Opinion
This case having been heard by the Court of Claims, the court, upon a stipulation of facts entered into between the parties, makes the following special findings of fact:
1. Plaintiff is a corporation organized and existing under the laws of the State of Texas, with its principal office and place of business in the City of San Antonio in said State.
2. Prior to March 22, 1930, plaintiff was the owner and in possession of two oil and gas mining leases, one known as the Joe St. John Lease, and the other known as the J.T. Vance Lease, both located in Refugio County, State of Texas, and upon each of which it had drilled and was producing oil and gas in paying quantities.
3. On March 22, 1930, plaintiff entered into an agreement with Houston Oil Company of Texas, a Texas corporation, which provided, among other things, as follows:
"I. Heep Oil Corporation, a Texas corporation, for and in consideration of the sum of One Hundred Thousand Dollars ($100,000.00), to it cash in hand paid by the Houston Oil Company of Texas, receipt whereof is hereby acknowledged and confessed, and for and in consideration of the further considerations hereinafter particularly set forth, has granted, sold, conveyed, transferred, assigned, and delivered, and does by these presents grant, sell, convey, transfer, assign, and deliver unto the Houston Oil Company of Texas, a Texas Corporation, those two certain oil, Gas and Mineral Leases, the two oil wells thereon, the machinery, equipment, improvements, personal property of every kind and character thereon situated belonging to the Heep Oil Corporation, said Leases covering lands situated in Refugio County, Texas, and, being more particularly described as follows: "(1) Oil, gas, and Mineral Lease from Joe St. John et al to Herman F. Heep, dated October 24, 1929, and recorded in Vol. 14, Page 130, of the Deed Records of Refugio County, Texas, and covering the whole of Block No. One (1) of a Subdivision of the Tract No. One (1) of the Town Commons of the Town of Refugio, and being known as the Sunshine Addition; "(2) Oil, Gas, and Mineral Lease from J.T. Vance et ux of Refugio County, Texas, to William F. Morgan, dated the 12th day of September 1929, and being recorded in Vol. 13, pages 575-579, of the Deed Records of Refugio County, Texas, and covering a tract of Eight (8) acres and being the Northeast Quarter of Tract No. Five (5) of a Subdivision of the Town Commons of the Town of Refugio, Refugio County, Texas. "To have and to hold the above described premises, leases, oil well, improvements, and personal property unto the said Houston Oil Company of Texas, its successors and assigns forever. "II. In addition to the One Hundred Thousand Dollars cash consideration paid by Houston Oil Company of Texas to Heep Oil Corporation in consideration of the foregoing conveyance and assignment, the Houston Oil Company of Texas agrees to pay the following additional considerations:
"(1) Houston Oil Company of Texas agrees to pay off and discharge the indebtedness of Six Thousand Dollars ($6,000.00) now due and owing by the Heep Oil Corporation to William F. Morgan or his assigns, more particularly described and referred to hereinabove: "(2) Houston Oil Company of Texas recognizes and acknowledges that there is now outstanding in addition to the royalty payable to the lessor, Joe St. John e al, an additional overriding royalty of One-one hundred sixtieth ( 1/160th) to James H. Johnson, as provided for in that certain Mineral Deed from Herman F. Heep to James H. Johnson, dated October 25, 1929, and recorded in Vol. 14, page 79 of the Deed Records of Refugio County, Texas, to which reference is hereby made; "(3) The foregoing assignment made expressly subject to a reservation of a One thirty-second ( 1/32nd) part of the oil and gas to be produced out of the leases hereinabove described from any oil and/or gas producing sands below the level of Thirty-eight Hundred (3800) feet, and which said 1/32nd royalty is hereby expressly reserved unto the Heep Oil Corporation; "(4) Houston Oil Company of Texas further agrees to pay unto the Heep Oil Corporation the sum of One Hundred Thousand Dollars ($100,000.00) out of One-half ( 1/2) of the oil and/or gas produced by the said Houston Oil Company of Texas and marketed by it from the above-described leases, after having first deducted from the total of the production so produced and marketed the royalties payable to the lessors in said leases or their assigns and the overriding royalties above described and referred to, it being the intention hereof to provide for the payment of said sum of One Hundred Thousand Dollars ($100,000.00) out of, and only out of, One-half of the amount remaining from said production unto the Houston Oil Company of Texas after the prior payment of the royalties and overriding royalties therefrom. In the event that such One-half ( 1/2) of the oil and gas thus remaining which shall be produced and marketed by the Houston Oil Company of Texas from the above-described leases shall be insufficient in quantity and value to fully pay off said consideration of One Hundred Thousand Dollars ($100,000.00) hereinabove provided for, then and in that event said Houston Oil Company of Texas shall have no other or further liability unto the Heep Oil Corporation on account of so much of said One Hundred Thousand Dollar payment remaining unpaid and unsatisfied. The plain intention of the parties hereto is that said sum of money is to be payable solely and only out of production in the event that the portion of such production applicable to such payment shall be sufficient to liquidate said payment."
