                         T.C. Memo. 2002-103



                       UNITED STATES TAX COURT



            PRUDENTIAL OVERALL SUPPLY, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket Nos. 4425-00, 8875-00.       Filed April 23, 2002.




     Jasper G. Taylor III, Nancy T. Bowen, Jay M. Chadha, and

Richard L. Hunn, for petitioner.

     J. Scott Hargis and Kenneth C. Peterson, for respondent.


             MEMORANDUM FINDINGS OF FACT AND OPINION


     COHEN, Judge:    Respondent determined deficiencies in

petitioner’s Federal income taxes as follows:

Docket No. 4425-00

               Year                Deficiency

               1993                $4,046,998
               1994                 2,093,171
               1995                   822,274
                               - 2 -

               1996                    719,096

Docket No. 8875-00

               Year               Deficiency

               1997                 $665,458
               1998                1,036,011

After concessions by the parties, the issue remaining for

decision is whether it was an abuse of discretion, under section

446(b), to require petitioner to capitalize and depreciate the

cost of the garments and dust control items used in petitioner’s

industrial laundry business.

     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the years in issue, and

all Rule references are to the Tax Court Rules of Practice and

Procedure.

                          FINDINGS OF FACT

     Some of the facts have been stipulated, and the stipulated

facts are incorporated in our findings by this reference.     Unless

otherwise indicated, the facts and events contained herein

occurred during the years in issue.

     Petitioner is a California corporation with its principal

place of business in Irvine, California.     Petitioner is in the

industrial laundry business, which provides, launders, repairs

and maintains, and services garments worn by the employees of

petitioner’s customers.   Petitioner offers industrial garments

and dust control items at about 20 locations in four States and
                               - 3 -

offers clean room garments at five locations in four States.

Petitioner has approximately 40,000 customers and, at any point

in time, has millions of garments (industrial garments and clean

room garments) and dust control items in service.

     Petitioner’s principal source of revenue was from customer

payments that were received for rendering industrial laundry

services.   The principal cost of furnishing petitioner’s

industrial laundry service was labor.   Other costs included

supplies for cleaning and merchandise costs.   The price of

petitioner’s service included consulting as to the proper type of

items, measuring, picking up, cleaning, mending, size changes,

and delivery.   The amount charged to the customer was based on

the size of the account, estimated turnover, “under wash”,

projected wear, and competitive factors.

Industrial Garments

     Petitioner provided industrial garments that included

shirts, pants, smocks, aprons, jumpsuits, coveralls, protective

cover garments, and “completed-to-wear” garments.   Petitioner

manufactured some of the industrial garments that it provided to

its customers and purchased the remainder from manufacturers.

Industrial garments are worn by persons working in the

construction industries, repair services, factories, gas

stations, grocery stores, and retail establishments.
                                - 4 -

     Generally, industrial garments have a company logo and/or a

company name on the garment.    Typically, garments were also

measured to fit the customer’s employees.    In 1968, petitioner

switched from exclusively providing 100-percent cotton fabric

garments to also providing a 65-percent polyester and 35-percent

cotton blend fabric garments.    About 60 to 65 percent of the

industrial garments involved in this case are made up of the

65-percent polyester and 35-percent cotton blend fabric.

Clean Room Garments

     Petitioner serviced manufacturing industries such as

electronic manufacturers, semiconductor manufacturers, and disk

drive manufacturers.   In a manufacturing type environment, the

clean room garment is designed to keep the particulate matter

from contaminating the product.    Petitioner also serviced

medical, aerospace, pharmaceutical, and biomedical industries.

In these industries, the clean room garment is designed to

protect the worker from the product or hazardous chemicals.

     Petitioner provided to its customers clean room garments

that included highly specialized polyester hoods, coveralls,

frocks, boots, smocks, lab coats, gloves, and polyurethane

wipers.   Customers that used clean room garments required

garments that were clean, that were free from particulation, and

that met safety requirements.    Petitioner’s clean room facilities

removed soil particles not visible to the human eye, sterilized
                                - 5 -

garments using a radiation process, and dissipated the

electrostatic buildup from garments.

     Clean room garments were made according to the customers’

specifications, such as the fabric used and the style of the

garment.    Each garment was cut to the specific size of the

employee.    Some of the garments were personalized with logos or

emblems that were sewn or embroidered directly onto the garment.

