84 | $68,519.96 |
| 1905 | 433,022.16 | 43,098.52 | 41,600.54 |
| 1906 | 640,727.68 | 88,337.46 | 85,113.23 |
| 1907 | 722,722.21 | 91,619.45 | 86,391.14 |
| 1908 | 1 636,855.57 | 67,866.21 | 60,925.14 |
| 1909 | 1,064,853.83 | 155,859.62 | 154,386.52 |
| 1910 | 1,392,538.66 | 105,281.08 | 115,359.96 |
| 1911 | 1,203,833.83 | 66,838.54 | 65,579.66 |
| 1912 | 1,440,086.97 | 83,210.67 | 83,210.67 |
| 1913 | $1,454,627.05 | $71,912.19 | $70,582.40 |
| 1914 | 1,409,251.01 | 68,045.46 | 57,095.55 |
| 1915 | 1,270,885.60 | 86,938.45 | 65,279.75 |
| 1916 | 1,771,781.87 | 190,934.88 | 175,833.92 |
| 1917 | 1,904,417.44 | 205,451.10 | 179,093.51 |
| 1918 | 2,253,722.17 | 174,481.88 | 169,971.00 |
| 1919 | 3,128,779.94 | 248,680.25 | 260,071.67 |
| 1920 | 5,518,566.31 | 675,629.14 | 664,331.25 |
| 1921 | 3,922,278.13 | 437,390.92 | 465,794.38 |
*1032 The tangible net worth of petitioner, according*3425 to the books of account, amounted to the following:
| Jan. 1 | Capital stock Jan. 1 | Net worth exclusive of intangibles Jan. 1 |
| 1904 | $120,000 | $120,798.41 |
| 1905 | 170,000 | 189,318.37 |
| 1906 | 200,000 | 230,918.91 |
| 1907 | 200,000 | 316,032.14 |
| 1908 | 200,000 | 402,423.28 |
| 1909 | 492,700 | 514,301.42 |
| 1910 | 492,700 | 660,674.97 |
| 1911 | 700,000 | 969,081.49 |
| 1912 | 700,000 | 1,006,661.15 |
| 1913 | 700,000 | 1,019,871.82 |
| 1914 | 700,000 | 1,048,454.22 |
| 1915 | 700,000 | 1,049,549.77 |
| 1916 | 700,000 | 1,058,829.52 |
| 1917 | 722,300 | 1,199,925.44 |
| 1918 | 747,500 | 1,307,309.96 |
| 1919 | 747,500 | 1,498,643.85 |
| 1920 | 750,000 | 1,628,688.99 |
| 1921 | 1,500,000 | 1,796,150.85 |
The books of account of petitioner reflected the following:
| 1919 | 1920 | 1921 | |
| Net sales | $3,128,779.94 | $5,518,566.31 | $3,922,278.13 |
| Cost of sales | 1,819,021.61 | 3,472,534.14 | 2,003,406.71 |
| Gross profit | 1,309,758.33 | 2,046,032.17 | 1,918,871.42 |
| Selling expenses | 833,904.06 | 975,233.82 | 985,281.86 |
| Administrative expenses | 227,174.02 | 395,169.21 | 496,198.64 |
| Net operating profit | 248,680.25 | 675,629.14 | 437,390.92 |
| Other income or deductions | 11,391.42 | 1 11,297.89 | 28,403.46 |
| Net profit before unrealized | |||
| profit or income tax | 260,071.67 | 664,331.25 | 465,794.38 |
Charges on the books of account of petitioner included the following:
| Year | Depreciation | Patent costs | Advertising | Traveling costs |
| per books | charged to ex- | charged to | charged to | |
| pense on books | expense | expense | ||
| 1904 | $5,020.11 | $40.17 | $6,297.14 | |
| 1905 | 11,875.85 | 162.19 | 7,049.78 | $1,257.61 |
| 1906 | 14,590.60 | 1,803.45 | 6,839.02 | 1,696.41 |
| 1907 | 13,085.30 | 598.13 | 9,846.54 | 2,832.35 |
| 1908 | 11,160.18 | 807.74 | 6,539.35 | 7,202.40 |
| 1909 | 14,100.29 | 2,013.60 | 11,321.00 | 8,388.14 |
| 1910 | 33,162.38 | 1,580.01 | 13,303.48 | 15,080.74 |
| 1911 | 30,175.88 | 1,906.55 | 13,735.92 | 16,973.28 |
| 1912 | 27,747.87 | 9,649.97 | 35,407.27 | 5,998.53 |
| 1913 | 25,214.17 | 9,965.00 | 45,474.03 | 8,624.09 |
| 1914 | 26,093.08 | 2,471.09 | 28,789.68 | 6,946.04 |
| 1915 | 25,192.19 | 7,725.26 | 29,915.85 | 5,716.31 |
*1033 The buildings of petitioner were well cared for and kept in good repair. However, due to the gradual acquisition of heavy machinery greater loads and strains were imposed on these buildings during the years 1918 to 1921, inclusive, than during the years prior thereto.
