Case Name: SHELL OIL COMPANY, Petitioner, v. DEPARTMENT OF REVENUE, Respondent
Court: Florida Supreme Court
Jurisdiction: Florida
Decision Date: 1986-04-24
Citations: 496 So. 2d 789
Docket Number: Nos. 66240, 66254
Parties: SHELL OIL COMPANY, Petitioner, v. DEPARTMENT OF REVENUE, Respondent.
Judges: ADKINS, OVERTON, EHRLICH and BARKETT, JJ., concur.
Reporter: Southern Reporter, Second Series
Volume: 496
Pages: 789–796

Head Matter:
SHELL OIL COMPANY, Petitioner, v. DEPARTMENT OF REVENUE, Respondent.
Nos. 66240, 66254.
Supreme Court of Florida.
April 24, 1986.
Rehearing Denied Nov. 24, 1986.
Arthur J. England, Jr. and Sandra S. Barker of Fine Jacobson, Schwartz, Nash, Block and England, Miami, and William D. Peltz, Senior Tax Counsel and Elizabeth C. Burton, Tax Atty., Shell Oil Co., Houston, Tex., for petitioner.
Jim Smith, Atty. Gen., and Joseph C. Mellichamp, III, and Sharon A. Zahner, Asst. Attys. Gen., Tallahassee, for respondent.

Opinion:
McDonald, justice.
The First District Court of Appeal has certified the following question as one of great public importance:
Whether the State of Florida is prohibited by U.S.C. § 1333(a)(2)(A) [sic] from imposing a tax upon income derived from the sale in the United States of oil extracted from the outer Continental Shelf?
Shell Oil Co. v. Department of Revenue, 461 So.2d 959, 963 (Fla. 1st DCA 1984). This Court has jurisdiction pursuant to article V, section 3(b)(4), Florida Constitution. We answer the certified question in the negative, approving in part and quashing in part the opinion of the district court.
Shell Oil, a Delaware corporation, conducts business throughout the United States. Among its many activities, Shell operates a number of drilling platforms for the extraction of crude oil and natural gas from the outer continental shelf (OCS). Shell makes all transfers of OCS natural gas by sale to nonaffiliated independent pipeline companies that rent space on Shell's platforms. In the case of crude oil, Shell makes some transfers by sale to independent third parties, but Shell delivers most of the oil to its own pipeline for transport to shore. Shell treats all transfers, whether to third parties or to the pipeline, as taxable events for federal income tax purposes. Shell, however, excludes such earnings from its taxable income for Florida income tax purposes. The company determines the revenue which the transfers generate based on the fair market value of crude oil at the wellhead less related expenses. Most of the oil extracted from the OCS wells is refined and sold in the United States.
The Florida Department of Revenue (DOR) disallowed Shell's exclusion of certain OCS production income from its Florida tax base for fiscal years 1972-75. The trial court agreed with DOR as to the exclusion. The court, however, ruled that Shell could include its intangible drilling costs (IDCs) in the property factor of Florida's tax apportionment formula. Both parties appealed, and the district court affirmed the trial court as to both issues. On rehearing, however, the district court certified the instant question to this Court. Following certification, both parties independently petitioned this Court for review. These petitions have been consolidated for purposes of the case at bar.
Section 1333(a)(2) of the Outer Continental Shelf Lands Act states that state taxation laws shall not apply to the outer continental shelf. 43 U.S.C. § 1333(a)(2) (1970). Neither DOR nor Shell Oil disputes this, and both parties agree that the oil production in question is derived from the OCS. Further, DOR concedes that any revenues which Shell derives from actual sales consummated on the OCS oil platforms are beyond the reach of Florida's taxing power as limited by section 1333(a)(2). Accordingly, the dispute concerns only the income derived from sales of OCS oil actually made within the boundaries of the fifty states.