Dust Control Items

     Dust control items that were provided by petitioner included

towels, linens, mats, and mops.    Petitioner did not manufacture

any dust control items.    Dust control items were not necessarily

returned to the same customer for reuse.

     Towels that were provided by petitioner included shop

towels, painter’s towels, machinist’s towels, food towels, bar

mops, dish towels, glass towels, and huck towels.    Linens that

were provided by petitioner included massage towels, bath towels,

and roll towels.    Towels that start out as the same item were

used in different categories.    For example, towels could be used

in food service and restaurants to clean tables or to clean

grills, used in gas stations to clean windshields, or used by the

printing industry to wipe down equipment.    Towels were used by

different types of customers as the condition deteriorated.    Used

towels, no longer in a condition to continue in service in one
                               - 6 -

towel category, were dyed and placed in service in a different

towel category.

     Petitioner provided mats that were either rubber-backed or

cotton.   On several occasions, mats were withdrawn from service

after a couple of months for defects in manufacture such as side

seam tears that made the mats unsafe and fibers from the mats

that shed onto customers’ floors.

Garments Placed in Service

     Petitioner’s policy was to place a tag inside each garment

that it manufactured.   The information provided on the tag

included petitioner’s name and logo, the fabric from which the

garment was made, and the month and year that the garment was

manufactured.

     The placing of garments and dust control items in service

was a common and frequent event in petitioner’s business.     At the

time that a garment was placed in service, petitioner’s policy

was to insert another tag inside the garment that identified the

month and year that the garment was placed in service, the

customer number, the employee number of the person who was to

wear the garment, and the truck delivery route.   Petitioner began

using bar code tags on some of its clean room garments during

either 1992 or 1993 and on some of its industrial garments during

late 1997.   If a prior tag fell off, was illegible from wear and
                                - 7 -

tear, or a route change occurred, the tag would be replaced and

bear the placed-in-service date from the original tag.

     Petitioner maintained a garment tracking system.    The

garment control list was used by delivery personnel to quantify

and verify the number of garments being picked up, processed, and

delivered.    The garment control list did not provide information

on what happened to particular garments other than the driver’s

notes regarding items that were damaged.    Even for garments with

bar codes, the data for the garment tracking system were

incomplete because some bar codes fell off, were illegible, or

were mutilated.

Garments Withdrawn From Service

     The removal of garments and dust control items from service

was a continuous process.    Garments and dust control items could

be removed from service for a physical reason or for a reason

other than physical stress to the garment.

     Industrial garments were withdrawn from service for physical

reasons that included garments with paint, torn garments,

garments with cuffs cut off, pants cut into shorts, sleeves cut

off shirts, garments with pockets ripped off, and garments with

graffiti.    Certain industries such as roofers, carpet layers,

plumbers, and welders were very hard on the garments and garments

were often heavily soiled and stained.   The heavily soiled and

stained garments were washed in harsh chemicals, in extremely hot
                                - 8 -

water, in large 800-pound loads, and were dried at hot

temperatures.   This laundering process would remove most of the

stains, but the process was detrimental to the fabric.

     Clean room garments were removed from service and replaced

for physical reasons such as:   (1) The garment did not meet the

customer’s requirements; (2) the garment had some physical damage

or defect that was caused by the customer; (3) the condition of

the garment was deteriorated beyond the normal wear and tear;

(4) the garment failed to meet quality assurance testing; or

(5) the garment had a manufacturing defect.     Also, garments were

destroyed by the customer for safety reasons when biohazardous

chemicals were spilled on them.

     Reasons, other than physical stress to the garment, that a

garment would be removed from service include:     (1) A decrease in

a customer’s manpower, (2) a customer’s going out of business or

becoming bankrupt, (3) normal turnover in a customer’s employees,

(4) a change in an employee’s size, (5) a change in a customer’s

identifying color or image, (6) a canceled contract or the

contract term expired, (7) a customer changed to a newer fabric,

or (8) a customer’s requirements changed.

     A garment that was taken out of service was usually sent to

one of petitioner’s supply rooms for evaluation.     Damaged

garments might be repaired and placed back in service or could be

used pursuant to another contract.      Generally, garments withdrawn
                                - 9 -

from service were difficult to reuse because customers preferred

new garments and did not want to wear used clothes.   Garments

that were withdrawn from service were:   (1) Donated to charity,

(2) sold for scrap, (3) discarded, or (4) stored in petitioner’s

stockroom.