During the years 1917 to 1921, inclusive, petitioner*3427 used in the regular production in its plant special machinery which it constructed at its plant. The cost of constructing this special machinery was all charged to expense. Most of these machines were developed prior to 1918. It is not now possible to determine the cost of these machines.
Prior to 1917 it was the policy of petitioner to charge betterments, replacements and extraordinary repairs directly to expense. It is now impossible to ascertain the cost of the items which should have been capitalized.
Costs of experimentation and development of patents were charged directly to expense.
Petitioner is entitled during the taxable years to an allowance of deductions from income on account of the exhaustion of patents based on the value thereof as of March 1, 1913, and a remaining life of 15 years.
A reasonable allowance for exhaustion, wear and tear of buildings, machinery and equipment acquired and installed during the year 1918 and used during part of that year amounts to $2,638.77.
The income and profits-tax return of the petitioner for the year 1918 was sworn to on April 22, 1919. Petitioner and respondent agreed in writing as follows:
JANUARY 26, 1924.
*3428 INCOME AND PROFITS TAX WAIVER
In pursuance of the provisions of subdivision (d) of Section 250 of the Revenue Act of 1921, Grand Rapids Show Case Company, of Grand Rapids, Michigan, and the Commissioner of Internal Revenue, hereby consent to a determination, assessment, and collection of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of the said Company for the year 1918 under the Revenue Act of 1921, or under prior income, excess-profits, or war-profits tax Acts, or under Section 38 of the Act entitled "An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes", approved August 5, 1909. This waiver is in effect from the date it is signed by the taxpayer and will remain in effect for a period of one year after the expiration of the statutory period of limitation, or the statutory period of limitation as extended by any waivers already on file with the Bureau, within which assessments of taxes may be made for the year or years mentioned.
GRAND RAPIDS SHOW CASE CO.,
SAMUEL D. YOUNG, Pres.
C. S. ALLEN, Sec'y.
D. H. BLAIR, Commissioner.
*1034 *3429 INCOME AND PROFITS TAX WAIVER
(For taxable years ended prior to March 1, 1921)
In pursuance of the provisions of existing Internal Revenue Laws Grand Rapids Show Case Company, a taxpayer of Grand Rapids, Michigan, and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the year 1918 under existing revenue acts, or under prior revenue acts. This waiver of the time for making any assessment as aforesaid shall remain in effect until December 31, 1925, and shall then expire except that if a notice of a deficiency in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall be extended sixty days, or (2) if an appeal is filed with said Board then said date shall be extended by the number of days between the date of mailing of said notice of deficiency and the date of final decision by said Board.
GRAND RAPIDS SHOW CASE, CO., Taxpayer.
(Signed) C. S. ALLEN, Secretary.
(Signed) D. H. BLAIR, *3430 Commissioner.
INCOME AND PROFITS TAX WAIVER FOR TAXABLE YEARS ENDED PRIOR TO JANUARY 1, 1922
(Parent)
GRAND RAPIDS, MICH., Oct. 14, 1925.
In pursuance of the provisions of existing Internal Revenue Laws Grand Rapids Show Case Company, a taxapayer of Grand Rapids, Michigan, and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the year 1918 under existing revenue acts, or under prior revenue acts.
This waiver of the time for making any assessment as aforesaid shall remain in effect until December 31, 1926, and shall then expire except that if a notice of a deficiency in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall be extended sixty days, or (2) if an appeal is filed with said Board then said date shall be extended by the number of days between the date of mailing of said notice of deficiency and the date of final decision by said Board.
GRAND RAPIDS SHOW CASE CO.,
*3431 (Signed) C. S. ALLEN, Sec'y.
