The Revenue Act of 1928 (chapter 852, §§ 22, 111, 112, 113 (26 USCA §§ 2022, 2111, 2112, 2113)) provides, as had earlier Revenue Acts, that in computing income from sales of property purchased after February 28, 1913, any excess of the amount realized over cost shall be gain and that any excess of the cost over the amount realized shall be loss. When gain or loss is to be determined on the sale of stock owned outright as an investment, the identification of the shares sold with those purchased ordinarily presents no difficulty. But when the taxpayer has engaged in marginal transactions on a stock exchange, the identification of sales and purchases is frequently impossible. It was, perhaps, primarily to deal with such cases that the Treasury adopted, in 1819, the so-called 'First-in, first-out' rule. That rule appears in Article 58 of Regulations No. 74, under Revenue Act of 1928, as follows:
'When shares of stock in a corporation are sold from lots purchased at different dates and at different prices and the identity of the lots can not be determined, the stock sold shall be charged against the earliest purchases of such stock. The excess of the amount realized on the sale over cost or other basis of the stock will constitute gain.'
Applying this rule, the Commissioner of Internal Revenue assessed against Richard B. Turner for the year 1928 a deficiency tax of $11,173.05 on account of gains from his operations on the stock exchange in United Gas Improvement Company stock. Upon a redetermination by the Board of Tax Appeals, the Commissioner's action was sustained. 26 B.T.A. 1204. The Circuit Court of Appeals reversed the Board's decision and directed it to enter a new order in conformity with the court's opinion. 73 F.(2d) 9, 11. Turner having died during the litigation, his executor, Rankin, was substituted. Writs of certiorari were granted in this case, and in Snyder v. Commissioner of Internal Revenue, 295 U.S. 134, 55 S.Ct. 737, 79 L.Ed. --, decided this day, in order to determine questions concerning the effect, validity, and applicability of the regulation. 294 U.S. 700, 55 S.Ct. 506, 79 L.Ed. --. The facts found by the Board were these:
In 1926, Turner received in distribution of his father's estate $20,000 in bonds. Wishing to change his inheritance into stock, he opened a marginal account with a stock broker; sold the bonds; and, with the proceeds as margin, purchased, from time to time during that year, an aggregate of 1,200 shares of United Gas Improvement Company stock at a cost of $117,202.50. On this stock the broker received for him, later in 1926, 300 shares as a dividend. There were no further operations in 1926 or in 1927. His marginal account became active in 1928. At the beginning of the year he was long 1,500 shares of this stock; in May he sold 300 shares for $44,619 net; in June he bought 1,000 shares for $143,225; in October he sold 500 shares for $73,865; and in November 500 shares for $74,115. Thus, at the close of the year, he was long 1,200 shares.
In none of these transactions did the broker deliver to Turner, or Turner to the broker, any stock certificate. No specific certificate of stock was ever bought or sold by the broker for Turner; and none was earmarked or allocated for him in any manner. The purchases and sales affecting his account were made through the medium of street certificates handled by the broker; and the transactions were evidenced solely by debits and credits in his account on the broker's books. Turner first learned these facts after the deficiency assessment. He had always Intended to retain ownership on margin of 1,200 shares of the stock, since he had faith in the company and desired to hold them in lieu of the bonds which he had received from the estate of his father. To his business associates, who acted for him in giving orders to the broker, he had made it plain that the 1,200 shares were in the nature of a permanent commitment on his part. An employee of the broker understood that the decedent desired to retain 1,200 shares of the stock to take the place of the bonds which he had received from his father.
On the above facts the Board concluded, as had the Commissioner, that it was impossible to determine the identity of the lots purchased and sold; and that, consequently, the 'First-in, first-out' regulation should be applied. In reversing that order the Court of Appeals said: