Legal Document

350 U.S. 308 76 Supreme Court Reporter 395 100 L.Ed. 347 COMMISSIONER OF INTERNAL REVENUE, Petitioner,v.SOUTHWEST EXPLORATION CO. UNITED STATES of America, Petitioner, versus HUNTINGTON BEACH Nos. 286, 287. Argued Jan. 23, 24, 1956. Decided Feb. 27, Mr. Hilbert Pacific KF135 P2 Zarky, Washington, D.C., for petitioners. Melvin D. Wilson, Los Angeles, Cal., respondent Southwest Exploration company Harry R. Horrow, San Francisco, Huntington Beach Justice CLARK delivered the opinion Court. 1 The Co., in Number contracted to develop certain oil deposits lying off coast California by whipstock drilling from sites located on property adjacent upland owners. agreed pay such owners 24 1/2% net profits use their land. Both and sought take statutory depletion allowance 27 this share profits. Tax decided that was entitled allowance, 18 United States Reports KF6280 A2 U55 961, Ninth Circuit affirmed, 220 Federal Reporter, 2nd Series 58. In other case, Claims held one owners, 287, its income, 132 F.Supp. 718, Ct.Cl. 427. We granted certiorari both cases, 818, 83, because cannot be same income. agree with Claims.1 2 State Lands Act 1938 provided State's offshore might extracted only wells drilled filled lands or slant drill submerged deposits.2 Other provisions statute required 'derricks, machinery, any all surface structures, equipment appliances' uplands. It further state commission require each prospective bidder a lease furnish, as condition precedent consideration his bid, satisfactory evidence 'present ability furnish necessary rights way operations contemplated under proposed leased.'3 3 published notice intention receive bids pursuant statute. At time Southwest—a corporation organized 1933 but completely inactive until transaction at issue here—did not own, lease, operate control uplands area deposits. is there were no available. entered into three agreements right ingress egress designated construct, maintain lands. reserved themselves give easements subsurface well crossings uplands, except they would allow purpose off-shore while retained an interest it easement. Southwest's expressly subject previously defined 'net profits' total extraction sale owners.4 also did acquire deposit virtue last agreement parties create partnership relationship. 4 As result these agreements, endorsed bid submitted California. Southwest, bidder, 'Easement 392' 'royalty paid, covenants performed, conditions observed Grantee.' One set out paragraph (1): 5 'That terms shall Derricks, appliances upon conducted therefrom.' 6 if should 'default performance observance terms, stipulations hereof', re-enter, cancel close down being operated according agreement. 7 have produced continuously since 1939. tax years 1939 through 1945 are involved. If may claim owner's during period, liability reduced approximately $175,000. owner claiming refund $135,000 year 1948 alone.5 8 An has been recognized our revenue laws 1913. based theory minerals gradually exhausts capital investment mineral deposit. Presently, fixed percentage gross income which Congress allows excluded; exclusion designed permit recoupment so when exhausted, unimpaired. present however, bears little relationship investment, taxpayer limited original investment. continues long extracted, even though money actually invested Internal Revenue Code solely matter congressional grace; after excluding 'any rents royalties' paid taxpayr respect property.6 9 complexities risks incident prospecting led intricate, multiparty transactions, often difficult determine part allowance. merely provides § 23(m) case leases 'equitably apportioned between lessor lessee.' 10 determining gas relied two interrelated concepts first formulated Palmer Bender, 287 551, 53 225, 77 489. There, taxpayer, lessee properties, had transferred properties companies return cash bonus, future payment made 'out one-half saved', additional royalty one-eight saved. upholding taxpayer's decision grounds where he has: (1) 'acquired, place,' (2) secured legal 'income derived oil, must look capital.' page 557, 226, 11 These factors, usually considered together, constitute requirement 'an economic interest.' This found requisite place assignor Thomas Perkins, 301 655, 57 911, 81 1324, profits, Kirby Petroleum Commissioner, 326 599, 66 409, 90 343, grantor rights, Burton-Sutton Oil 328 25, 861, 1062. processor natural who buy extraction, Helvering Bankline 303 362, 58 616, 82 897, former stockholder traded shares owned production leased wells, O'Donnell, 370, 619, 903. 12 second factor interpreted mean capital, denied payments dependent production, Elbe Land 372, 621, 904, fee production. Anderson Helvering, 310 404, 60 952, 84 1277. seriously disputed here met. problem revolves around place. 13 noted prior cases sufficient entitle him depletion, once least leasehold oil-producing themselves. No presented situation analogous here, adjoining 14 contends can separate enter land itself. Since argued respondent—who sole drill-has interest. true exclusive But law deals realities, abstractions, closer analysis becomes clear factors do preclude 15 clearly conditional rather than absolute grant. Without could qualified lease. Permission express Southwest. For default re-enter Thus seen played vital role successive stage proceedings. participation 16 contributed useful operation. facts contrary. either lands, By hindsight now suggests constructed island Then, too, perhaps itself changed condemned existing law. none possibilities occurred. fact arrangement achieved been, consistent requirements 17 Recognizing requires place, we proceed question whether here. find did. Proximity effect combined make essential operations. controlling position greatly enhanced value fields became possibility. realized selling stated sum presented. instead chose contribute rental contribution establish Their entirely decreased barrel produced. more earlier cases. contends, finally, allowed limit principle instances strangers 'disassociated lease' facility operation those problems before us hardly said lease.' decide where, circumstances party indispensable real entitles thus received. 19 foregoing reasons judgment Company, reversed affirmed. 20 Reversed. 21 Affirmed. 22 DOUGLAS dissents. 23 HARLAN took courts below, Commissioner technically inconsistent positions, opposing losing both. Before urged latter's Cal.Stat. (Extra Session 1938), chapter 5, 87, West's Ann.Public Resources Code, 6873. Id., 89, Public 6874. following percentages owners: 17.75% Company. 1.576% Electric Railway 5.174% 1942 1946, Company claimed deduct seeking recovery suit pending District Northern California, Southern Division. amount something over $500,000. Pertinent sections provide: 23. Deductions 'In computing deductions: '(m) Depletion. mines, deposits, timber, reasonable depreciation improvements, peculiar case; rules regulations prescribed approval Secretary. * deductions equitably lessee. allowable subsection, see section 114(b), (3) (4).' Statutes-at-Large 12, 14, 26 KF62 Annotated KF65 U5 114. Basis depletion. '(b) '(3) Percentage wells. 1/2 per centum taxable year, equal royalties incurred property. Such exceed 50 (computed without depletion) property, less computed reference paragraph.' 45, 114,

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