*1622 1. During the taxable years petitioner was engaged in mining coal by the open-pit or stripping method, which operation completely destroyed the market value of the surface of the lands so mined. Petitioner acquired by lease from another company the mineral rights to the lands involved, and in order to mine the coal purchased outright for cash the surface rights from numerous fee owners. Held, that the cost of the land should be added to the cost of the coal in determining a reasonable allowance for depletion.
2. Amounts expended for equipment for the purpose of maintaining normal production are deductible as expenses.
*577 This is a proceeding for the redetermination of deficiencies in income tax for the years 1922 and 1923 in the amounts of $481.75 and $375.49, respectively. The issues are: (1) Whether the petitioner is entitled to deduct from gross income for 1923, as an ordinary and necessary expense, the amount of $829.65 expended in said year for the purchase of steel rails and fittings, and (2) whether the petitioner is entitled*1623 to a deduction from income for each taxable year on account of the exhaustion of its investment in the surface of certain lands alleged to have been destroyed by its coal-mining operations.
FINDINGS OF FACT.
The petitioner is an Alabama corporation, with its principal place of business at Manchester, and is engaged in the business of mining coal. In 1923 the petitioner purchased from the Birmingham Rail *578 & Locomotive Company certain railroad material, consisting of 40-pound relay steel rails, joints, bolts, plates and spikes, at a total cost of $829.65. This material was purchased for the purpose of constructing extensions of its railroad used in its mining operations, and was still in use at the date of the hearing in November, 1929. The material so purchased by the petitioner did not increase its production nor decrease the cost of production, but said material was purchased for the purpose of maintaining the normal output of the mine. The petitioner charged the above amount to expense and deducted same from income in its return for 1923. The respondent disallowed said deduction, treated the expenditure as a capital investment, and allowed a deduction for depreciation.
*1624 During the taxable years, the petitioner was engaged in mining bituminous coal by the strip-mine method. The coal lay near the surface of the earth and the over-burden or top soil was stripped off with a steam shovel, thus laying bare the seam of coal. By this method of mining, the value of the surface was, for all practical purposes, destroyed when the coal was mined.
The petitioner acquired by lease from the Tennessee Coal, Iron & Railroad Company the right to mine the coal which underlay certain lands, the surface of which was owned by various other parties. The coal could be removed profitably only by the stripping operation, and since this method resulted in destroying the value of the surface, the Tennessee Company agreed to lease its mineral rights to the petitioner on condition that the petitioner first acquire title to the surface, in order that the lessor might not be liable to the owners for the damage done to the surface in removing the coal. Accordingly, the petitioner acquired by purchase the surface of the lands in question during and prior to the taxable years as follows:
| Grantors and expense items | Date of purchase | Consideration - cash | Acres acquired - surface |
| 1921 | |||
| Prospecting expense | Apr. 30 | $110.00 | |
| P. Z. Skinner, Manchester, Ala | June 30 | 2,854.50 | 120 |
| P. M. Long, trustee, Cordova, Ala | do | 800.00 | 40 |
| Cordova Land Co | do | 1,600.00 | 40 |
| E. W. Long, Jasper, Ala | do | 2,400.00 | 20 |
| Mrs. Guy R. Lacey, Manchester, Ala | do | 1,600.00 | 40 |
| H. L. Couch, Manchester, Ala | do | 3,000.00 | 80 |
| Estate of E. M. Barton, Chicago, Ill | do | 135.00 | 6 |
| Prospecting expense | Aug. 31 | 500.00 | |
| Prospecting expense | Sept. 30 | 270.50 | |
| 1922 | |||
| John Kilgore, Jasper, Ala | Jan. 17 | 10,200.00 | 400 |
| 1923 | |||
| C. N. Crump, Jasper, Ala | Apr. 12 | 225.00 | 20 |
| Total | 23,695.00 | 866 |
*1625 *579 The petitioner's total production during and prior to the taxable years was as follows:
| Year | Tons mined |
| 1921 | 17,980.62 |
| 1922 | 52,356.10 |
| 1923 | 46,994.95 |
| Total | 117,331.67 |
The seam of coal upon which the petitioner operated was on an average about 22 inches thick. In its operation, the petitioner attempted to recover the coal where the over-burden was generally not more than 25 feet thick. When the over-burden became more than 25 feet in depth, the coal could not be profitably recovered. The petitioner's properties were broken, being covered by hills and valleys, and while the seam of coal was practically level, all the coal could not be recovered because of the increased over-burden occasioned by the hills. Where the over-burden was removed, 100 per cent of coal was recovered, being picked up by a small steam shovel and transported to the tipple for shipment. The steam shovel used by the petitioner for removing the over-burden was of large capacity, requiring eight ordinary railroad cars to transport it.
The plan of operation was to work up a valley along the outcrop of the coal, making a cut of about 65 feet in width with a large steam shovel. *1626 The dirt from this cut was piled in a strip or row about 80 feet wide on the outcrop side and from 40 or 50 to 75 feet high. In this operation, the top soil was destroyed, the rocks and boulders from beneath being piled on top. These cuts were usually from about one-half to a mile or more in length. The small steam shovel followed in the cut picking up the coal and loading it in cars to be transported to the tipple. As soon as the first cut was completed and the coal removed therefrom, the big steam shovel would take another cut of equal width, provided the over-burden was not too heavy, placing the dirt from the second cut in the hole made by the first cut.
