The Internal Revenue Code of 1954, § 167(b)(2), provides an
accelerated method of depreciation, known as the "declining balance
method" of computing depreciation deductions for income tax
purposes; but § 167(c) limits the use of this method to property
"with a useful life of 3 years or more." The applicable Treasury
Regulation, § 1.167(b), issued in 1956, defines "useful life" as
the "period over which the asset may reasonably be expected to be
useful to the taxpayer in his trade or business," and § 1.167(b)-2
provides that "in no event shall an asset . . . be depreciated
below a reasonable salvage value."
Held.
1. This regulation is valid,
Massey Motors, Inc. v. United
States, ante, p.
364 U. S. 92, and
the declining balance method may not be used in computing the
depreciation on the passenger cars used by petitioner in its
automobile rental business during the years 1954-1956, inclusive,
since they were so used for less than three years. Pp.
364 U. S.
123-124.
2. Since the trucks used in petitioner's truck rental business
were so used for more than three years, they were subject to
depreciation under the "declining balance method"; but their
salvage value at the time of disposition must be accounted for in
the depreciation equation. Pp.
364 U. S.
124-129.
(a) Having elected to compute depreciation on the "declining
balance method" in connection with his returns for the years
1954-1956, inclusive, petitioner cannot abandon that method on the
ground that it results in a retroactive application of a Treasury
Regulation issued in 1956. Pp.
364 U. S.
125-126.
(b) The provision of Treasury Regulation §1.167 (b)-2 that, "in
no event shall an asset . . . be depreciated below a reasonable
salvage value," is valid. Pp.
364 U. S.
126-129.
268 F.2d 604, affirmed.
Page 364 U. S. 123
Mr. Justice CLARK delivered the opinion of the Court.
This case, like No. 141,
Massey Motors, Inc. v. United
States, and No. 143,
Commissioner v. Evans,
364 U. S. 92,
involves the depreciation allowable on cars and trucks used by
petitioner's predecessor in its automobile rental business during
the years 1954-1956, inclusive. The taxpayer elected to avail
itself of the accelerated method of depreciation provided in §
167(b)(2) [
Footnote 1] of the
Internal Revenue Code of 1954 -- known as
Page 364 U. S. 124
"the declining balance method." Section 167(c) of the Code
limits the use of this method to property "with a useful life of 3
years or more." The applicable Treasury Regulations on
Depreciation, § 1.167(a)-1(b), T.D. 6182, 1956-1 Cum.Bull. 98,
issued in 1956, define useful life as the "period over which the
asset may reasonably be expected to be useful to the taxpayer in
his trade or business. . . ." Admittedly, if this regulation is
valid, taxpayer's passenger cars covered by it would not meet the
three-year requirement of § 167(c). The Commissioner denied the
petitioner the right to use the declining balance method as to
those cars. What we have said in
Massey and
Evans,
supra, disposes of the contention as to the meaning of "useful
life" here. We therefore hold, as did the Court of Appeals, 268
F.2d 604, that the regulation as to "useful life" involved here is
valid and applicable to petitioner.
The remaining issues pose questions that relate to the
depreciation on the trucks of the taxpayer which concededly had a
useful life in excess of three years and were therefore subject to
depreciation under the declining balance method authorized under §
167(b)(2). Section 1.167(a)-1(b), issued in 1956 and subsequent to
some of the tax years involved in petitioner's claim, was applied
by the Commissioner. He ruled that the salvage value of the trucks
at the time of disposition must be accounted for in the
depreciation equation. Petitioner contended that this resulted in a
retroactive application of the regulation and, in any event, it was
invalid because it was not authorized under the 1954 Code. After
petitioner paid the assessed tax and was
Page 364 U. S. 125
denied a refund, this case was filed. The trial court held in
favor of petitioner, but the Court of Appeals reversed. It held
that the regulation applied and was not retroactive, because it was
only declaratory of existing law, and that salvage value must be
computed in the depreciation equation. We granted certiorari, 361
U.S. 811, and heard the case as a companion to
Massey and
Evans, supra. We agree with the result reached by the
Court of Appeals.