D. H. BLAIR, Commissioner.
The income and profits-tax return of petitioner for the year 1919 was sworn to on May 11, 1920, and was stamped "Received" by the collector's office an May 12, 1920. Petitioner and respondent agreed in writing as follows:
In pursuance of the provisions of subdivision (d) of Section 250 of the Revenue Act of 1921, Grand Rapids Show Case Co., of Grand Rapids, Mich., *1035 and the Commissioner of Internal Revenue, hereby consent to a determination, assessment, and collection of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of the said for the years 1919, under the Revenue Act of 1921, or under prior income, excess-profits, or war-profits tax Acts, or under Section 38 of the Act entitled "An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes," approved August 5, 1909. This waiver is in effect from the date it is signed by the taxpayer and will remain in effect for a period of one year after the expiration of the statutory period of limitation, or the statutory period of limitation as extended*3432 by any waivers already on file with the Bureau, within which assessments of taxes may be made for the year or years mentioned.
GRAND RAPIDS SHOW CASE CO.,
(Signed) C. L. WELDON, Vice Pres.
Taxpayer.
(Signed) D. H. BLAIR, Commissioner.
INCOME AND PROFITS TAX WAIVER
(For Taxable Years Ended Prior to January 1, 1922)
DECEMBER 17, 1925.
In pursuance of the provisions of existing Internal Revenue Laws Grand Rapids Show Case Company, a taxpayer of Grand Rapids, Michigan, and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the year (or years) 1919, under existing revenue acts, or under prior revenue acts.
This waiver of the time for making any assessment as aforesaid shall remain in effect until December 31, 1926, and shall then expire except that if a notice of a deficiency in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall be extended sixty days, or (2) if an appeal*3433 is filed with said Board then said date shall be extended by the number of days between the date of mailing of said notice of deficiency and the date of final decision by said Board.
GRAND RAPIDS SHOW CASE COMPANY
(Signed) C. L. WELDON, V.P.
Taxpayer.
(Signed) D. H. BLAIR,
Commissioner.
The income and profits-tax return of petitioner for the year 1920 was sworn to on May 14, 1921, and filed on the same day.
The income and profits-tax return of petitioner for the year 1921 was sworn to on June 14, 1922, and was filed in June, 1922.
During the years 1918, to 1921, inclusive, the Welch Manufacturing Co. and the Wilmarth Show Case Co. were engaged in the same business as petitioner. These two corporations were separate and distinct but they operated through one selling organization. The output of either of them was less than one-half that of petitioner. *1036 The Welch Manufacturing Co. sold goods on the installment payment plan as well as for cash and on credit. The profits tax for these two corporations, according to the original returns and to determinations by respondent were based on the following data:
| WELCH MANUFACTURING CO. | ||||
| Invested | Gross profit | Net income | Profits tax | |
| capital | ||||
| Year 1918: | ||||
| Reported on original return | $247,810.66 | $232,515.24 | $46,252.09 | $7,028.17 |
| Year 1919: | ||||
| Reported on original return | 348,621.19 | 406,258.55 | 64,480.66 | 6,718.19 |
| According to letter of | ||||
| respondent, dated Oct. | ||||
| 13, 1924 | 351,446.05 | 406,258.55 | 70,707.00 | 8,001.83 |
| Year 1920: | ||||
| Reported on original return | 434,125.69 | 499,060.29 | 103,781.24 | 16,601.46 |
| According to letter of | ||||
| respondent dated Oct. | ||||
| 13, 1924 | 433,719.27 | 499,060.29 | 111,875.92 | 19,862.09 |
| Year 1921: | ||||
| Reported on original return | 447,933.17 | 315,841.99 | 44,185.55 | 1,070.18 |
| According to letter of | ||||
| respondent dated Apr. | ||||
| 14, 1926 | 458,366.26 | 315,841.99 | 45,604.08 | 1,186.96 |
*3434 The tax for 1921 indicated above was paid by the Welch Manufacturing Co.
| WILMARTH SHOW CASE CO. | ||||
| Invested | Gross profit | Net income | Profits tax | |
| capital | ||||
| Year 1918: | ||||
| Reported on original return | $421,789.27 | $197,237.72 | $39,956.56 | $964.03 |
| According to letter of | ||||
| respondent dated Feb. 1, | ||||
| 1924 | 424,727.57 | 199,987.15 | 44,739.09 | 1,552.18 |
| Year 1919: | ||||
| Reported on original return | 437,801.37 | 350,920.38 | 86,942.46 | 16,007.21 |
| According to tentative | ||||
| letter of respondent dated | ||||
| Jan. 24, 1925 | 441,466.32 | 348,170.95 | 86,724.73 | 14,522.23 |
| Year 1920 | ||||
| Reported on original return | 500,081.14 | 564,497.00 | 196,802.23 | 50,116.39 |
| According to tentative | ||||
| letter of respondent dated | ||||
| Jan. 24, 1925 | 495,776.30 | 568,940.41 | 201,738.57 | 52,331.95 |
| Year 1921: | ||||
| Reported on original return | 616,776.93 | 451,971.68 | 132,481.72 | 17,853.18 |
| According to tentative | ||||
| letter of respondent dated | ||||
| Jan. 24, 1925 | 622,431.26 | 447,528.27 | 129,002.93 | 16,145.02 |
The tax for 1918 indicated above was paid by the Wilmarch Show Case Co. The taxes indicated above for the years 1919, 1920 and 1921 were the subject of protest and the matter was settled by correspondence with*3435 the respondent.
