The Depletion Rationale and Recent Political Pressures of Erosion
Authors: Lentz Oscar H. 
Published: December 2007

Introduction
During 1960 the controversy over percentage depletion reached the level of debate between presidential candidates. Vice-president Nixon took the position that he would not tamper with the status quo in this matter, while Senator Kennedy took the position that he was willing to take a fresh look at the issues involved. Kennedy's position appears to have been based upon two premises. These premises are:that new sources of federal revenue may be needed andthat current depletion rates, even if sound in principle, may be too high and, therefore, inequitable.
The latter premise constitutes the basis for the claims that depletion allowances are simply "loopholes" of tax avoidance. Very probably the controversy over percentage depletion will remain in the political limelight during most of the coming decade. It is quite possible that the current depletion rates at least those for oil and gas will be reduced during this period. The aim of this paper is to isolate the complex causes of this mounting opposition to percentage depletion. To carry out this aim realistically and objectively, we must review the legislative rationale of percentage depletion with all possible candor. The industry cannot afford to ignore the possibility that there may be some inherent weaknesses in the legislative rationale which nourish and support the charges of "tax loophole". Caught in the political crossfire of mounting controversy, the layman frequently is inclined to accept the argument that depletion allowances are unfair exemptions from taxes. In view of this popular tendency and in view of the historical build-up of political pressures, a critical examination of the legislative rationale of percentage depletion was undertaken recently. Two related questions were posed as guidelines for this inquiry.Do percentage depletion allowances for the extractive industries constitute mere loopholes of tax avoidance?Are the concepts and principles underlying percentage depletion allowances sufficiently sound to justify their retention as a basis for future Federal tax policy?
Probing for the answers to these questions leads one to a more fundamental formulation of the basic problem. This problem concerns both the equity and wisdom of a public policy which provides legal recognition for the unique problems and conditions which circumscribe economic production in the extractive industries. The economic implications of this underlying problem may be grasped more readily when posed in the following manner. Would failure to provide legal recognition for the unique problems and conditions in extractive production have a punitive and confiscatory effect upon capital and enterprise? The answer to this question obviously is related to the aim of formulating a neutral tax system. It is wall beyond the scope of this paper to present all of the findings of the study. Some of these findings, however, are clearly relevant to the current erosion of the legislative rationale.

The Legislative Rationale Prior to 1918
It is commonly held that the history of modern income taxation began with the adoption of the sixteenth Amendment and passage of the Tariff Act of 1913. For practical purposes, this contention is true. In a strict technical sense. However, the history of modern income taxation for corporations began in 1909. Section 38 of the Tariff Act of 1909 imposed a tax of 1 per cent upon the annual incomes of corporations for the privilege of doing business. This early tax statute did not adequately distinguish between gross income and net income in the modern sense. Moreover, it failed to distinguish between gross proceeds and gross income where capital is converted into gross proceeds during the normal course of extractive production. The legal construction of this distinction was made by the U. S. Supreme Court some nine years later. In addition, the 1909 law failed to set forth provisions for deducting raw material costs from gross proceeds. With these important omissions, the statute naturally failed to provide deductions for the depletion of mines and other natural deposits. As a matter of fact, at this embryonic stage of income-tax legislation, the modern economic and legal distinction between "depletion" and "depreciation" had not yet been drawn.
JPT
P. 522^