439 U.S. 522 (1979)
Thor Power Tool Co. v.
May a taxpayer using the lower-of-cost-or-market method write down inventory to scrap or reduced values based on GAAP-consistent managerial estimates of excess or obsolescence, without objective evidence such as actual sales or bona fide offers at reduced prices, and did the Commissioner abuse his discretion in rejecting such write-downs as not clearly reflecting income?
Under IRC § 471 and Treasury Regulations, inventory must be valued in a manner that, as nearly as may be, conforms to best accounting practice in the trade and clearly reflects income; where these objectives conflict, clear reflection of income controls. The lower-of-cost-or-market method is permitted, but "market" generally means replacement cost, and any departure below replacement cost requires strict, objective substantiation. Treasury Reg. § 1.471-2(c) allows special valuation for "subnormal goods" (damaged, imperfect, shopworn, outmoded) at bona fide selling price less costs of disposition, typically evidenced by actual offerings or sales within 30 days of inventory date. Treasury Reg. § 1.471-4 governs LCM, requiring objective evidence of market declines (e.g., actual sales or firm offers). Under IRC § 446(b), the Commissioner has broad discretion to determine whether a taxpayer's accounting method clearly reflects income, and his determination will be upheld unless it is clearly unlawful or plainly arbitrary.
No. GAAP-conforming managerial estimates of excess or obsolescence do not, by themselves, justify tax write-downs of inventory under LCM or the subnormal goods regulation. The Commissioner did not abuse his discretion in disallowing Thor's write-downs, because Thor failed to provide the objective evidence required by the regulations (such as actual sales or bona fide offers at reduced prices) demonstrating a decline in market value or subnormal status.
Thor is a leading case confirming that GAAP does not govern federal income tax accounting when the two diverge. It cements the Commissioner's broad discretion under §§ 446(b) and 471 to reject methods that do not clearly reflect income and underscores the necessity for objective, verifiable evidence to support inventory write-downs under LCM or the subnormal goods regulation. For students and practitioners, Thor frames key exam and practice points: differences between financial and tax accounting aims; the high burden to overcome the Commissioner's determination; and the narrow, evidence-driven pathway for inventory write-downs in tax reporting.