Service Rental Agreement

     Petitioner used two standard form contracts, both titled

“Service Rental Agreement”, when negotiating its services to

furnish, clean, pick up, and deliver garments and dust control

items with customers.

     The Service Rental Agreements included a replacement

provision that charged the customer for damages.   The contract

stated:

          3. REPLACEMENT: In the event of damage to
     wearing apparel by CUSTOMER, reasonable wear excepted,
     CUSTOMER shall pay PRUDENTIAL’s replacement value less
     depreciation of 2% of the replacement value for each
     month in service. Total depreciation is not to exceed
     80% of replacement value. * * *

Petitioner’s management believed that the replacement provision

provided customers with an incentive to care for the items and

deterred customers from misusing the items.

     The Service Rental Agreements set the term of the contract

at 60 months.   The length of a clean room garment contract was

generally 60 months.    The typical length of an industrial garment

contract was 36 months.
                                - 10 -

     The terms of an actual agreement could vary from the

Service Rental Agreement.    Terms that were most frequently

changed were the length of the agreement, the right to

cancellation, the replacement charges, and/or the terms of

payment.    Quite frequently, the contract would not be used with

petitioner’s very large customers, who instead used their own

legal counsel to draft and negotiate the terms of the contract.

Laboratory Tests

     Petitioner had several testing laboratories at which

petitioner tested its fabrics and garments.    Fabric tests were

conducted by petitioner to compare fabrics and to qualify new

fabrics for use in petitioner’s garments.    The tests performed by

petitioner’s quality assurance test laboratories included

wash-and-wear cycle tests, fabric tests, body box tests, and wash

tests.     An “ASTM” test and a “Helmke Drum” test were designed to

measure particulate contamination present in a garment.     Other

tests that were performed were an abrasion test, a moisture vapor

transmission test, and specific tests for certain fabrics used in

medical markets.

     Subsequent to the years in issue, petitioner made

representations on its Web site regarding the performance

characteristics of the fabrics that it used in its clean room

garments.    In particular, petitioner represented that garments

made of certain fabrics were tested in up to 100 wash-and-wear
                               - 11 -

test cycles “or the equivalent of up to four (4) years of garment

service life”.

Financial and Tax Accounting

     Petitioner maintained its books and records using the

accrual method of accounting for financial accounting and tax

accounting purposes.   Petitioner’s fiscal year ended on the last

full business week of the calendar year, and petitioner’s tax

year ended on December 31.

     Petitioner’s audited financial statements explain the method

that petitioner used to account for the cost of its merchandise

as follows:

     The Company charges to expense the cost of manufactured
     and purchased garments and other rental merchandise
     when placed in service. Purchased garments are
     included in prepaid expenses * * *.

Petitioner used this method consistently from year to year and

for more than 30 years.

Prior Tax Audits

     In 1968, respondent conducted an examination of petitioner’s

Federal income tax returns for 1966 and 1967 and required that

petitioner change the method by which the cost of the garments

and dust control items was deducted.    Respondent required

petitioner to treat one-half of the cost of purchases during the

month of December as inventory on hand at the end of the year.

This method was meant to approximate a deduction for when items

are placed in service rather than when purchased or manufactured.
                              - 12 -

Petitioner used this method for purposes of preparing its Federal

income tax returns for 1968 through the years in issue.

     Respondent conducted audits of petitioner’s Federal income

tax returns for 1971, 1972, 1974, 1975, 1991, and 1992, and no

change or adjustment was made with respect to petitioner’s method

of deducting the cost of garments and dust control items when

placed in service.   During the audit for the years in issue, an

employee of petitioner stated to the auditing agent, in the words

of the auditing agent:

     they didn’t want any contract to be less than five
     years, because the cost of these garments was so much,
     and the materials lasted so long that they–-and they
     were all made to specific order, that if you stopped
     your contract, they had nothing-–they had nowhere to
     put these uniforms, because it was made to each client.
     * * *

Another employee stated to the auditing agent that, “with just a

little repair”, some of the mats could last more than 10 years.

Notices of Deficiency

     In the notices of deficiency, respondent “determined that

* * * [petitioner] used an unallowable method to value * * *

inventory and to compute * * * Cost of Goods Sold”.   The

deficiency amounts calculated by respondent reflected a

determination that the industrial garments had a useful life of

between 2 and 4 years and were 3-year class property; the clean

room garments had a useful life of between 4 and 10 years and

were 5-year class property; the dust control items, other than
                             - 13 -

towels, had a useful life of between 4 and 10 years and were

5-year class property; and the towels had a useful life of more

than 1 year but less than 4 years and were 3-year class property.

     Respondent’s adjustment computation schedules explain the

adjustments made by respondent:

          Since it has been determined that the taxpayer is
     not in the business of selling goods, but rather is in
     the business of renting assets, the assets, the Cost of
     Goods Sold will be adjusted to reflect this. The cost
     of acquiring the rental assets will be capitalized and
     depreciated in accordance with Section 168. The basis
     of goods sold or disposed of will be currently
     deductible. Any period costs will also be allowed as a
     current deduction.

               *    *    *    *    *    *    *

     In order to determine the amount of assets that were 3
     year assets (Garments) from assets which are five year
     assets (mops, mats) of the total inventory claimed we
     have done an allocation.

     Taking the total Purchases for * * * [the year], and
     noting the % [percentage] that was garments, mats, etc.
     we have determined the allocation percentage.

     Respondent’s adjustment computation schedules also briefly

describe respondent’s basis for determining the useful lives of

the garments and dust control items:

     Taking into consideration only the assets that are
     being put into service during the taxable year, and the
     useful life to the corporation, we have determined that
     there is not one class life, but two, garments, which
     are subjected to washing, wear and tear, obsolescence,
     change in customer size, etc have a life of 3 years, as
     substantially shown via the three year contracts
     issued.

     However, per the testimony of the plant manager the
     clean room garments are expected to last at least five
                                - 14 -

        years. Verified by the normal five year contract the
        garments * * * [are] priced so that the expense of
        obtaining the rental is recovered with a five year
        rental program.

        Dust control items, consisting of mats and mops, have
        also been shown to have a life of five years. * * *

                                OPINION

     Although not explicitly stated in the notice of deficiency,

the deficiency amounts reflect adjustments that would require

petitioner to capitalize the cost of the garments and dust

control items that it used in its industrial laundry business and

to depreciate the cost of the items over the useful lives that

were determined by respondent.

     The issue presented is whether it was an abuse of

respondent’s discretion, under section 446(b), to require

petitioner to change its method of accounting.

     The term “methods of accounting” includes not only the

overall method of accounting of the taxpayer but also the

accounting treatment of any item.     Sec. 1.446-1(a)(1), Income Tax

Regs.    A correction to require depreciation in lieu of a

deduction for the cost of a class of depreciable assets that had

been consistently treated as an expense involves the question of

the proper timing of an item and is to be treated as a change in

method of accounting.     Sec. 1.446-1(e)(2)(ii)(b), Income Tax

Regs.     Thus, respondent’s determination that petitioner must

capitalize the cost of the garments and dust control items
                               - 15 -

reflects the exercise of the broad discretion of the Commissioner

under section 446(b) to impose a change in petitioner’s method of

accounting.

     Section 446 provides:

     SEC. 446.   GENERAL RULE FOR METHODS OF ACCOUNTING.

          (a) General Rule.–-Taxable income shall be
     computed under the method of accounting on the basis of
     which the taxpayer regularly computes his income in
     keeping his books.

          (b) Exceptions.–-If no method of accounting has
     been regularly used by the taxpayer, or if the method
     used does not clearly reflect income, the computation
     of taxable income shall be made under such method as,
     in the opinion of the Secretary, does clearly reflect
     income.

Section 446(b) vests the Commissioner with broad discretion in

determining whether a particular method of accounting clearly

reflects income.   See Commissioner v. Hansen, 360 U.S. 446, 467

(1959); Knight-Ridder Newspapers, Inc. v. United States, 743 F.2d

781, 788 (11th Cir. 1984); Ansley-Sheppard-Burgess Co. v.

Commissioner, 104 T.C. 367, 370 (1995); RLC Indus. Co. v.

Commissioner, 98 T.C. 457, 491 (1992), affd. 58 F.3d 413 (9th

Cir. 1995).