Beginning in the year 1919 and continuing through all the succeeding years, petitioner, in addition to sales for cash and on credit, inaugurated the practice of making sales on the installment payment basis. Under this plan the initial payments were in substantially all cases less than 25 per cent of the contract prices and the succeeding payments small and numerous, spreading over periods from 6 months to 2 years. Installment sales were made to retailers throughout the United States, many of whom had a limited credit rating. Promissory notes for the deferred payments were accepted. These notes had no readily realizable market value save at a discount so great as *1037 to often exceed the profit estimated on the sale. In 1920 and 1921 the same selling prices were charged on all sales, whether payable in installments or otherwise. The sales agreement informly used by petitioner in making the installment sales is exemplified in the following contract:
GRAND RAPIDS SHOW CASE CO., Grand Rapids, Mich.
PURCHASE ORDER
5-31-21
Ship via Freight to Barnett & Pugh Street Address City Orville State Ohio Shipping Date about Sept. 1st or earlier if you advise. *3436
| INSTALLMENT CONTRACT | |||||||
| No. of Plan | Quan. | Length | Cat. No. | Height | Width | Remarks | Pric |
| 2 | 1 | Reg. | 251 | 7' 0" | 4' 4" | Panel end | $32.25 |
| 3-6 | 4 | Reg. | 251-A | 7' 0" | 4' 4" | Rev. wardrobe | 1,159.00 |
| 12 | 1 | Reg. | 251 | 7'0" | 4'4" | Mirror Alcove | 186.30 |
| 13 | 1 | Reg. | 251 | 7'0" | 4'4" | Gum End | 32.25 |
| 1,409.80 |
This order is taken with the understanding that there will be no further advance, and Barnett & Pugh are to have advantage of any decline 30 days prior to designated shipping date.
TERMS: $209.80 cash net 30 days; balance in 8 equal monthly payments thereafter, covered by notes with interest at 7% per annum.
Wood Qu. Oak. #16
Finish Wax
Branch Cleveland
Salesman ANDERSON & KEY
Signed BARNETT-PUGH CO.
Per F. K. PUGH.
Customer's accounts were not credited with the amounts represented by the promissory notes, on the books of petitioner, until such notes had been paid. The promissory notes for the deferred payments on installment sales were occasionally discounted at the bank by petitioner. The notes were then unconditionally endorsed by petitioner and the transactions were based largely on the credit of petitioner. *3437 The installment sales contracts were filed in a separate file. In the books of account the installment sales were entered on the accrual basis, the entire contract price being credited to sales for the year in which the goods were shipped. In closing the books of account for the year 1920 an entry was made crediting a reserve for unrealized profits from installment sales, in the amount of $206,066.07, and debiting sales account the same amount.
At the close of 1919, 1920, and 1921 petitioner's books of account reflect unpaid balances on installment contracts, divided as to the year or years in which the sales represented by such contracts were made, as follows:
| Year in which sales were made | ||||
| Balance at close of - | (1919) | (1920) | (1921) | Total |
| 1919 | $292.40 | $292.40 | ||
| 1920 | $409,753.10 | 409,753.10 | ||
| 1921 | 7,786.19 | $592,854.76 | 600,640.95 | |
| 292.40 | 417,539.29 | 592,854.76 | 1,010,686.45 |
*1038 In its original income and profits-tax returns for 1920 and 1921, which bear the collector's stamps of receipt dated May 14, 1921, and June 14, 1922, respectively, petitioner reported gross sales, less returns and allowances, in the amounts*3438 of $5,312,500.24 and $3,826,061.86, respectively, the schedules attached thereto showing that said amounts had been determined in the following manner:
| 1920 | 1921 | |
| Total sales (less returns and allowances) | $ 5,518,566.31 | $3,922,278.13 |
| Less: Reserve for unrealized profits | 206,066.07 | 96,216.27 |
| Gross sales, less returns and allowances, returned | 5,312,500.24 | 3,826,061.86 |
Respondent held that petitioner was not entitled to compute its income from installment sales according to the installment sales method, and added to income, for 1920 and 1921, the amounts deducted by petitioner from gross sales in those years as reserve for unrealized profits.
