## Facts

- Mark E. Schlude and his wife operated ballroom dance studios as partners under Arthur Murray franchises and used a fiscal-year accrual method.
- Students purchased lesson packages through (1) cash contracts with a cash down payment and installment balance, and (2) deferred-payment contracts with partial cash down payment and a negotiable note for the remaining price.
- Contracts covered varying lesson hours (including “lifetime” arrangements) and generally lacked fixed lesson dates; students scheduled lessons flexibly and could fail to use contracted lessons.
- For fiscal years 1952–1954, the taxpayers reported as gross income only the portion of advance payments corresponding to lessons actually taught during the year, reserving the remainder for future years.
- The Commissioner increased ordinary income by including in each year advance payments received and amounts represented by negotiable notes and installments that fell due during the year, even if unpaid.
- The Tax Court sustained the Commissioner; after remand for reconsideration in light of intervening Supreme Court precedent, the court of appeals affirmed for the Commissioner, and the Supreme Court again granted review.

## Issues

1. Whether the Commissioner, under § 41 of the 1939 Code and § 446(b) of the 1954 Code, could reject the taxpayers’ deferral method as not clearly reflecting income.
2. Whether an accrual-basis taxpayer may defer recognition of advance payments for future services under contracts lacking fixed performance dates.
3. Whether the Commissioner could require current inclusion of advance payments received, negotiable notes, and contract installments due but unpaid during the taxable year.

## Decision

- The Supreme Court held that the Commissioner acted within his statutory discretion to reject the taxpayers’ accounting method as not clearly reflecting income.
- The Court approved inclusion in current income of advance payments in the form of cash, negotiable notes, and contract installments falling due during the year though unpaid.
- The Court relied on controlling precedent sustaining the Commissioner’s refusal to permit deferral of advance payments where future performance timing is uncertain.
- The judgment below was affirmed in part, reversed in part, and remanded for further proceedings consistent with the Court’s ruling.

## Legal Principles

- Under § 41 (1939 Code) and § 446(b) (1954 Code), the Commissioner may require a different method of accounting when the taxpayer’s method does not clearly reflect income.
- For accrual-basis taxpayers, advance payments for services may be required to be included in income currently when deferral depends on speculative estimates of future performance rather than fixed, determinable obligations.
- The Commissioner may treat negotiable notes and contract installments that are due during the year as includible items in current income when the taxpayer’s deferral approach fails to clearly reflect income.
- Inconsistent application of matching concepts (including treatment of cancellations and deductions taken currently) may support the conclusion that a deferral method does not clearly reflect income.

## Conclusion

The Court sustained the Commissioner’s authority to require the dance studio partnership, using an accrual method, to recognize advance payments currently where the contracts’ flexible, uncertain performance timing made the taxpayers’ deferral schedule too speculative to clearly reflect income.


Schlude v. Commissioner, 372 U.S. 128 (1963)