4. On April 8, 1930, plaintiff and said Houston Oil Company of Texas entered into a supplemental agreement with respect to the leases aforesaid making provision for an obligation previously assumed by plaintiff to one William F. Morgan to receive four thousand dollars ($4,000) out of the production of oil or gas from the J.T. Vance lease aforesaid.
5. After the execution of the above agreements, all oil and gas produced from the above leases, except the royalties due to the original lessors and the overriding royalty to James H. Johnson, were marketed by Houston Oil Company of Texas.
6. The aforesaid agreements were performed by all parties in accordance with the terms thereof, and during the calendar year 1930 plaintiff received, under said agreements, in addition to the one hundred thousand dollars ($100,000) cash payment and discharge of its six thousand dollar ($6,000) indebtedness mentioned therein, the sum of forty-six thousand nine hundred forty-seven and 28/100 dollars ($46.957.28). Said amount of forty-six thousand nine hundred forty-seven and 28/100 dollars ($46,947.28) represented payments "out of One-half ( 1/2) of the oil or gas produced by said Houston Oil Company of Texas and marketed by it."
7. On March 14, 1931, plaintiff filed its Federal income tax return for the calendar year 1930 disclosing therein a net income for said year of $35,580.84 and a tax due thereon of $4,269.70, which it paid as follows:
On March 18, 1931 ...............
$1,067.43
On June 17, 1931 .................
1,067.43
On September 15, 1931 ............
1,067.42
On December 15, 1931 .............
1,067.42
Thereafter the Commissioner of Internal Revenue determined an additional income tax liability against plaintiff for said year in the amount of $4,790.50, which it paid on June 3, 1932, together with interest thereon in the sum of $355.88. Said additional tax was due to the adjustment of a loss reported on another lease charged off during the year and is not in controversy in this case.
In its said income tax return for 1930 plaintiff reported, and in his determination of the aforesaid deficiency the Commissioner determined, a profit on the above transaction with the Houston Oil Company of Texas of $74,534.65, computed as follows:
Cash received, or its equivalent
$106,000.00
Payments out of oil .................
46,947.28
-----------
$152,947.28
Less cost of leases and equipment adjusted fordepletion and depreciation................
78,412.63
Profit......................................
74,534.65
8. The cost of the leases and equipment to plaintiff, covered by the foregoing agreement between plaintiff and Houston Oil Company of Texas on March 22, 1930, as adjusted for depletion and depreciation, was $78,412.63.
Plaintiff took no deduction in its said tax return for 1930 for depletion with respect to the payments received by it from Houston Oil Company of Texas, and the Commissioner of Internal Revenue in his final determination of Plaintiff's tax liability for said year refused to allow any deduction with respect to said payments on account of depletion.
If it be held that plaintiff is entitled to take depletion on the aforesaid $46,947.28, then it is agreed that the amount of such depletion is 27 1/2 percent of said amount, without limitation, and that the revised taxable net income as finally determined by the Commissioner of Internal Revenue for the calendar year 1930 in the amount of $75,501.65 should be reduced accordingly.
9. On May 19, 1933, plaintiff filed with the Collector of Internal Revenue at Austin, Texas, its claim for the year 1930, in which it asked for the refund of $4,472.08 upon the following grounds:
"During the year 1930 this taxpayer transferred oil properties to the Houston Oil Company and received $100,000.00 in cash and retained a $100,000.00 interest in future oil to be produced. In the computation of taxable income, no allowance for depletion was deducted by the revenue agent. This taxpayer relies upon a United States Supreme Court Decision entitled Palmer v. Bender, 287 U.S. 551, 53 S.Ct. 225, 77 L.Ed. 489, # 215, October Term, Decided January 9, 1933."