Petitioner succeeded J. Frank Connor, Inc., by merger in July,
1956; the taxes accrued against Connor during the fiscal years
1954, 1955, and 1956. Connor was engaged in the business of renting
and leasing automobiles and trucks, without drivers, during the
pertinent years. In the preparation of its returns for the years
ending March 31, 1954, 1955, and 1956, Connor claimed depreciation
on its automobiles on the basis of a four-year useful life. The
taxes so computed were paid. Subsequently, and after merger,
petitioner filed claims for refund on all three years. This claim
was based on an election in accordance with § 1.167(c)-1(c) of the
Treasury Regulations issued under the 1954 Code, relating to the
declining balance method of depreciation. [
Footnote 2] We see nothing to the
Page 364 U. S. 126
contention of retroactive application. The petitioner chose its
own weapon, began the struggle under it, and, at this late date,
cannot be allowed to abandon it.
As to the salvage issue, the petitioner claims that, under the
method it chose, the Congress built in an artificial salvage value,
i.e., the amount remaining after the application of the
depreciation equation. The regulation, however, says that "in no
event shall an asset . . . be depreciated below a reasonable
salvage value." The issue is the narrow one of whether this
regulation is valid under the congressional authorization providing
that, as to depreciation, the term "reasonable allowance" shall
include an allowance "computed in accordance with regulations
prescribed by the Secretary or his delegate." Internal Revenue Code
of 1954, § 167(b). We think that it is.
As we pointed out in the companion cases, the purpose of
depreciation accounting is to allocate the expense of using an
asset to the various periods which are benefited by that asset. The
declining balance method permits a rapid rate of depreciation in
the early years of an asset's life. The Congress has permitted
under this method an allowance not to exceed twice the "straight
line" rate, which rate was approved in
Massey and
Evans, supra. In application, the taxpayer computes his
straight-line percentage rate and then doubles it for the first
year. This doubled rate is then applied each subsequent year to the
declining balance. Because of a belief that most assets do lose
more value in the earlier years, this method is justified as an
attempt to level off the total costs, including
Page 364 U. S. 127
maintenance expense, which will generally be greater in the
later years. This means, even under the Commissioner's theory, that
if an asset is disposed of early in what was expected to be its
useful life in the business, the depreciation taken may greatly
exceed the difference between the purchase price of the asset and
its retirement price; this is a result of the conscious choice to
permit rapid depreciation. But this, by hypothesis, is an unusual
situation. There is nothing inherent in the declining balance
system which requires us to assume that depreciation should be
allowed beyond what reasonably appears to be the price that will be
received when the asset is retired. This would permit a knowing
distortion of the expense of employing the asset in the years after
that point is reached . It therefore appears that the
interpretation contended for by the taxpayer does not comport with
the overriding statutory requirement that the depreciation
deduction be a reasonable allowance. § 167(a).
In challenging the regulation, the taxpayer relies upon the
following excerpt from S.Rep. No. 1622, 83d Cong., 2d Sess.
201:
"The salvage value is not deducted from the basis prior to
applying the rate, since, under this method, at the expiration of
useful life, there remains an undepreciated balance which
represents salvage value."
The regulation is consistent with the first part of the
sentence, for salvage value is not deducted from the basis prior to
the application of the rate. But petitioner contends that the
regulation is contrary to the second part of the sentence, which
appears to equate salvage value under the declining balance method
with the mathematical residue which must always exist under the
system. This, it appears to us, is but recognition that, under this
method, there is some theoretical salvage value always
Page 364 U. S. 128
left. But it only "represents salvage value," and, when true
salvage value exceeds this amount, the latter controls. Moreover,
the regulation can only carry out the fundamental concept of
depreciation -- that it is allowable only in such amount, together
with salvage value, as will effectuate the recovery of cost over
the period of useful life. Furthermore, the House Report said
that
"[t]he changes made by your committee's bill merely affect the
timing and not the ultimate amount of depreciation deductions with
respect to a property. [
Footnote
3]"
Senator Humphrey stated that, under the declining balance
method,
"[t]he total deduction over the life of the property will not be
increased, and only the same total sum will be given as a tax
deduction. . . ."
