## Facts

- International Shoe Machine Corporation manufactured shoe-making machinery and primarily derived income from leasing machines to shoe manufacturers.
- In tax years 1964–1966, International also sold some machines that had been leased, generating sales revenue equal to about 7%, 2%, and 2% of gross revenues, respectively.
- International historically preferred leasing: it did not develop a sales force, did not solicit purchases, set purchase prices high, and sometimes discouraged customers from buying.
- Beginning in 1964, changed market conditions (including the investment tax credit) made customer purchases more attractive; competitor practices also made it commercially necessary to offer customers the option to buy.
- During the years at issue, International consistently responded to purchase requests: it did not refuse to quote prices and would complete sales if customers persisted.
- International routed purchase inquiries to its vice president for sales (who normally sold new, nonleased machines) and used a prepared pricing schedule for leased machines based on years of prior leasing.
- The IRS treated gains on these sales as ordinary income under I.R.C. § 1231(b)(1)(B) and assessed deficiencies; International paid, sought refunds, lost in district court, and appealed.

## Issues

1. Whether gains from International’s 1964–1966 sales of previously leased machinery qualified for § 1231 treatment, or were excluded as gains from property held primarily for sale to customers in the ordinary course of business under I.R.C. § 1231(b)(1)(B).
2. Whether the low percentage of sales revenue relative to leasing income required capital/§ 1231 treatment despite evidence that sales were recurring and organized.
3. Whether the sales were more properly characterized as liquidation-type dispositions rather than ordinary-course sales activity.

## Decision

- The First Circuit affirmed the judgment for the United States.
- The court held that the machines sold during 1964–1966 were property held primarily for sale to customers in the ordinary course of International’s trade or business within § 1231(b)(1)(B).
- The gains were therefore ordinary income, and International was not entitled to refunds.

## Legal Principles

- For § 1231(b)(1)(B), whether property is held “primarily for sale to customers in the ordinary course” is a fact-intensive inquiry that turns on the taxpayer’s purpose and business conduct as reflected in the relevant period and transactions.
- “Primarily” does not foreclose ordinary-income treatment merely because another business function (here, leasing) remains the dominant revenue source; the analysis focuses on the role and purpose of the property dispositions in the business context.
- The percentage of gross receipts attributable to sales is not dispositive; regularity, predictability, and internal organization of the sales activity can support ordinary-course characterization even when sales are a small share of revenue.
- Repeated sales supported by established procedures (e.g., routing inquiries to sales management and using a pricing schedule) tend to negate a characterization of sales as mere liquidation of business assets.

## Conclusion

The court upheld ordinary-income treatment under I.R.C. § 1231(b)(1)(B) because, by 1964–1966, International’s sales of previously leased machinery had become a predictable and organized component of its business operations, not isolated liquidation of used equipment.


International Shoe Mach. Corp. v. United States, 491 F.2d 157 (1st Cir. 1974)