Comparative sales method.

According to Rev. Proc. 77-12, the comparative sales method values finished goods at their actual or expected selling prices, less the costs of disposition and a profit commensurate with the investment amount, the time required to sell the inventory and the degree of risk. If inventory quantities exceed normal trading volumes, expected selling prices are a valid starting point under this method, but only if the inventory is used to fill customer orders in the ordinary course of business.

In Jack Daniel Distillery, 379 F2d 569 (1967), the Court of Claims determined that the FMV of the unbottled whiskey inventory of a whiskey distillery business on the date of its distribution in a Sec. 334(b)(2) liquidation was properly computed under a market value formula used for insurance purposes. This formula valued the unbottled whiskey inventory by prorating, according to age, the difference between the value of mature unbottled whiskey and fresh whiskey. Mature unbottled whiskey was valued at the case price of whiskey in glass, less excise taxes, bottling costs and other completion and disposal costs; freshly distilled whiskey was valued at its production cost. The court determined that this valuation resulted in a reasonable allocation of profit between the buyer and the seller. The market value formula used in this case was essentially a hybrid method that calculated the value of unbottled whiskey by interpolating a value between the whiskey's production cost (using the cost of reproduction method) and the whiskey's net realizable value (using the comparative sales method).

In Berg, 167 F Supp 756 (DC Wisc. 1958), the court determined that it was not appropriate to use replacement cost as a basis for valuing inventory acquired in a corporate liquidation when no readily available replacement market existed and it would take at least six months to replace the inventory. The court accepted the taxpayer's inventory valuation based on catalogue list prices, less dealer discounts and selling expenses.

In Zeropack, TC Memo 1983-652, the Tax Court determined that the IRS's valuation of a frozen fruit inventory acquired in an asset acquisition using the comparative sales method was reasonable. The Service's expert witness valued the frozen fruit inventory at quoted sales prices, less expected selling and administrative expenses and the portion of the estimated gross profit that a purchaser would expect to receive.

Editor: Wilfred H. Heitritter, CPA, J.D. Executive Partner -- Tax McGladrey & Pullen LLP San Bernardino, CA