DOR contends that because Shell sold the oil within the boundaries of the fifty states, and not on the OCS, the taxable event occurred within the reach of Florida's tax laws. On the other hand, Shell contends that the time and location of the actual sale are irrelevant because no sale of OCS production can ever be subject to state taxation. Shell claims that section 1333(a)(3) of the Outer Continental Shelf Lands Act supports this contention. Section 1333(a)(3) reads:
The provisions of this section for adoption of State law as the law of the United States shall never be interpreted as a basis for claiming any interest in or jurisdiction on behalf of any State for any purpose over the seabed and subsoil of the outer Continental Shelf, or the property and natural resources thereof or the revenues therefrom.
We find that Shell's reliance on section 1333(a)(3) is misplaced. Although section 1333(a)(3) prevents states from claiming an interest in or jurisdiction over the revenues derived from OCS natural resources, the language of this subsection when read in conjunction with the rest of section 1333(a) simply constitutes a limitation of state authority over the OCS area and does not seem intended to address income derived outside the OCS.
Income is normally taxed when realized. Helvering v. Horst, 311 U.S. 112, 61 S.Ct. 144, 85 L.Ed. 75 (1940); § 220.02(4)(a), Fla.Stat. (Supp.1972). Realization occurs when a taxpayer receives actual economic gain from the disposition of property. Helvering, 311 U.S. at 115, 61 S.Ct. at 146; S.R.G. Corp. v. Department of Revenue, 365 So.2d 687 (Fla.1978); Heftler Construction Co. v. Florida Department of Revenue, 438 So.2d 139 (Fla. 3d DCA 1983), review denied, 449 So.2d 264 (Fla.1984). In the case at bar, this realization occurred at the time of sale. Clearly, no realization of income occurred at the wellhead, despite Shell's assignment of an artificial wellhead price to the oil, because Shell received no actual economic gain from any "sale, exchange, or other disposition of property" at that point. § 220.02(4)(a). Rather, realization occurred at the time Shell sold the oil in the states because only at that time did Shell derive any actual economic gain.
Shell insists that all OCS production should be excepted from the general rule that the time of realization is the proper time for judging the taxable nature of income. Yet the cases Shell cites for the proposition that the instant transactions lie beyond the taxable reach of DOR are distinguishable. In both Ramah Navajo School Board, Inc. v. Bureau of Revenue of New Mexico, 458 U.S. 832, 102 S.Ct. 3394, 73 L.Ed.2d 1174 (1982), and James v. Dravco Construction Co., 302 U.S. 134, 58 S.Ct. 208, 82 L.Ed. 155 (1937), the income was realized beyond the respective state's taxing jurisdiction. In the instant case Shell realized the income within the fifty states and both parties agree that Florida can generally levy an apportioned tax on income derived within any of the fifty states. Thus Shell has offered no relevant authority for its claim that OCS production sold in the states should be an exception to the norm. As the district court pointed out, taking Shell's argument to its logical conclusion, no state could impose any kind of tax on any final product which eventually might be derived from OCS production. We join the district court in finding that Congress never intended such a sweeping result when it passed the Outer Continental Shelf Lands Act. Therefore, we approve the district court's opinion as it relates to the certified question, which we answer in the negative.
We find, however, that the district court erred in ruling that expensed IDCs should be added back into Shell's asset base when calculating the property factor of the apportionment formula. IDCs are not inherently capital in nature. Under federal law, Shell had the option of either capitalizing or expensing its IDCs. IRC § 263(a) & (c) (1954); Treas.Reg. 1.612-4 (1965). Shell elected to expense them for federal income tax purposes, thereby deducting the IDCs from its taxable income base. Section 220.42(1), Florida Statutes (Supp.1972), requires that a taxpayer's method of accounting for purposes of the Florida Income Tax Code be the same as the taxpayer's method of accounting used for federal income tax purposes. Accordingly, Shell expensed its IDCs on its Florida income tax return.