Hearings before the Senate Committee on Finance, 83d Cong., 2d
Sess., Pt. 1, 95. Both of these statements clearly support the
regulation, since, if the taxpayer prevailed, it would be able to
take a greater total amount of depreciation under the declining
balance method than under the straight-line method, even if salvage
value under the latter method were limited to scrap value.
Petitioner also seems to rely on administrative interpretation.
It cites a footnote to what is known as Form 2106, issued by the
Commissioner. This footnote to Item No. 41 reads,
"Salvage value is the estimated resale or trade-in value of the
vehicle, determined at the time of purchase. If declining balance
method of depreciation
Page 364 U. S. 129
is used, disregard salvage value in computing depreciation."
Petitioner says this is a direct instruction to "disregard
salvage value" entirely, since it is built into the equation.
However, we are not inclined to give the footnote such weighty
consideration. The form is but a worksheet, and the footnote
appears to refer to the fact that salvage value is disregarded at
the outset of the application of the depreciation equation, as
provided by the Code. We likewise place no weight in the remaining
peripheral arguments of the petitioner that salvage must be ignored
altogether in the application of the declining balance method.
The judgment is
Affirmed.
[For opinion of MR. JUSTICE HARLAN, joined by MR. JUSTICE
WHITTAKER and MR. JUSTICE STEWART,
see ante, p.
364 U. S.
107.]
[For views of MR. JUSTICE DOUGLAS,
see ante, p.
364 U. S.
121.)]
[
Footnote 1]
The statute provides:
"(b) . . . the term 'reasonable allowance' . . . shall include .
. . an allowance computed in accordance with regulations prescribed
by the Secretary or his delegate, under any of the following
methods:"
"(1) the straight line method,"
"(2) the declining balance method, using a rate not exceeding
twice the rate which would have been used had the annual allowance
been computed under the method described in paragraph (1), . .
."
The applicable regulation provides:
"§ 1.167(b)-2. DECLINING BALANCE METHOD. -- (a)
Application
of method. -- Under the declining balance method, a uniform
rate is applied each year to the unrecovered cost or other basis of
the property. The unrecovered cost or other basis is the basis
provided by section 167(f), adjusted for depreciation previously
allowed or allowable, and for all other adjustments provided by
section 1016 and other applicable provisions of law. The declining
balance rate may be determined without resort to formula. Such rate
determined under section 167(b)(2) shall not exceed twice the
appropriate straight line rate computed without adjustment for
salvage. While salvage is not taken into account in determining the
annual allowances under this method, in no event shall an asset (or
an account) be depreciated below a reasonable salvage value.
See section 167(c) and § 1.167(c)-1 for restrictions on
the use of the declining balance method."
[
Footnote 2]
"§ 1.167(c)-1. LIMITATIONS ON METHODS OF COMPUTING DEPRECIATION
UNDER SECTION 167(b)(2), (3), AND (4)."
"
* * * *"
"(c)
Election to use methods. -- Subject to the
limitations set forth in paragraph (a) above, the methods of
computing the allowance for depreciation specified in section
167(b)(2), (3), and (4) may be adopted without permission, and no
formal election is required. In order for a taxpayer to elect to
use these methods for any property described in paragraph (a)
above, he need only compute depreciation thereon under any of these
methods for any taxable year ending after December 31, 1953, in
which the property may first be depreciated by him. The election
with respect to any property shall not be binding with respect to
acquisitions of similar property in the same year or subsequent
year which are set up in separate accounts. If a taxpayer has filed
his return for a taxable year ending after December 31, 1953, for
which the return is required to be filed on or before September 15,
1956, an election to compute the depreciation allowance under any
of the methods specified in section 167(b) or a change in such an
election may be made in an amended return or claim for refund filed
on or before September 15, 1956."
[
Footnote 3]
H.R.Rep. No. 1337, 83d Cong., 2d Sess. 25.
Senator Millikin made a similar statement on the floor of the
Senate, but preceded it with the observation that depreciation
cannot exceed the cost of the asset. The way in which the Senator
presented the matter suggests that he did not mean that total
depreciation taken could not be greater under the declining balance
method of depreciation than under the other accepted methods.
However, no such qualification limits the impact of the statement
in the House Report.