erning the valuation of inventories of several different types of enterprises have been outlined by the Department: 1. Dealers in securities may use (a) cost or (b) cost or market, whichever is lower, as in the case of traders or manufacturers, or (c) market; in any case the same method must be applied to each security and must be followed from year to year. A bank must separate its securities as between those purchased for investment and those bought for resale to its customers (see also I. T. 1429). The former may be valued at cost only. Individuals buying and selling securities for investment or speculation are not dealers in securities; on the other hand dealers in securities cannot take advantage of the capital gain provision (Art. 1585). 2. Farmers were allowed in their 1920 returns to use the inventory methods described above or the "farm-price" method, i. e., market price less cost of marketing, providing amended statements of income for 1917 and subsequent years were filed. The rule has since been somewhat extended, it being possible now to change to this method without permission, but on the following condition: that the opening inventory for the year in which the change is made be valued on the same basis and a statement submitted showing the resulting increase in income, if any, for the previous year. Similarly, changes in the opening inventory from other causes should be accompanied, in the next tax return, by a statement indicating the effect on the income of prior years (Art. 1586). 3. Averaged costs in the case of lumber manufacturers were permitted under the old regulations. This rule has to some extent been amplified in Regulations 62, by permitting the valuation of joint-cost products on the basis of allocated costs bearing some relation to selling prices (Art. 1587). Averaged costs are not specifically prohibited in the regulations. 4. Dry-goods dealers and other retailers are permitted to use the "retail" method of inventory valuation. Its use must be reflected in the accounts actually kept and changes in method must meet the approval of the Commissioner. Under the retail method selling prices are reduced to cost by applying the percentage of "purchase mark-up," due regard being had for markdowns and other changes of value and for variations as between departments (Art. 1588).1 The Department has disapproved, at various times in the past, the following methods of valuations: I. Average costs (T. B. R. 48); the present application of this rule is doubtful. 2. Base-stock method 2 (T. B. R. 65). 3. Average market price for the last five years (T. B. M. 31). 4. Market values alone (S. 927 and 1003). Security dealers are now allowed to use such value. 5. Market, if less than cost, in the case of a real estate dealer (O. D. 848) or in the case of purchases not yet delivered (T. B. R. 15). Cost or market, less expected rebates (A. R. R. 136, 590; A. R. M. 4). 7. Subsequent changes in valuation, except after audit by the Department (O. D. 1132). Adjustments between the end of the year and the time of filing the return cannot reduce inventory valuations (A. R. M. 129). Tobacco companies were permitted averaged costs (A. R. R. 18). Where cost cannot be ascertained, selling price less estimated profits may be used (O. 844). Profits could not be averaged where an inventory was taken every second year (O. D. 133). Grain inventories may be assumed to be the most recent purchases (I. T. 1560). 1 See also Mim. 3077 where the inventory method is changed to the retail method. 2 This method, applicable to raw materials, consists in taking the same unit price, year after year-a price generally much under the prevailing market. Liquor stocks were required to be inventoried after prohibition took effect (A. R. M. 33). Carrying charges on liquor in bond could be allocated but not by means of a theoretical formula which included interest (A. R. R. 140). Cost or market is applicable to dealers in foreign exchange (O. D. 834), or in second-hand automobiles (O. D. 888), or the latter may be valued at market less expected selling costs (A. R. R. 3549). Permission was ordinarily granted to change from cost to cost or market unless the sole reason for the change was to lower the tax (an exception was made for 1918 and 1919). (See A. R. M. 85 and A. R. R. 506.) Permission having been granted, it must be followed. No amended returns for past periods were required unless previous inventories had been improperly valued (A. R. M. 38). A change back to cost in 1921 was not permitted when the only reason therefor was that cost had been used in previous years (I. T. 1189). In one instance the asked price was permitted in the absence of any other market quotation (A. R. R. 487). Inventories were not required in the case of young trees before their marketable size had been reached (I. T. 1368) or in the case of florists (O. D. 995) or persons engaged in the propagation of oysters (O. D. 684). Unsold goods in transit should be included in inventories (A. R. R. 538), and all c.o.d.'s which were not included in sales (O. D. 24). Ordinarily c.o.d.'s are to be inventoried, the inventory figure not to include postage thereon, however (I. T. 1759). Transactions in futures cannot be inventoried (A. R. M. 100, 135; I. T. 1166). Where title to bricks passed in the year of their manufacture, although not actually separated by the seller, the bricks may be inventoried (A. R. R. 2658). Advances and deposits with banks and dealers in foreign countries cannot be inventoried (A. R. R. 3131). XVIII NON-DEDUCTIBLE EXPENDITURES Non-deductible expenditures in general. Personal expenses. Capital expenditures. Non-allowable deductions of corporations. General summary of deductions. Most of the non-deductible expenditures have already been referred to. Some of the more common expenditures falling within the specific prohibitions of the present regulations are: PARTICULARS Personal and living expenses (see next Losses not arising from business, trans- Gifts to persons or to ordinary business Gifts to charitable, and similar corporations (see page 149) Gifts to charitable, and similar corporations in excess of 15% of net income (see page 149) Damages or compensation for personal injury (see page 170) Losses on wash sales (see page 63) Loss of income not previously or concurrently reported as income (see page 170) Improvement taxes (see page 134) PARTICULARS INDIVIDUALS CORPORATIONS X X X X X X X X X X X X X X X Income taxes, except those paid to a state (see page 134) Interest paid to purchase or carry taxfree obligations (see page 132) Improvements or additions to property (see page 31) Expenditures making good depreciation (see page 113) Excessive compensation to corporate officers (see page 156) Dividends (see page 170) Special assessments on stock (see page Loss on sale of own stock (see page 49) Personal and living expenses of individuals cannot be deducted on either individual or corporate returns unless in the nature of traveling expenses.1 Taxes, interest, and losses, within the limits indicated in the schedule above, are deductible in toto, notwithstanding the fact they may have been incurred in connection with personal property or expenses. It is usually an easy matter to distinguish between deductible and non-deductible personal expenses, and it is found in practice that most individuals understand and do not question the distinction made by the Department (Art. 291). Capital and revenue expenditures follow, generally, the same classification as in ordinary accounting procedure, as has already been outlined. A capital expenditure is not easily defined to cover all cases but usually includes any expenditure in connection with a so-called "capital" asset necessary (1) to give full title of property to the purchaser; (2) to put a new asset into proper operating posi1 See page 154. 2 See pages 123 and 126. 3 See page 31. |