Said claim for refund was rejected by the Commissioner of Internal Revenue on October 25, 1935, and plaintiff wad duly notified thereby by registered mail.
10. On September 25, 1937, plaintiff filed with the Commissioner of Internal Revenue a request for reconsideration of its claim for refund.
By letter mailed on October 14, 1937, the Commissioner of Internal Revenue denied said request because of insufficient time left within which to act thereon.
11. Plaintiff is the sole owner of the claim sued upon and has never transferred or assigned the same, or any part thereof, or any interest therein, and no action on the said claim, except as herein stated, has been had in Congress or in any of the Departments of the Government. [Copyrighted Material Omitted] [Copyrighted Material Omitted] Clarence F. Rothenburg, of Washington, D.C. (Hamel, Park & Saunders, Charles D. Hamel, Lee I. Park, and John Enrietto, all of Washington, D.C., on the brief), for plaintiff.
Guy Patten, of Washington, D.C., and Samuel O. Clark, Jr., Asst. Atty. Gen. (Robert N. Anderson and Fred K. Dyar, both of Washington, D.C., on the brief), for defendant.
Before WHALEY, Chief Justice, and GREEN, LITTLETON, and WHITAKER, Judges.
WHITAKER, Judge.
On March 22, 1930, the plaintiff executed and instrument under the terms of which it "granted, sold, conveyed, transferred, assigned, and delivered" to the Houston Oil Company of Texas, two oil, gas, and mineral leases, together with the machinery, equipment, improvements, and personal property situated thereon. The consideration for the conveyance was $100,000 in cash, the assumption of an obligation of the grantor of $6,000, and the agreement on the part of the Houston Oil Company to pay an additional sum of $100,000 "out of one-half ( 1/2) of the oil and/or gas produced by the said Houston Oil Company of Texas and marketed by it from the above-described leases," after having first paid the royalties. It was further provided:
"It being the intention hereof to provide for the payment of said sum of One Hundred Thousand Dollars ($100,000.00) out of, and only out of, One-half of the amount remaining from said production unto the Houston Oil Company of Texas after the prior payment of the royalties and overriding royalties therefrom. In the event that such One-half ( 1/2) of the oil and gas thus remaining which shall be produced and marketed by the Houston Oil Company of Texas from the above-described leases shall be insufficient in quantity and value to fully pay off said consideration of One Hundred Thousand Dollars ($100,000.00) hereinabove provided for, then and in that event said Houston Oil Company of Texas shall have no other or further liability unto the Heep Oil Corporation on account of so much of said One Hundred Thousand Dollar payment remaining unpaid and unsatisfied. The plain intention of the parties hereto is that said sum of money is to be payable solely and only out of production in the event that the portion of such production applicable to such payment shall be sufficient to liquidate said payment."
During the year 1930, plaintiff received from the Houston Oil Company, in addition to the $106,000 paid at the time of the execution of the instrument, the sum of $46,957.28, representing one-half of the proceeds of the oil or gas produced and marketed during the year, less the royalties. In its income-tax return for the year 1930 the plaintiff deducted from the total sum of $152,947.28 received during the year the cost to it of the leases and equipment, less depletion and depreciation, amounting to $78,412.63. This resulted in a profit on the transaction in the sum of $74,534.65, which amount plaintiff included in its income for said year. This was approved by the Commissioner.
Later, the plaintiff filed a claim for refund of $4,472.08, alleging that it was entitled to depletion with respect to the $46,947.28, which it had not deducted in its return.
On rejection of this claim, this suit was brought.
Plaintiff claims the right to deduct from the cash payment the cost of the property, and to deduct depletion with respect to the deferred payments. We are of the opinion that this cannot be done under the terms of the instrument in this case.
The plaintiff's conveyance was of all the oil and gas deposits on the leased premises. it did not reserve from the conveyance any part of the oil and gas in place, except for "one thirty-second ( 1/32nd) part of the oil and gas to be produced out of the leases hereinabove described from any oil and/or gas producing sands below the level of Thirty-eight Hundred (3800) feet." All other oil and gas were sold. The instrument provides that the plaintiff has.