OPINION.
SIEFKIN: The questions involved are:
1. The March 1, 1913, value of patent No. 987,183 or the franchise under which the petitioner used it and was entitled to keep manufacturers out of the field;
2. The reinstatement in invested capital of (a) the amounts spent in acquiring, developing, maintaining and defending the patent, and (b) $85,000 paid to McCrorey which had been charged as expense;
3. The reinstatement in invested capital of $61,288.53 constituting what is alleged to be excessive depreciation*3439 charged off in the years 1904 to 1913, inclusive. The petitioner also contends that part of this sum should be reinstated for the purpose of correctly computing the pre-war income;
4. The value of assets acquired in 1910 from the Michigan Barrel Co. in exchange for $100,000 of the petitioner's capital stock. This issue relates both to invested capital and to the amount of depreciation to be taken on such assets during the taxable years in question;
5. Whether the petitioner is entitled to report its income in 1920 and 1921 upon the installment sales basis;
*1039 6. Whether the petitioner is entitled to special assessment; and
7. Whether the deficiencies asserted are barred by the statute of limitations.
1. The original petition filed by the taxpayer asserted that patent No. 987,183 had a value on March 1, 1913, of $1,500,000. At the hearing, however, the petitioner amended its petition to increase this amount to $2,500,000. The petitioner asks that that value be used as the basis for computing the exhaustion allowance during all of the years in question - 1918 to 1921, inclusive.
The facts have been set out in detail in our findings. Testimony of witnesses*3440 at the hearing in support of the value of $2,500,000 was based primarily upon assumptions that on that date the petitioner stood supreme in the field with a device, the worth of which was known and which, it could reasonably be expected, would result in the manufacture and sale of at least 3,000 wardrobes per year over the remaining life of the patent; that after deducting the royalty payable to the inventor, the net profit on each wardrobe would be approximately $50 each, and that it also might be reasonably expected that the Welch Manufacturing Co., a licensee under the patent, would sell 1,500 wardrobes a year over the patent period, which, based upon the license fee, would bring $250,000 over the patent period. It was further assumed that the total figure of two and one-half million dollars thus arrived at need not be discounted because of the practical certainty of income in excess of that estimate. The respondent, on the other hand, contends that such a value to the petitioner, or to anyone else, on March 1, 1913, was entirely beyond all reason, and that financial conditions, the tariff, the world war, legislation and numerous other elements occurring between March 1, 1913, and*3441 1928, the date of the expiration of the patent, could not possibly have been foreseen; that the evidence shows very large amounts spent in advertising and personal solicitation for business; that there was considerable doubt on March 1, 1913, as to the validity of the Smith patent; that it was in litigation by others as it had been by the petitioner prior to 1913; and that the fact that large amounts were spent for defending the patent after 1913 shows at least that the petitioner was not in a supreme position by reason of the ownership of the Smith patent.
The respondent also points out that one of the law suits involving the validity of the patent, the one with the Welch Company, was settled by granting a license agreement to that company to manufacture the wardrobes at $15 each. The respondent argues that because of that fact it must be assumed that there was some doubt as to the validity of the Smith patent, since it is hard to conceive of the petitioner licensing a competitor $15at a wardrobe when it could have *1040 made $50 a wardrobe by manufacturing them itself. The Himmel company was also litigating the patent rights in question.
The petitioner, explaining*3442 its net earnings from 1911 to 1915, maintained that such net earnings would be considerably increased had it not charged off substantial sums as expenses which might properly have been capitalized and included in this capital structure, yet, in computing the value of the patent using Hoskold's theory, or applying a computation based on the license value of the patents, the petitioner does not include the amounts so charged off in the capital structure. The evidence introduced shows that during the years in question the petitioner had average net tangible assets in excess of a million dollars. Yet, during those same years, it earned an average of less than $70,000 a year, or less than 7 per cent upon its net tangible assets. If there should be added to the earnings the amounts of patent costs, advertising costs and traveling expenses charged off as expenses, and those same items are included in the capital structure, we are still unable to find an earning power, as evidenced by the actual earnings two years before and three years after the basic date, which would give a value to intangibles much in excess of $200,000. That the patent had some such value we are satisfied, but in*3443 view of all the facts we are inclined to the opinion that the earnings in the subsequent years have undoubtedly influenced the witnesses in their opinions of value as of March 1, 1913, and that any excess over $200,000, in all probability, was not attributable to the patent itself, but to the business ability of the officers in charge of the fortunes of the company, particularly Samuel D. Young, the president, who testified at length at the hearing. His ingenuity, ability and business acumen, in our opinion, were undoubtedly worth more to the petitioner than the Smith patent. In view of all the circumstances, we do not feel justified in placing a greater value upon the patent or the license to use it than $200,000 as of March 1, 1913, and the exhaustion allowance in the years in question should be computed upon that basis.
