Court Opinion

ID: 6890392
Source: CourtListenerOpinion
Date Created: 2022-07-23 21:39:46.990783+00
Date Added: 2024-06-11T16:05:49.423273
License: Public Domain

HUTCHESON, Circuit Judge
(dissenting)-
Believing that the Tax Court is clearly right and that the opinion of the majority completely misconceives both the facts and the law, I think it well, in order to point this out, to fully state -the facts which control' the decision of this case and restate the controlling principles.
Taxpayer, the fee owner of two tracts of oil bearing land, leased them in 1927 for a cash bonus, an oil royalty of one-sixth, and oil payments of 20 percent to be paid out of the net profits from production. Oil was discovered in 1932, and in 1935, 1936, 1937, 1938, 1939 and 1940, taxpayer received out of production its royalty and also payments on account of the 20 percent it had reserved. Of the opinion that all of the payments made to it out of production were a return of its capital interest in the oil in place, taxpayer, on the authority of W. S. Green, 26 B. T. A., 1017, a precisely similar case, claimed, and for 1935 -through 1939 was allowed, depletion on them all. For 1940, the tax year in question here, the Commissioner allowed the depletion on the one-sixth royalty, but denied it on the oil payments on the ground that these were not payments out of an interest ,in oil reserved by taxpayer but were mere cash payments on an outright sale of -the minerals it owned.
.The Tax Court took a different view. It found,1 on a record which fully supports the finding, that, by -the leasing arrangements, lessor retained an economic interest in the minerals in place, and provided for its return out of production, in part through .the one-sixth royalty, and in part through the 20 per cent payments. It held, on considerations which I think cannot be gainsaid, and on an analysis of the authorities which I find unanswerable, that these payments were not cash payments agreed upon as the purchase price for an outright sale, but oil payments out of production of oil in which taxpayer had, to the extent of royalty and payments, retained an economic interest. It rejected the Commissioner’s disallowance and ordered the deficiencies redetermined accordingly.
The Commissioner, pointing with unwavering finger at the words, “net profits” realized by lessees from their operation of the lease, used by the parties as the measure of the payments out of production, is here insisting that the cases he cites2 require a reversal of the Tax Court’s ruling.
Taxpayer is here insisting that this is just another of the all too many cases in which a too intense preoccupation by the Commissioner with words as formulas, here “net profits”, coupled with a complete disregard of the controlling facts existing and found by the Tax Court as to what the parties intended to do and did do, has led the Commissioner astray. He points out that the ci-ted cases, except Commissioner of Internal Revenue v. Caldwell Oil Corporation, 5 Cir., 141 F.2d 559, which taxpayer insists supports it and not the Commissioner, dealt with situations in which it was clear that the taxpayer, reserving no economic interest in the minerals in place, but, by outright sale, parting with all of them, had made provisions, sometimes in one way and sometimes in another, merely for payments in cash of the consideration for -the sale. He insists that the situation here is quite different in fact, and the controlling cases are: Thomas v. Perkins, 301 U.S. 655, 57 S.Ct. 911, 81 L.Ed. 1324;3 Spalding v. United States, 9 Cir., 97 F.2d 697; Commissioner of Internal Revenue v. Felix Oil Co., 144 F.2d 276; and Commissioner of Internal Revenue v. Caldwell Oil Corporation, 5 Cir., 141 F.2d 559, where, as here, there was no outright sale but merely a leasing of -the property for oil development wi-th a provision for return to the lessor of the interest it had reserved, in part through a bonus, in part through a fixed royalty, and in part through fixed payments out of the production of oil.
I think it clear that the Tax Court was right. The most cursory examination of *85the contracts which effected the leasing arrangement4 discloses that the words “net profits” were used merely as a shorthand way of saying that Kirby’s part of the gross production was to be 20 percent, less, however, 20 percent of the charges and expenses of operation as provided in the agreement. Thus, in fact and in legal effect, the agreement was the same as if it had in terms provided that lessor retained, .and was to have, 20 percent of the gross profits from production, subject, however, to the payment of 20 percent of the specified expenses. The 20 per cent payment it ■received therefore constituted, under Helvering v. Mountain Producers Corporation, 303 U.S. 376, 58 S.Ct. 623, 82 L.Ed. 907, the “gross income” on which its depletion must be taken. Cf. Commissioner of Internal Revenue v. Felix Oil Co., 9 Cir., 144 F.2d 276.