     In general, a method of accounting clearly reflects income

when it results in accurately reported taxable income under a

recognized method of accounting.    RLC Indus. Co. v. Commissioner,

supra at 490.    A method of accounting will ordinarily be regarded

as clearly reflecting income when the method reflects the
                              - 16 -

consistent application of generally accepted accounting

principles in a particular trade or business, is in accordance

with accepted conditions or practices in that trade or business,

and provides that all items of gross income and expenses are

treated consistently from year to year.   Sec. 1.446-1(a)(2),

Income Tax Regs.   A taxpayer’s method of accounting is generally

acceptable where the method is in compliance with the underlying

regulations of the Code.   Sec. 1.446-1(c)(1)(ii)(C), Income Tax

Regs.; see, e.g., Frysinger v. Commissioner, 645 F.2d 523 (5th

Cir. 1981), affg. T.C. Memo. 1980-89; RLC Indus. Co. v.

Commissioner, supra; Van Raden v. Commissioner, 71 T.C. 1083

(1979), affd. 650 F.2d 1046 (9th Cir. 1981).   “[I]f the taxpayer

succeeds in showing that the method it chose clearly reflects its

income, then respondent does not have discretion to disturb that

choice.”   Peninsula Steel Prods. & Equip. Co. v. Commissioner, 78

T.C. 1029, 1045 (1982); see Photo-Sonics, Inc. v. Commissioner,

357 F.2d 656, 658 n.1 (9th Cir. 1966), affg. 42 T.C. 926 (1964);

Bay State Gas Co. v. Commissioner, 75 T.C. 410, 417, 423 (1980),

affd. 689 F.2d 1 (1st Cir. 1982).   Petitioner maintains that its

method of expensing the cost of the garments and dust control

items when placed in service clearly reflects the income and

expenses of its industrial laundry business because the method

reflects the consistent application of generally accepted

accounting principles, the method is an accepted practice in the
                               - 17 -

industrial laundry business, the method treats the expense of

garments and dust control items consistently from year to year,

and the method uses a reasonable approximation of useful life

that is provided for in the regulations of the Code.

Consequently, petitioner argues that it was an abuse of

respondent’s discretion to require petitioner to change its

method of accounting.

     Respondent contends that petitioner’s method of accounting

for the cost of the garments and dust control items is not in

conformance with the Code or regulations and that the

capitalization and depreciation of garments and dust control

items will clearly reflect the income of petitioner’s business.

Respondent maintains that the useful life of garments and dust

control items used in petitioner’s business is greater than a

year, and, thus, the cost of the items placed in service should

be capitalized under section 263 and depreciated over the useful

life of each asset class.

     Section 263 prohibits deductions for capital expenditures.

See also sec. 1.263(a)-1(a), Income Tax Regs.    Capital

expenditures include the cost of acquisition, construction, or

erection of buildings, machinery and equipment, furniture and

fixtures, and similar property having a useful life substantially

beyond the taxable year.    Sec. 1.263(a)-2(a), Income Tax Regs.
                              - 18 -

     Petitioner argues that its garments and dust control items

are materials and supplies that are consumed within the year that

they are placed in service, and thus the cost of these items are

ordinary and necessary to the operation of its industrial laundry

business and are properly expensed when placed in service under

section 162 and section 1.162-3, Income Tax Regs.

     Supplies used in the taxpayer’s trade or business are among

the items included in business expenses.   Sec. 1.162-1(a), Income

Tax Regs.   Section 1.162-3, Income Tax Regs., provides that

taxpayers carrying materials and supplies on hand should include

in expenses the charge for materials and supplies only in the

amount that they are actually consumed and used in operation

during the taxable year for which the return is made.

     Petitioner argues, in the alternative, that, even if

required to capitalize the cost of the garments and dust control

items under section 263, the useful life of the garments and dust

control items was less than 1 year or not substantially in excess

of 1 year and would be fully depreciable in the year placed in

service.

     Section 167(a) generally allows as a depreciation deduction

a reasonable allowance for the exhaustion, wear and tear, and

obsolescence of property used in a trade or business.   Any

reasonable and consistently applied method of computing

depreciation may be used or continued in use.   Sec.
                               - 19 -

1.167(b)-0(a), Income Tax Regs.    The taxpayer need only make a

reasonable approximation of the useful life of an asset that

bears a reasonable relationship to the taxpayer’s business

practice; absolute certainty is not required.    Ames v.

Commissioner, 626 F.2d 693, 695-696 (9th Cir. 1980), affg. T.C.

Memo. 1977-249; Banc One Corp. v. Commissioner, 84 T.C. 476, 499

(1985), affd. without published opinion 815 F.2d 75 (6th Cir.

