The Kroger Company and Subsidiaries - Page 15

                                               - 15 -                                                 
            of supermarkets, and (3) Superx, a subsidiary corporation of                              
            Kroger, which operated a chain of drug and general merchandise                            
            stores (collectively, the retailers).                                                     
                  During the years in issue, the retailers used cycle counting                        
            to conduct physical inventories of merchandise.  Under the cycle                          
            counting method, physical inventories were taken in rotation, at                          
            the various stores, throughout the year.  Also, the retailers                             
            maintained book inventory records from which inventories could be                         
            determined without a physical count.  The retailers estimated                             
            losses from shrinkage factors (e.g., theft and errors in billing)                         
            during the physical-to-yearend period (yearend shrinkage) and                             
            made an accrual of that estimate (shrinkage accrual).  That                               
            practice had the effect of increasing cost of goods sold and                              
            decreasing gross income.                                                                  
                  Respondent disallowed the retailers’ shrinkage accruals, and                        
            we must determine whether that disallowance was an abuse of                               
            II.  Statute and Principal Regulation                                                     
                  Section 471(a) provides the following general rule:                                 
                  Whenever in the opinion of the Secretary the use of                                 
                  inventories is necessary in order clearly to determine                              
                  the income of any taxpayer, inventories shall be taken                              
                  by such taxpayer on such basis as the Secretary may                                 
                  prescribe as conforming as nearly as may be to the best                             
                  accounting practice in the trade or business and as                                 
                  most clearly reflecting the income.[1]                                              

            1     The Tax Reform Act of 1986, Pub. L. 99-514, sec. 803(b)(4),                         

Page:  Previous  5  6  7  8  9  10  11  12  13  14  15  16  17  18  19  20  21  22  23  24  Next

Last modified: May 25, 2011