2. The evidence clearly shows that the petitioner paid $85,000 to McCrorey for his half interest in the Smith patent, payment therefor being completed by 1914. The evidence also shows that this amount was charged to expenses. Similarly the petitioner expended $46,134.75 in defending and protecting the patent in the years 1910 to 1921 and up to 1918 these*3444 amounts were charged off as expense. The total so charged to expense was $40,969.20, and both that amount and the $85,000 paid to McCrorey should be restored to surplus and thus included in the computation of invested capital of the petitioner, since it is clear that they are capital items. See Gilliam Manufacturing Co.,2 B.T.A. 272; Beaumont Co.,3 B.T.A. 822; Goodell-Pratt Co.,3 B.T.A. 30; Deltox Grass Rug Co.,7 B.T.A. 811.
*1041 3. The evidence also shows that the buildings of the petitioner had a useful life of about 40 years and that the proper rate of depreciation was 2 1/2 per cent. However, during the years 1904 to 1913 the petitioner had charged off in excess of the proper depreciation rate the sum of $61,288.53. That amount should be restored to surplus and thus included in the computation of invested capital. See Northwestern Yeast Co.,5 B.T.A. 232; Excelsior Motor Manufacturing & Supply Co.,5 B.T.A. 582; and *3445 Box Board & Lining Co.,5 B.T.A. 289.
4. Petitioner seeks to prove a value of the assets acquired from the Michigan Barrel Co. in 1910, first, by opinion evidence as to the assets, and second, by opinion evidence as to the value of the stock of the petitioner exchanged for such assets. The book value of the assets as carried by the Michigan Barrel Co. was $193,046.56. The respondent allowed $135,000, basing such value upon the book value of the stock of the petitioner issued for the assets. We are not satisfied with the evidence given either as to the value of the assets or as to the value of the stock, but we do hold that the book value of the stock issued in exchange for the assets was $153,000 and the assets should be included in invested capital in that amount instead of $135,000 as determined by the respondent, since, from all the facts, we are satisfied that the book value of the stock was not more than the actual value. We are not able to say with any certainty that the Commissioner was in error in computing depreciation on buildings and machinery acquired from the barrel company at $70,000, the book value thereof, instead of $125,000, and we therefore*3446 approve his action in that respect.
5. Petitioner alleges error on the part of the respondent in holding that it is not entitled to compute income upon the installment sales method, and in restoring to income the amounts deducted by it from gross sales of those years as representing the unrealized profits included in the unpaid installment contracts at the close of those years. Respondent merely denies error, in his answer and brief, without disclosing the reasons for his action. In the deficiency notice, respondent took the position that the amounts deducted from gross sales by the petitioner should be disallowed "for the reason that the provisions of article 23 of Regulations 45 have not been complied with."
That the petitioner, during 1920 and 1921, regularly sold personal property on the installment plan is neither admitted or denied by respondent, though counsel, on one or more occasions during the hearing, expressed some doubt that the transactions referred to were sales on the installment plan. However, the facts established by the evidence should dispel all doubt in that respect. The evidence discloses that the transactions referred to were made on the basis of *1042 *3447 an initial payment, generally less than 25 per cent of the contract price, with deferred payments spreading over periods from 6 months to 2 years. Under the terms of the contracts, title to the property remained in the petitioner until the entire purchase price thereof, including any notes given therefor, had been paid. Usually promissory notes for the deferred payments were accepted, but as the makers of these notes are retailers scattered throughout the United States, many of whom have a limited credit rating, they are practically unknown and without financial standing in the markets available to the petitioner for the disposition of such notes. The notes could not be readily disposed of by the petitioner save at a discount so great as to often exceed the estimated profit on the sales; and they could only be discounted at the banks upon the unconditional endorsement of the petitioner. Obligations of this character are without a readily realizable market value, and can not be regarded as the equivalent of cash. They are of little value other than as evidence of the promises of the purchasers to meet the deferred payments under the sales contracts.
