Court Opinion

ID: 9637956
Source: CourtListenerOpinion
Date Created: 2023-08-22 15:27:50.383852+00
Date Added: 2024-06-11T14:59:51.988011
License: Public Domain

LEE, Circuit Judge
(dissenting).
On December 28, 1938, J. M. West and his wife and two sons and certain individuals acting as trustees for the West Foundation, hereinafter called “the Wests,” executed a deed granting certain lands and interests to the Humble Oil & Refining Company, hereinafter referred to as “Humble.” Contemporaneously with the execution of the deed, the Wests entered into a contract with Humble, which contract was incorporated in the deed, by reference.
In the deed the Wests conveyed,1 subject to certain royalties reserved by the vendors, the fee title to 23,155.60 acres of land and the minerals in and under 70.67 acres of land. Excepted from this conveyance were varying royalties of oil, gas, and other 'minerals particularly described in the supplemental contract, and the deed expressly provided that “such royalties so excepted and retained are not herein conveyed and shall not be construed as passing to Humble Oil & Refining Company by any language whatsoever in this deed contained, and reference is here made to said supplemental contract for more specific descriptions of the royalties excepted herefrom and retained by the grantors herein.”
In the contemporaneous contract it was provided that Humble would operate the properties, and in that connection Humble agreed that it would operate, with reasonable diligence, at least two drilling rigs upon the land situated within the Friends-wood oil field, until there had been development to the extent of one well to each twenty acres of the producing area, or to a greater extent if it was necessary to offset drilling on adjacent lands. A similar provision was made with respect to the portions of the lands lying within the Clear Lake oil field. With respect to the lands not included within the two named oil fields, and with respect to the mineral rights above or below, on or existing in the producing horizon, it was provided that should oil or gas be discovered in paying quantities Humble would reasonably develop in these areas or at these horizons. The contract set out the standard of reasonable development and made provision for the drilling of offset wells under certain circumstances. It gave the Wests the right to request Humble to drill five deep test wells within certain areas involved at any time after the expiration of five years after Friendswood and Clear Lake oil fields had been developed to the extent required, and fixed the depth to which Humble was obligated to drill the deep test wells at 10,000 *729feet. It gave Humble the right of ingress and egress to and from the tracts in which the minerals only were conveyed, and provided that the Wests should sell their royalty oil to Humble at prevailing market prices for a period of five years. It stipulated that all taxes assessed against the minerals reserved by the Wests were to be paid by the Wests.2
These contracts were made and entered into in the state of Texas and covered lands situated in that state. Clearly, therefore, the rights and titles conveyed by them are governed by Texas law.3
Under the deed from the Wests, Humble received an absolute fee simple title subject only to the reservation of the undivided interest in the mineral rights (royalty interests) reserved by the Wests. Duhig v. Peavy-Moore Lumber Co., 135 Tex. 503, 144 S.W.2d 878. By the reservation of an interest in the minerals in their deed to Humble, the Wests severed the land conveyed into two estates, one a surface estate and the other a mineral estate. Harris v. Currie, 142 Tex. 93, 176 S.W.2d 302, 305. Thereafter, the mineral estate was owned jointly and in indivisión by Humble and the Wests. That this is so is made clear by the Supreme Court of Texas in Harris v. Currie, The court there said:
“In this case, when R. H. Harris conveyed the land here involved to F. L. Harris, he severed [by his reservation] one-half the mineral estate from the balance of the land. By such conveyance, R. H. Harris became the owner of one-half the mineral estate for 15 years. F. L. Harris became the owner of the other one-half the mineral estate and all the surface estate. The only estate R. H. Harris reserved was the one-half mineral estate for 15 years, with the right to certain royalties thereafter, under the terms of the reservation clause in said deed already quoted.”'
In an earlier case, Veal v. Thomason, 138 Tex. 341, 159 S.W.2d 472, 476, the Supreme Court of Texas said:
“We think it is settled by the decisions of this Court and of this State that a contract affecting land in this State, granting or reserving mineral royalty in such land, constitutes such royalty real property. Stated in another way, a contract affecting land in this State, which grants or reserves mineral royalty in such land, constitutes the owner of such royalty the owner of an estate in such land. Sheffield v. Hogg (Federal Royalty Co. v. State), 124 Tex. 290, 77 S.W.2d 1021, 80 S.W.2d 741; Sheppard v. Stanolind Oil & Gas Co., Tex.Civ.App., 125 S.W.2d 643, writ refused; W. T. Waggoner Estate v. Sigler Oil Co., 118 Tex. 509, 19 S.W.2d 27; State National Bank of Corpus Christi v. Morgan, 135 Tex. 509, 143 S.W.2d 757; O’Connor v. Quintana Petroleum Co., 134 Tex. 179, 191, 133 S.W.2d 112, 134 S.W.2d 1016. It is also settled by our decisions that mineral royalty affecting land in this State, granted or reserved, ‘and however payable- — -whether in the specific product (in oil) or in money measured by the value of the product,’ is an interest in the land covered by the contract. Sheppard v. Stanolind Oil & Gas Co., supra, 125 S.W.2d 649; Sheffield v. Hogg (Federal Royalty Co. v. State), supra.”
See also Evans v. Mills, 5 Cir., 67 F.2d 840, and authorities therein cited.
When the legal effect, under Texas law, of the deed is considered, it is clear that the contemporaneous agreement was entered into by the parties to take care of and provide for the development of the mineral estate owned in common by them.4 Such *730being its purpose, it is understandable that many provisions common to an oil and gas lease having to do with development should find their way into the agreement; but it does not necessarily follow that the incorporation into the agreement of such provisions has the effect of changing the absolute conveyance of the surface estate and of an undivided interest in the mineral estate into, as respects the mineral estate, a contract in the nature of a lease. In Freeman v. Magnolia Petroleum Co.,5 Tex.Civ.App., 165 S.W.2d 111, 114, the court said:
“The law with reference to the nature o the title acquired by the lessee in an ordinary oil and gas lease is well established in this State. He is vested with the title to the oil, gas, and other minerals, and his title is what is known to the law as a determinable fee which is lost upon cessation of the use of the land for the purposes of exploration, development, and production of the minerals that constitute the subject of the contract. Likewise, his interest is lost upon a failure to pay the rentals provided in the lease on or before the date they become due. These are conditions upon which the lessee holds his title and he is divested of the title upon his failure to comply with such conditions, because the lease so provides. After the discovery of oil or gas under a lease which fails to define his duty with regard to further development, the law implies the obligation to continue the development and production of oil or gas with reasonable diligence. Thus, an oil and gas lease contains two distinct elements, namely, conditions and covenants. Failure to comply with a condition in such a lease works a forfeiture of the interests of the lessee, but a breach of a covenant, express or implied, subjects him to a suit for damages. W. T. Waggoner Estate v. Sigler Oil Co., 118 Tex. 509, 19 S.W.2d 27; Benavides v. Hunt, 79 Tex. 383, 396, 15 S.W. 396; Grubb v. McAfee, 109 Tex. 527, 530, 212 S.W. 464; Freeport Sulphur Co. v. American Sulphur Royalty Co. of Texas, 117 Tex. 439, 6 S.W.2d 1039, 1042, 60 A.L.R. 890; Stanolind Oil & Gas Co. v. Barnhill, Tex.Civ.App., 107 S.W.2d 746; McGraw Oil & Gas Co. v. Kennedy, 65 W.Va. 595, 64 S.E. 1027, 28 L.R.A..N.S., 959.”
Testing the contracts under consideration by the yardstick thus laid down, we find that under the contracts Humble was vested with absolute title to all of the mineral estate except that portion represented by the royalties reserved by the Wests; that cessation of the use of the land for the purpose of exploration, production, and development of the minerals will result in no loss to Humble of its title to said mineral interest; and that failure to pay the royalty owned by the Wests to the Wests likewise will result in no loss of title to Humble. Under no circumstances may the Wests regain possession of the interest in the mineral estate transferred to Humble along with the surface estate, either by the lapse of time or by failure of Humble to comply with its contractual commitments. The development provided for in the contemporaneous agreement, relied on so strongly by the Tax Court and by the majority here in the conclusions each reached, is in the main restricted to two small producing areas. The sole provision for development in the undeveloped territory provided for the drilling of three deep test wells, and, if oil was found, for reasonable development of the producing area. On Humble's default, however, the Wests could not recover the properties, nor would they be entitled to operate them or to lease or sell them to others; their sole recourse would be a suit for damages. Following the execution of the contracts, the Wests were no longer owners of the minerals in place; they merely had an interest therein. Absolute title to the mineral estate, subject to their retained royalties, had passed into Humble.6 The most common attribute, therefore, of a lease contract, namely, the reversionary interest or possibility of reversion, is wholly absent.
The lessee in an ordinary oil and gas lease is vested with “the privilege of exploiting the land for the production of oil and gas for a prescribed period.” 7 Bonus payments and continuing royalties received *731by the lessor in such a case (or by a lessee making an assignment with the retention of a continuing royalty) are made in return for the temporary use and exploitation of the leased property and are in the nature of rent. The cash payment made here certainly does not fall into that category. No payment was made by Humble for the purpose of obtaining a temporary right to use and exploit the property subject to the reversionary interest of the fee owner; and Humble by its payment received more than the privilege of exploiting the land for the production of oil and gas for a prescribed period. It obtained all rights that go with fee ownership.
In the majority opinion reference is made to the fact that Humble, shortly after the contracts were executed, leased the surface. of the land and the large residence thereon to J. M. West for agricultural purposes for a period of five years at a rental of $16,000 per year, and the inference is drawn therefrom that Humble was not interested in the surface title. The evidence shows that Humble first attempted to obtain a lease from the Wests and was informed that the Wests were not interested in making a lease. Negotiations thereafter resulted in the sale and supplemental agreement. While the agricultural lease would indicate that Humble was not particularly interested in the surface estate, it does show that Humble did buy the surface. The refusal of the Wests to lease indicates that Humble had to acquire the surface estate in order to acquire a mineral estate in the lands. Had the contracts specifically sold and conveyed the land and a given portion of the minerals in place, the transaction would have been precisely the same as it was under the language which was employed. Under either, a fixed portion of the minerals in place would be conveyed to Humble. The mineral estate actually conveyed to Humble was all of the minerals in place less the varying royalties in the separate minerals retained by the Wests in the different tracts. The contemporaneous agreement providing for development in no wise changed this result.
So concluding, I dissent from the majority holding that such part of the consideration as was attributable to the mineral rights conveyed represented a bonus or advance royalty, and that the two contracts read together were not, as respects the minerals, a sale but were in the nature of a mineral lease.
Rehearing denied; LEE, Circuit Judge, dissents.