1987).    The useful life, not the physical life, is relevant.

Ames v. Commissioner, supra at 695-696; Elec. & Neon, Inc. v.

Commissioner, 56 T.C. 1324, 1334 (1971), affd. without published

opinion 496 F.2d 876 (5th Cir. 1974).    The useful life of an

asset has been defined as the “period for which it may reasonably

be expected to be employed in the taxpayer’s business.”    Massey

Motors, Inc. v. United States, 364 U.S. 92, 107 (1960); Hertz

Corp. v. United States, 364 U.S. 122, 124 (1960); see also sec.

1.167(a)-1(b), Income Tax Regs.    In petitioner’s business, the

useful life of an item begins when the item is placed in service

and ends when the item is withdrawn from service, regardless of

the physical condition of the item.

     “[T]he determination of the useful life of an asset and the

other estimates utilized in computing depreciation must be based

upon facts existing as of the close of the taxable year in

issue.”    Banc One Corp. v. Commissioner, supra at 499-500; see

also sec. 1.167(b)-0(a), Income Tax Regs.    Some factors to
                              - 20 -

consider in determining estimated useful life include exhaustion;

wear and tear or decline from natural causes; obsolescence;

economic changes; inventions; current developments in the

industry and the taxpayer’s trade or business; climatic or other

local conditions peculiar to the trade or business; and the

taxpayer’s policy as to repairs, renewals, and replacements.

Sec. 167; sec. 1.167(a)-1(b), Income Tax Regs.

     The taxpayer is responsible for establishing the

reasonableness of the deduction for depreciation.   Sec. 1.167(b)-

0(a), Income Tax Regs.   Generally, depreciation deductions so

claimed will be changed only where there is a clear and

convincing basis for a change.   Id.

     The parties disagree on the useful life of the garments and

dust control items.   Petitioner contends that it made a

reasonable approximation of the useful life of its garments and

dust control items based on its business practices and that there

was no clear and convincing basis for a redetermination of the

useful life by respondent.   Petitioner approximated that the

useful life of its garments and dust control items was less than

1 year or not substantially in excess of 1 year.

     The useful life determined by respondent was 4 to 10 years

for mats, 4 to 10 years for mops, 1 to 4 years for towels, 2 to

4 years for industrial garments, and 4 to 10 years for clean room

garments.   Respondent primarily relies on an expert report and
                             - 21 -

the terms in petitioner’s typical Service Rental Agreement to

support the redetermination of the useful life.

     Based on the evidence and the facts known to petitioner’s

management during the years in issue, we are persuaded that

petitioner did make a reasonable approximation of the useful life

of the garments and dust control items and that the approximation

was based on a reasonable relation to its business practice.    The

following factors support petitioner’s approximation of the

useful life of its garments and dust control items:   (1) The

placing of garments and dust control items in service was a

common and frequent event in petitioner’s business; (2) the value

of the garments became negligible when placed in service because

the garments were, generally, custom designed, measured to fit

customers’ employees, and marked with a company’s name or logo;

(3) the removal of garments and dust control items from service

was a continuous process in petitioner’s business; (4) garments

and dust control items were withdrawn from service for various

physical reasons; (5) industrial garments were subject to

continual wear and tear from the harsh and hazardous environments

in which they were worn and from the laundering process;

(6) clean room garments were withdrawn from service if, through

wear and tear, defect, or damage, they no longer met a customer’s

strict quality control requirements; (7) garments and dust

control items were withdrawn from service for reasons not related
                             - 22 -

to exhaustion of their physical life such as obsolescence,

contract cancellations or terminations, employee turnover, change

in an employee’s size, and customer design changes; and

(8) garments and dust control items that were removed from

service for reasons other than physical damage were difficult to

reuse in petitioner’s business.

     Respondent maintains that petitioner has produced no

quantifiable evidence and has had several years to document the

correctness of its approximations.    Respondent argues:

(1) Petitioner had sufficient time to produce its own study that

would determine the useful life of the garments and dust control

items and should not rely on industry experience, (2) petitioner

labeled its garments and maintained a garment tracking system and

should be able to document the useful life of the garments placed

in service without an additional record keeping burden,

(3) petitioner had test laboratories in which to perform tests to

determine the useful life of the garments and dust control items,

(4) petitioner represented to its customers in the years

subsequent to the years in service that certain clean room

garments could have a service life of up to 4 years, and (5) the

life of the 65-percent polyester and 35-percent cotton garments

was longer than the life of the 100-percent cotton garments used

in 1968.
                                - 23 -

     Petitioner was not required to determine with absolute

certainty the useful life of the garments and dust control items;

rather, petitioner was permitted to make reasonable

approximations of the useful life of the items based on a

reasonable relationship to petitioner’s business practices.