*3448 The right of a taxpayer who regularly sells or otherwise disposes of personal property on the installment plan to return its income from installment sales in accordance with the installment sales method, as laid down in the statute, is established by the provisions of section 212(d) of the Revenue Act of 1926, which are to be applied retroactively under section 1208 of the same Act; and this right can not be made dependent upon the employment of certain forms or of a particular method of accounting. If the forms and method of accounting employed contain all the information necessary to a proper computation of income, the petitioner is entitled, if it so elects, to have its income from installment sales computed in accordance with the installment sales method. L. S. Weeks Co. v. Commissioner,6 B.T.A. 300; Appeal of Blum's, Inc.,7 B.T.A. 737; Warren Reilly v. Commissioner,7 B.T.A. 1327.
The statute does not require that the income shall be computed in any particular manner. It is of primary importance that the method employed clearly reflects income. *3449 Appeal of Blum's, Inc., supra.In this case petitioner has included in income the gross amount of installment sales, less the unrealized profits included in the unpaid deferred payments at the close of each year, the unrealized profits being determined by applying the proper percentages of gross profit to the outstanding installment contracts at the close of each year. This is precisely the method which we approved with certain modifications in Warren Reilly v. Commissioner, supra, and the income reflected by this method is the same as that obtained by application of the gross profit percentages to the installment payments received during the year.
*1043 In Appeal of Blum's, Inc., supra, after reviewing the history of the installment sales method of returning income, we held that a taxpayer who changes from the straight accrual method to the installment sales method of returning income must return as income of the year in which the change is made, and of all subsequent years, a proper proportion of all installment payments, actually received in those years, relating to sales effected in years prior to the change in method, *3450 notwithstanding that the entire profits from the sales to which such payments relate were, under the method of returning income then employed, returned and taxed as income of the years in which such sales were effected. We stated as follows:
From this brief review of the history of the installment sales method of returning income, it is manifestly clear that Congress has conferred upon dealers in personal property on the installment plan the privilege of returning income from installment sales upon the method prescribed in section 212(d) of the Revenue Act of 1926; that such dealers may avail themselves of this right in computing income under the Revenue Act of 1916 and all subsequent revenue acts, and acts amendatory thereof; and that Congress, by implication, at least, has rejected the rule prescribed by article 42 of Regulations 45 (1920 edition) for returning income on the installment sales method, and has manifested an intent to sanction the rule laid down in article 42 of the second edition of Regulations 45, promulgated December 29, 1919, as a proper interpretation of the statute and as correctly defining the installment sales method of returning income. The rule laid down*3451 in Regulations 45, promulgated December 29, 1919, is that a taxpayer employing the installment method of computing income must include a proper portion of the installment payments received during the taxable year on account of sales effected in earlier years. Note also that the statute does not provide for returning only a proportion of the installment payments received during the year relating to sales made after the change of method, but provides for returning a proportion of "the installment payments actually received in that year." To the same effect are the provisions of article 42 of Regulations 69, promulgated by the Commissioner under the Revenue Act of 1926.
Thus, at last we have a remedy for the most glaring ills of the transition period in the requirement that a taxpayer employing the installment sales method of returning income must include a proper proportion of the entire installment payments received during the year, though some of them may relate to sales tne entire profits from which were returned in years prior to the change of method.
On May 29, 1928, the President affixed his signature to the Revenue Act of 1928; and among the provisions thereof which became*3452 immediately effective are those contained in section 705, which are as follows:
(a) If any taxpayer by an original return made prior to February 26, 1926, changed the method of reporting his net income for the taxable year 1924 or any prior taxable year to the installment basis, then, if his income for such year is properly to be computed on the installment basis -
(1) No refund or credit of income, war-profits, or excess-profits taxes for the year in respect of which the change is made or any subsequent year shall be *1044 made or allowed, unless the taxpayer has overpaid his taxes for such year, computed by including, in computing income, amounts received during such year on account of sales or other dispositions of property made in any prior year; and
(2) No deficiency shall be determined or found in respect of any such taxes unless the taxpayer has underpaid his taxes for such year, computed by excluding, in computing income, amounts received during such year on account of sales or other dispositions of property made in any year prior to the year in respect of which the change was made.
(b) Nothing in this section shall be construed as in any manner modifying sections*3453 607, 608, 609, or 610 of this Act, relating to the effect of the running of the statute of limitations.