"Granted, sold, conveyed, transferred, assigned and delivered, and does by these presents grant, sell, convey, transfer, assign and deliver unto the Houston Oil Company of Texas, a Texas Corporation, those two certain Oil, Gas and Mineral Leases, the two oil wells thereon, the machinery, equipment, improvements, personal property of every kind and character thereon situated belonging to the Heep Oil Corporation, said Leases covering lands situated in Refugio County, Texas, and being more particularly described as follows:
* * *
* * *
"To have and to hold the above described premises, leases, oil wells, improvements and personal property unto the said Houston Oil Company of Texas, its successors and assigns forever."
The clause providing for the reservation of a part of the oil produced below the 3,800-foot level reads as follows: "(3) The foregoing assignment made expressly subject to a reservation of a One thirty-second ( 1.32nd) part of the oil and gas to be produced out of the leases hereinabove described from any oil and/or gas producing sands below the level of Thirty-eight Hundred (3800) feet, and which said 1/32nd royalty is hereby expressly reserved unto the Heep Oil Corporation."
It is clear that the balance of the oil was covered by the conveyance.
It may be that plaintiff did retain an economic interest in the oil in place sufficient to entitle it to depletion. Palmer v. Bender, 287 U.S. 551, 53 S.Ct. 225, 77 L.Ed. 489; Helvering, Commissioner v. Twin Bell Oil Syndicate, 293 U.S. 312, 55 S.Ct. 174, 79 L.Ed. 383; Thomas, Collector v. Perkins et al., 301 U.S. 655, 57 S.Ct. 911, 81 L.Ed. 1324; Helvering Commissioner v. O'Donnell, 303 U.S. 370, 58 S.Ct. 619, 82 L.Ed. 903; Helvering, Commissioner v. Elbe Oil Land Development Company, 303 U.S. 372, 58 S.Ct. 621, 82 L.Ed. 904. But it is clear that it cannot deduct both depletion and cost, since it did not reserve from the conveyance the oil, out of the proceeds of the sale of which it received the deferred payments. This also was sold. Had it not been sold a different case would be presented.
We do not decide whether or not plaintiff is entitled to depletion. We hold only that it is not entitled under the instrument in this case to deduct both the cost to it of the property and depletion also.
We are further of the opinion that if it is entitled to depletion, this depletion must be computed with respect to the entire amount paid and not merely on the deferred payments to be made out of the oil produced.
In Commissioner v. Fleming, 82 F.2d 324, the majority of the court in the Fifth Circuit held that depletion should be computed only on the deferred payments, on the theory that that part of the oil out of which the deferred payments were to be made had not been sold. Circuit Judge Foster dissented. The Ninth Circuit, on the other hand, in the case of Elbe Oil Land Development Company v. Commissioner, 91 F.2d 127, held that depletion should be computed both on the deferred payments and the cash payment as well. Judge Garrecht dissented, but not on this ground. The Supreme Court reversed the Circuit Court of Appeals (Helvering v. Elbe Oil Land Development Company, 303 U.S. 372, 58 S.Ct. 621, 82 L.Ed. 904), but on the ground that the transaction there was an absolute sale of the leasehold, with no reservations to the grantor of any economic interest in the oil situated thereon.
If by the instrument in the case before us, properly construed, the plaintiff had conveyed all of the oil except a portion which it reserved to itself, it would follow that it was entitled to depletion only on the oil reserved, but, as we said heretofore, we think the conveyance here was of all the oil, except for the 1/32nd part of that produced from sands below the 3,800-foot level. In such case, if plaintiff's net income is to be computed by the deduction of depletion from the amount received, rather than the cost of the property, it must be computed with respect to the entire amount received. The cash payment must be treated as a bonus or advance royalty. Burnet v. Harmel, 287 U.S. 103, 53 S.Ct. 74, 77 L.Ed. 199; Murphy Oil Co. v. Burnet, 287 U.S. 299, 53 S.Ct. 161, 77 L.Ed. 318.
The depletion deduction on this basis and on the basis of payments made in 1930 amounts to $42,060.50. If the entire amount had been received during the year, the total depletion allowance would have been $56,650. But the plaintiff in its return deducted more than this amount, to-wit, $78,412.63. It results that it has not overpaid its tax.
Its petition is accordingly dismissed. It is so ordered.