     Respondent’s arguments do not overcome petitioner’s evidence

that supported the reasonableness of its methodology.

Petitioner’s garment tracking system was used to track the

processing of garments, but it did not provide information on the

service life of each garment.    Petitioner’s witness testified

that the tracking of millions of garments and dust control items

in service would not have been administratively or economically

feasible.   Any laboratory test, whether or not conducted, would

have produced results that documented the durability of a fabric

or garment, and, thus, the test results would reflect the

physical life of the garment, rather than the useful life.

Petitioner’s representations that certain clean room garments

could have a service life of up to 4 years were made subsequent

to the years in issue, see Banc One Corp. v. Commissioner, 84

T.C. at 499-500, and do not take into account the nonphysical

events that caused a garment to be withdrawn from service.

     As to petitioner’s use of the 65-percent polyester and

35-percent cotton garments, petitioner’s industry expert

explained that the industry did not use the 65-percent polyester
                              - 24 -

and 35-percent cotton garment for its durability.   Petitioner’s

corporate publication explains that its switch to a 65-percent

polyester and 35-percent cotton blend fabric allowed it to

provide colorful and attractive apparel.   Again, the physical

life of the garment does not determine the useful life of the

garment.   Ames v. Commissioner, 626 F.2d 693, 695-696 (9th Cir.

1980), affg. T.C. Memo. 1977-249; Elec. & Neon, Inc. v.

Commissioner, 56 T.C. at 1334.

     Respondent relies on his expert report that concludes that

the “average service life” of petitioner’s garments and dust

control items is greater than 1 year.   The conclusions are based

on a random statistical sample consisting of garments and dust

control items examined during a visit to petitioner’s facilities

in 2001.   The population for the statistical sample consisted of

all items located at three of petitioner’s facilities on the day

of the visit.   The statistical sample taken was based on the

assumption that the ages of the items within each facility were

randomly shuffled.   Items missing tags or tags with dates that

were too worn to read were removed from the sample.

     Using the data collected, estimates of the mean and median

age were determined for each category based on a 95-percent

confidence interval.   The median age of the sample of mats from

the active area of the Cerritos facility was 641 days.    The

median age of the sample of industrial garments from the active
                               - 25 -

area of the Carson facility was 562 days.    The median age of the

sample of clean room garments from the Bandini Boulevard facility

was 422.5 days.

     Respondent’s expert report is unreliable and not useful

because the conclusions reflect an average physical age, rather

than the average service life (i.e., useful life).    The

statistical sample used the manufacture date of the items, rather

than the placed-in-service date.    The general comments to

respondent’s expert report state:

          Some items * * * had two labels with different
     dates. One was assumed to be the date at which the
     item was manufactured, and the other the date at which
     the item was placed in service for the current
     contract. It was sometimes difficult to tell which was
     which. This analysis always uses the oldest of the
     dates * * *.

Here, the oldest date on the label reflected the manufacture date

rather than the placed-in-service date.    The sample also included

items that were not yet placed in service and items that were

withdrawn from service.   In any event, even if the sample that

was taken were valid and the conclusions could be relied on, the

expert’s conclusions as to the median physical age of the

garments and dust control items do not support the useful lives

determined by respondent that would require petitioner to

depreciate the items over either 3 years or 5 years.    Rather, the

conclusions would be supportive of and more consistent with

petitioner’s approximations.
                               - 26 -

     Respondent asserts that the replacement clause in

petitioner’s Service Rental Agreement is evidence that petitioner

estimated the average useful life to be 50 months.   The

replacement provision in the Service Rental Agreement is not

determinative of the useful life of the garments and dust control

items.   We are persuaded that the provision was used by

petitioner as an incentive for customers to care for the garments

and to prevent customers from misusing the garments and dust

control items.   Normal wear and tear, however, would reduce the

useful life of the garments.