Under the foregoing provisions of the Revenue Act of 1928, if a taxpayer by an original return, filed prior to February 26, 1926, for any year prior to 1925, changed the method of reporting income to the installment sales basis, no deficiency may be determined in respect of such year or any subsequent year, unless the taxpayer has underpaid its taxes for such year, the tax to be computed upon the net income from which there is to be excluded any amounts received during the year on account of sales made in any year prior to that in which the change is made. Thus the provisions of section 212(d) of the Revenue Act of 1926 and the rule laid down in Appeal of Blum's, Inc., supra, which require that a taxpayer changing to the installment basis of reporting income must return as income of the year in which the change is made, and of all subsequent years, a proper proportion of the installment payments received in those years relating to sales effected in years prior to that in which the change was made, have been modified by the provisions of section 705 of the Revenue*3454 Act of 1928, so that they no longer apply, provided the change was made for a taxable year prior to 1925 and by an original return filed prior to February 26, 1926.
In the instant case the petitioner made the change to the installment basis of reporting income for the year 1920 by an original return filed on May 14, 1921. Therefore, in computing net income for 1920 on the installment basis, any amounts received in that year on account of sales made in prior years are to be excluded. No installment payments were received in 1921 on account of sales made in any year prior to 1920.
The petitioner's books of account for 1920 and 1921 reflect net sales, cost of goods sold, and gross profits as follows:
| 1920 | 1921 | |
| Net sales | $5,518,566.31 | $3,922,278.13 |
| Cost of goods sold | 3,472,534.14 | 2,003,406.71 |
| 2,046,032.17 | 1,918,871.42 |
*1045 The above figures indicate that the percentages of gross profits, based upon the total sales, are 37.075 for 1920 and 48.922 for 1921. The evidence is that the same selling prices were charged on all sales whether payable in installments or otherwise; hence, these percentages of gross profit are applicable to the installment*3455 sales of the years mentioned.
Section 212(d) of the Revenue Act of 1926, provides that a taxpayer may return as income from installment sales, in any taxable year, "that proportion of the installment payments actually received in that year which the total profit realized or to be realized when the payment is completed, bears to the total contract price." Thus the income from installment sales to be returned by this petitioner for 1920 is 37.075 per cent of the installment payments received in that year on account of sales made in 1920, and for 1921 it is 37.075 per cent and 48.922 per cent of the installment payments received in that year on account of sales made in 1920 and 1921, respectively. By applying the proper gross profit percentages to the unpaid deferred payments on installment contracts at the close of each year, it is found that the unrealized profits at the close of 1920 and 1921 are $151,915.96 and $292,923.14, respectively. As the respondent determined the net income for both years on the accrual basis, the net income so determined for 1920 should be reduced by $151,915.96, and that for 1921 should be reduced by $141,007.18.
6. The petitioner contends that its*3456 profits taxes should be computed under the special assessment provisions because (a) at the time of its organization in 1904 it acquired, in addition to tangible assets of a predecessor partnership, intangible assets of large value, and the amount of such value can not be determined; (b) in the early years of the petitioner's business various capital expenditures were charged to expense and for that reason it is impossible to determine the petitioner's invested capital; (c) there were abnormal conditions in the method of its organization, because large capital expenditures were charged off, because intangible values in large amounts did not appear on its books of account; because, during 1918 to 1921, it was reaping the fruits of activities of prior years, thus creating an abnormality of income and because there was an abnormality in its prewar credit as the result of unusual conditions existing during those years. It further submits that only two other corporations were properly comparable to it and asks that they be used in computing its profits taxes under sections 327 and 328 of the Revenue Acts of 1918 and 1921.
*3457 From all the evidence we are satisfied that the tax should be computed under the special assessment provisions, but we are not satisfied that the evidence submitted as to the proposed comparatives compels a computation using only such comparatives. Since this *1046 proceeding was heard, the Supreme Court of the United States has decided the case of Blair v. Osterlein Machine Co.,275 U.S. 220; 72 L.Ed. 24, and this Board has promulgated its Rule 62 to cover special assessment cases. So far as the special assessment feature is concerned, the taxes should be computed under that rule.
7. The questions raised as to the statute of limitations have been decided adversely to the petitioner in Stickley Brothers Co.,9 B.T.A. 935, and Pantlind Hotel Co.,9 B.T.A. 878. We hold that the deficiencies are not barred.
Reviewed by the Board.
Judgment will be entered under Rules 50 and 62(c).
TRAMMELL and ARUNDELL dissent on the second point.