 In consideration of $1,000 and other good and valuable considerations, the Wests “granted, bargained, sold and conveyed” to Humble, “subject, however, to certain outstanding royalty interests, certain exceptions, terms, and provisions hereinafter referred to, more specifically the following:” then followed descriptions of the • various tracts.

 The provisions above set out are the high lights of the contemporaneous contract. The contract in full may be found in the opinion of the Tax Court reported in 3 T.C. at page 431.

 It is immaterial for tax purposes by what name local law designates the relationship of the parties (Morgan v. Commissioner, 1940, 309 U.S. 78, 60 S.Ct. 424, 84 L.Ed. 585, opinion amended and rehearing denied, 1940, 309 U.S. 626, 60 S.Ct. 424, 84 L.Ed. 585, but the substantive property rights of the parties as fixed by local law are binding upon the Federal Courts for purposes of taxation (Burnet v. Harmel, 1932, 287 U.S. 103, 106, 53 S.Ct 74, 77 L.Ed. 199. For example, it is immaterial that Texas law would designate Humble’s interest as a “fee estate,” but it is material if under Texas law Humble’s interest possesses those characteristics which are sufficient to constitute ownership.

 Having reserved certain royalties only in the mineral estate conveyed to Humble, the Wests could not, without more, force development. To protect and provide for same, the supplemental agreement was entered into. Cf. Schlittler v. Smith, 128 Tex. 628, 101 S.W.2d 543; Brown v. Smith, 141 Tex. 425, 174 S.W.2d 43.

 Reversed on other grounds by the Supreme Court, 141 Tex. 274, 171 S.W.2d 339.

 Danciger Oil & Refining Co. v. Powell, 137 Tex. 484, 154 S.W.2d 632, 137 A.L.R. 408; Duhig v. Peavy-Moore Lumber Co., Inc., 135 Tex. 503, 144 S.W.2d 878, 879; Loomis v. Gulf Oil Corp., Tex.Civ.App., 123 S.W.2d 501; Hynson v. Gulf Prod. Co., Tex.Civ.App., 232 S.W. 873; Ralph v. Magnolia Petroleum Co., Tex.Civ.App., 95 S.W.2d 222.

 Burnet v. Harmel, 287 U.S. 103, 107, 53 S.Ct. 74, 77 L.Ed. 199.