That the parties intended by the leasing ■contracts, not an outright sale of the properties but to provide for the retention by taxpayer of an interest in the oil in place, is suggested by even the most superficial view of the contracts and the circumstances attending their making and carrying out. The assembling and analysis of the significant facts found by the Tax Court leaves me in no doubt that taxpayer is entitled to the depletion. Taxpayer was the owner in fee of the property, and it did not sell it outright for a price to be paid in cash, but, on the contrary, leased it for a royalty and a bonus to be paid, part in cash and part from future production. It neither received nor contracted to receive any cash as the purchase price, but only as bonus, that is, as advance royalty, as royalty and as oil payments. It carefully guarded the ascertainment of the net profits through the receipt of which it was to recover part of its reserved capital by specifying what charges should be made and how they were to be made. To remove *86from any doubt the fact that .taxpayer had retained an interest in the property, the contract, though providing that first party should have exclusive charge of operations as well as the payment of rentals, royalties and other charges, in Clause IV declared: “First party shall have exclusive charge and control of the marketing of all oil, gas and other minerals produced from said premises, and in which the parties hereto may be interested.” Clause V provided: “Second Party shall participate in the profits derived from the sale of the oil and gas and other mineral production of the lease only after all charges and debits and costs of producing profits shall have been paid and provided for.” Finally, the ninth clause, providing that the contract shall bo binding on the parties and their successors, makes it entirely clear that it did not impose a mere personal obligation, but, on the contrary, fixed a charge upon the property to protect the interest, taxpayer had retained. If, as the Commissioner claims, the lessor had no interest in the premises or in the production, what was there to bind the successors to? If the contract was merely a personal agreement to pay money, what was the office of the clause?
It will serve no useful purpose for me to analyze each of the cases cited by the Commissioner. The Tax Court has sufficiently distinguished them. It is sufficient to say that some of them are not depletion cases at all. In most 'the issue was who owned the production, that is to whom it was taxable as ordinary income. The Commissioner does not contend that the 20 percent payments are taxable as ordinary income to the lessees and not to the taxpayer, as was successfully contended in some of the cases Commissioner cites, and as would be the case here if .the Commissioner is right. Quite to the contrary, he accepts them as ordinary income as they were returned by Kirby, and insists on taxing them as such. As Anderson v. Helvering [310 U.S. 404, 60 S.Ct. 954]5 makes clear, if Kirby is not entitled to depletion on these payments, it is because they are the income of the operators and .taxable to them. Pointing out that it is the substance of what has occurred which determines who is the owner of, and therefore the payor of taxes on, income from oil production, it makes clear that what is significant in determining this is whether a person, who has owned land and has dealt with reference to the minerals under it, has sold the minerals outright and is looking to the production, if at all, merely as a measure of the cash payments for the sale, or whether he has intended to reserve, and has reserved, in any form, an interest in the minerals and is looking, for its recovery, to the production. Discussing and analyzing the different situations in which this question has been presented to the courts, the Court makes it clear that just as royalties are, cash bonuses, Burnet v. Harmel, 287 U.S. 103, 53 S.Ct. 74, 77 L.Ed. 199, and oil payments, Thomas v. Perkins, 301 U.S. 655, 57 S.Ct. 911, 81 L.Ed. 1324, are entitled to depletion. Declaring that the decision in Thomas v. Perkins did not turn upon the particular instrument involved nor upon .the formalities of the conveyancer’s art, but rested upon the practical consequences of the provision for payments of that type, it pointedly reaffirmed the depletability of oil payments. Saying that the circumstances urged by the Commissioner, that the provision for oil payments in the case under decision was not phrased in terms of a reservation and that the payments were to be in cash rather than directly in oil, are without significance in determining the issues presented for decision, the court denied depletion there because, and only because, the claimant there was not entirely dependent for the deferred payments upon the production of oil, but had a right to look also to sales of the fee.
Helvering v. Anderson makes it plain that there is no difficulty about the principle to be applied. The difficulty comes only in its attempted application. All agree *87■that an outright sale of oil without reservation of an economic interest does not entitle the seller to depletion on partial payments of the purchase price. No case holds differently. No one really contends differently. If what was done here was in fact not to reserve an interest in the production, the Commissioner is right, while if what was done was, as the Tax Court has found and held, to reserve such an interest, taxpayer is right. The Tax Court has found as a fact that by their agreements for leasing the parties arranged that lessor was to have out of the production a cash bonus, a royalty, and additional payments out of 20 per cent of the net profits. Helvering v. Anderson makes it plain, too, that the Tax Court was right in holding, as it did in Commissioner of Internal Revenue v. Felix Oil Co., supra, that a provision for 50 percent of the net profits, and, as it did in Commissioner of Internal Revenue v. Caldwell Oil Corporation, supra, that a provision for all of the net profits until certain amounts were paid back, entitled the owner of the oil payments to depletion, and that the courts were right in those cases in affirming the Tax Court. It also makes it plain that the Tax Court was right in allowing depletion here, and that its judgment should be affirmed.