IDCs occupy a special tax category, offering an incentive to oil and gas exploration and production. Exxon Corp. v. United States, 37 A.F.T.R.2d (P-H) 76-730, 547 F.2d 548 (Ct.Cl.1976); Atlantic Richfield Co. v. Department of Revenue, 9 Or.T.R. 451 (1984). Care must be taken, however, not to extend the obvious benefits of this special treatment beyond its intended boundaries. Exxon Corp., 37 A.F.T.R.2d (P-H) at 76-736, 547 F.2d 548; Atlantic Richfield Co., 9 Or.T.R. at 453-54.
Under the Uniform Division of Income for State Purposes Act (UDITPA), which Florida has adopted, a given state determines its apportioned share of a multistate corporation's taxable income on the basis of a three-factor formula composed of sales, payroll, and property. § 214.70-.73 & 220.15(4), Fla.Stat. (1973). Although Shell expensed its IDCs from its taxable income base, it added the IDCs back into its asset base for purposes of calculating the property factor. Federal tax regulations expressly provide, however, that, in the case of oil and gas wells, no adjustment to basis shall be made with respect to IDCs allowable as a deduction in computing net or taxable income. Treas.Reg. § 1.1016-2(a) (1957). Moreover, under Florida law, property is to be valued at "original cost" for purposes of inclusion in the property factor of the apportionment formula. Fla. Admin.Code Rule 12C-1.15(4)(b)(5). Rule 12C-1.15(4)(b)(5) defines "original cost" as the basis of the property for federal income tax purposes at the time of acquisition plus any subsequent capital additions or improvements and less any partial dispositions by sale, exchange, or abandonment. Accordingly, because Shell elected to expense its IDCs and thereby voluntarily subjected itself to the restrictions of treasury regulation section 1.1016-2(a), the Florida Administrative Code bound Shell to the same election for Florida purposes. This ruling is consistent with the results reached by the vast majority of other states operating under the UDITPA. Atlantic Richfield Co., 9 Or.T.R. at 455; Appeal of Pauley Petroleum, Inc., [1982] California Tax Reports (CCH) § 400-101. In addition to ignoring rule 12C-1.15(4)(b)(5), the district court erred in disregarding the clear mandate of section 220.42(1), Florida Statutes (Supp.1972), which requires a taxpayer's accounting method for Florida tax purposes be the same as the method used for federal income tax purposes. Although DOR failed to bring this statute to the trial court's attention, a reviewing court must follow controlling statutes no matter what omissions may have occurred at trial. Bendenbaugh v. Adams, 88 So.2d 765 (Fla.1956); City of Lakeland v. Select Tenures, Inc., 129 Fla. 338, 176 So. 274 (1937); Barnett Bank v. Jacksonville National Bank, 457 So.2d 535 (Fla. 1st DCA 1984); § 90.201, Fla.Stat. (1983).
Accordingly, we answer the certified question in the negative and approve the opinion of the district court as it relates to the taxation of OCS production income realized within the fifty states. We quash, however, the opinion of the district court as it relates to the inclusion of IDCs in the property factor of Florida's tax apportionment formula and remand for proceedings consistant with this opinion.
It is so ordered.
ADKINS, OVERTON, EHRLICH and BARKETT, JJ., concur.
BOYD, C.J., dissents with an opinion, in which SHAW, J., concurs.
. In certifying the above question to this Court, the district court cited to the presently existing section 1333(a)(2)(A). For purposes of the instant case, we shall deal with this statute as it existed during the period relevant to our review, 43 U.S.C. § 1333(a)(2) (1970).
. If this were not so, we would be at a loss to understand why the United States Supreme Court, in Maryland v. Louisiana, 451 U.S. 725, 101 S.Ct. 2114, 68 L.Ed.2d 576 (1981), tested the validity of Louisiana's "first use" tax by examining its effect on interstate commerce rather than by scrutinizing the viability of taxing gas derived from the outer continental shelf.