     When respondent computed the deficiency amounts, respondent

based the useful life of the garments and dust control items on

the length of the service contract, which was 3 years for

industrial garments and 5 years for clean room garments.    The

length of the term of the service contract is not a good

indication of the useful life of the garments and dust control

items, because the contract had a provision for the replacement

of items and the length of the agreement could be changed in

negotiations.    See Ames v. Commissioner, supra (the useful life

of leasehold improvements was the estimated life without regard

to the length of the lease term).

     We conclude that petitioner has shown that its approximation

of the useful life of the garments and dust control items was

reasonable and was based on a reasonable relationship to its
                              - 27 -

business practices.   Petitioner’s treatment of the garments and

dust control items as consumable materials and supplies and

petitioner’s method of deducting the costs of these items in the

taxable year that they were placed in service are consistent with

the regulations, section 1.162-3, Income Tax Regs.   See sec.

1.466-1(c)(1)(ii)(C), Income Tax Regs.

     We also conclude that petitioner has demonstrated that its

method of expensing the garments and dust control items when

placed in service results in a clear reflection of income under

section 446 and section 1.446-1(a)(2), Income Tax Regs.   Several

factors influence our decision.

     For more than 30 years, petitioner’s taxable income was

computed under the same method of accounting that petitioner used

to compute its income for financial accounting.   See sec. 446(a).

Petitioner has also consistently used the same method for tax

purposes since 1968, when it changed its method in response to an

examination conducted by respondent.   See Rev. Rul. 69-81, 1969-1

C.B. 137 (the deducting of rental items when placed in service is

an acceptable method of accounting for Federal income tax

purposes where an industrial laundry using the accrual method of

accounting is engaged in the rental service of towels, garments,

gloves, linens, and business shirts that have a useful life of

12 months or less); see also sec. 446(b); Ansley-Sheppard-Burgess
                                - 28 -

Co. v. Commissioner, 104 T.C. at 375; sec. 1.446-1(a)(2), Income

Tax Regs.; sec. 1.466-1(c)(1)(ii)(C), Income Tax Regs.

     According to petitioner’s expert report and audited

financial statements, petitioner’s method is “in all material

respects * * * in conformity with generally accepted accounting

principles.”   See sec. 1.466-1(c)(1)(ii)(C), Income Tax Regs.;

see also Van Raden v. Commissioner, 71 T.C. 1083, 1104-1105

(1979), affd. 650 F.2d 1046 (9th Cir. 1981); sec. 1.446-1(a)(2),

Income Tax Regs.   Also according to petitioner’s industry

experts, petitioner’s method is in accordance with the accepted

practices in its trade or business.      See sec. 1.446-1(a)(2),

Income Tax Regs.; see also Molsen v. Commissioner, 85 T.C. 485,

506 (1985); Madison Gas & Elec. Co. v. Commissioner, 72 T.C. 521,

556 (1979), affd. 633 F.2d 512 (7th Cir. 1980); Auburn Packing

Co. v. Commissioner, 60 T.C. 794, 799 (1973); Sam W. Emerson Co.

v. Commissioner, 37 T.C. 1063, 1068 (1962).

     The Commissioner cannot require a taxpayer to change from an

accounting method that clearly reflects income to an alternate

method of accounting merely because the Commissioner considers

the alternate method to reflect income more clearly.      Ansley-

Sheppard-Burgess v. Commissioner, supra at 371; Molsen v.

Commissioner, supra at 498; Peninsula Steel Prods. & Equip. Co.

v. Commissioner, 78 T.C. at 1045; Bay State Gas Co. v.

Commissioner, 75 T.C. at 422.    Respondent’s proposed change to
                               - 29 -

petitioner’s long and consistently used method was based on

isolated statements made by petitioner’s employees during the

course of the audit and was pursued based on puffing on

petitioner’s Web site.    The statements, however, related to

physical life.    The statements were overcome by convincing

evidence that the useful lives of the items used in petitioner’s

business were far less than the useful lives determined by

respondent and that the useful lives were reasonably expected to

be not substantially in excess of a year.    We conclude that

respondent’s determination was arbitrary or without a sound basis

in fact or law, and, thus, was an abuse of discretion under

section 446(b).

     We have carefully considered all of the remaining arguments

that have been made by the parties for a result contrary to those

expressed herein, and, to the extent not discussed above, they

are irrelevant or without merit.

     To reflect the foregoing and concessions of the parties,

                                          Decisions will be entered

                                     under Rule 155.