 2 T.C. 1258.

 Helvering v. O’Donnell, 303 U.S. 370, 58 S.Ct. 619, 82 L.Ed. 903; Helvering v. Elbe, 303 U.S. 372, 58 S.Ct. 621, 82 L.Ed. 904; Anderson v. Helvering, 310 U.S. 404, 60 S.Ct. 952, 84 L.Ed. 1277; Blankenship v. U. S., 5 Cir., 95 F.2d 507; Quintana Petroleum Co. v. Commissioner of Internal Revenue, 5 Cir., 143 F.2d 588; and Commissioner of Internal Revenue v. Caldwell Oil Corporation, 5 Cir., 141 F.2d 559.

 Cf. the thoughtful analysis and application of that case in Anderson v. Helvering, 310 U.S. 404 at pages 409-13, 60 S.Ct. 952, 84 L.Ed. 1277.

 These arrangements provided for the royalty and made the ordinary provisions carried in oil loase contracts. In addition, after providing that the lessees ■should have exclusive charge of all operations to be conducted on the land as well as the payment of rentals, royalties. taxes and other charges which may become due, the contract went into most •careful detail as to the costs and expenses which were to be charged to the joint account. Providing “no home office or other overhead charge shall be made to the joint account, in connection with the operation of premises”, it provided: for a fixed bookkeeping and expense charge; that material should be charged at cost; and otherwise made it clear that though lessee was to he the operator of the premises and was to make payments to lessor equivalent to 20 percent of the net profits therefrom, the operation was for joint account.
Olause IV provided: “First Party shall have exclusive charge and control of Ihe marketing of all oil, gas and other minerals produced from said premises, and in which the parties hereto m,aaj be interested”, (emphasis supplied). “Upon the sale of any such minerals', the accounts covering the lease referred to above, shall be credited with the proceeds of such sales. * * * ”,
Clause V provided: “The total net profits (or total net loss as the case may be) shall be determined by deducting the total charges made against the lease as authorized herein from the itotal credits at,lowed the lease as authorized herein Second Party shall participate in the profits dei-ived from the sale of the oil and gas and other mineral production of the lease embraced in this agreement only after all charges and debits and costs of producing profits shall have been paid and provided for. It is expressly agreed that First Party shall have the right to carry forward any loss from operations as a charge against the net profit account for the next and succeeding months until such loss has been wiped out and paid.” (Emphasis supplied.)
Clause VI provided that First Party should keep an accurate record of all accounts, which record should be available at all times for examination and inspection by second party, and “Second Party shall also have access at all reasonable times to the well and production records and reports relating to said premises.” First party was required within one month after the close of each calendar month to furnish Second Party with statement of authorized expenses incurred and charges made and authorized credits made. It provided finally that within one month after the close of each calendar month Second Party shall be paid its 20 percent of the net money profits derived from the operation of the lease as calculated and determined under the terms hereof.
Clause IX provided: “THIS CONTRACT SHALL BE BINDING UPON THE PARTIES HERETO AND THEIR RESPECTIVE SUCCESSORS IN INTEREST”. (Emphasis supplied.)

 “It is settled that the same basic issue determines both to whom income derived from the production of oil and gas is taxable and to whom a deduction for depletion is allowable. That issue is, who has a capital investment in the oil and gas in place and what is the extent of his interest. Helvering v. Bankline Oil Co., 303 U.S. 362, 367, 58 S.Ct. 616, 618, 82 L.Ed. 897; Helvering v. O’Donnell, 303 U.S. 370, 58 S.Ct. 619, 82 L.Ed. 903; Helvering v. Elbe Oil Co., 303 U.S. 372, 58 S.Ct. 621, 82 L.Ed. 904; Thomas v. Perkins, 301 U.S. 655, 661, 663, 57 S.Ct. 911, 913, 914, 81 L.Ed. 1324; Helvering v. Twin Bell Oil Syndicate, 293 U.S. 312, 321, 55 S.Ct. 174, 178, 79 L.Ed. 383; Palmer v. Bender, 287 U.S. 551, 53 S.Ct. 225, 77 L.Ed. 489. Compare Helvering v. Clifford, 300 US. 331, 60 S.Ct. 554, 84 L.Ed. 788.”