An effort was made to get at least four cuts from the valley into the hillside before the over-burden became too thick to remove. In some instances only one cut could be made profitably. In other instances, perhaps more than four cuts could be made profitably.
When a particular tract was mined out, there were left on an average four rows of earth and rock about 50 to 75 feet thick, with a distance between the tops of the rows of from 30 to 40 feet and a depth between the rows of 20 to 30 feet. Water would collect*1627 between the rows and stand as stagnant water to a depth of 10 to 15 feet the year round.
*580 The mining operation destroyed the value of the surface of the land from which the coal was actually removed, and also that of the immediately surrounding land. The cuts worked around the hillsides of the winding valleys, so that the land from which the coal was not actually removed was isolated and made inaccessible. The last cut of each strip was left open and filled up with water to a depth of 10 to 15 feet. It was impracticable for the petitioner to recover the coal from its lands without destroying the value of the surface.
During the taxable year 1922 the petitioner removed the coal from 23 and a fraction acres of the land on which it owned the surface and had leased the mineral rights, and which surface had cost the petitioner $26.17 per acre, or a total of $601.91. In 1923 the petitioner removed the coal from 21 acres of said lands, the surface of which cost it $26.17 per acre, or a total of $549.57. The value of the surface of the acres so mined in 1922 and 1923 was completely destroyed. The acreage stated does not include the acreage destroyed as a result of dirt*1628 being piled thereon, or being isolated or otherwise rendered valueless.
OPINION.
TRAMMELL: In 1923 the petitioner expended $829.65 for steel rails and fittings to be used in building extensions of its plant railroad to the site of its mining operations. The railroad so extended did not increase production nor decrease the cost of production, but the extensions were made for the purpose of maintaining the normal output of the mine. The petitioner charged the above amount to expense and deducted it from income for the taxable year. The respondent disallowed the deduction claimed, treated the expenditure as capital, and allowed a deduction for depreciation. On the authority of our decision in the case of , the petitioner is entitled to the deduction.
During the taxable years, the petitioner was engaged in the business of strip-mining coal. The method pursued in extracting the coal is described in detail in our findings of fact above, and will be referred to here only briefly. The petitioner acquired the mineral rights by lease from the Tennessee Coal, Iron & Railroad Company, on condition that it would acquire*1629 also the surface rights prior to removal of the coal. This condition was imposed by the lessor for the reason that the coal lay near the surface of the earth and could be mined profitably only by the strip method; that is, by stripping off the over-burden of earth and rock with a steam shovel, thus exposing the seam of coal, and this operation necessarily resulted *581 in destroying the value of the surface. Pursuant to its agreement with the Tennessee Company, the petitioner acquired title to the surface of the lands in question by purchase for cash from the various fee owners. By these transactions the petitioner became the owner of two separate and distinct property rights, namely, (1) the right to extract and market the coal, acquired by lease, and (2) the surface of the land acquired by purchase. No question is raised in this proceeding with respect to an allowance for depletion of the coal. The sole issue is whether the petitioner is entitled to a deduction from income for the taxable years on account of destruction of the surface of the land resulting from its mining operations in those years.
The petitioner claimed in its returns deductions for "depletion" of*1630 the surface, which deductions were disallowed by the respondent, who now contends that his action should be approved substantially for the reason that the mining operations carried on by the petitioner resulted merely in damage to the surface or a reduction in its useful value, which could not be computed until the land is sold. The respondent's position is disclosed in his brief as follows:
Petitioner's claim to depletion, thereby resolves itself into a claim to deduct damage to the surface caused by its mining operations. * * * However, such a deduction whether it be called depletion or damage, or loss, is clearly not allowable, when it is borne in mind that petitioner still owns the surface. * * * Until there has been a sale or other disposition of the property, it is impossible to say whether a gain or loss occurred.
In support of his contention, the respondent cites our decision in ; affd., , where it was held that shrinkage in value of the surface was not an allowable deduction.
We are unable to accept the premise upon which the respondent's argument is based, and for*1631 the same reason we think the decision cited is clearly distinguishable on the facts from the present proceeding.
In the Pugh case, it appears that the fair market value of the surface rights in land owned by the petitioners was reduced due to the fact that the land became impregnated with oil and salt water from oil wells drilled thereon and was thereby rendered permanently less fitted for cultivation. And we held that the shrinkage in value was not an allowable deduction from gross income, saying in that connection:
There was a shrinkage in fair market value, but such shrinkage in value does not give rise to a deductible loss, any more than an increase in such value gives rise to income. Until there has been a sale or other disposition of the property it is impossible to say whether a gain or loss will be sustained.
*582 Here a different situation is presented. We have found that the mining operations of the petitioner resulted in the destruction of the entire value of the surface, not merely in an impairment or shrinkage of such value. The petitioner purchased the fee to the surface for cash, and its aggregate expenditures for this purchase constituted a capital*1632 investment which was wholly and completely exhausted or lost as the land was strip mined, acre by acre. It is true that after the mining operations were completed the petitioner still owned the surface, but the value for all practical purposes had been completely destroyed. Thereafter the surface had no market value. It had no salable value whatever. It is within the realm of bare possibility that some unforeseen event might occur at some undeterminable time in the future to give some value to the petitioner's remaining surface rights, but such a possibility is too remote, uncertain and speculative to entitle it to consideration in determining tax liability. The land now has no market or salable value, and there is no reasonable prospect of its ever having such a value.
Under the facts here presented, where the land itself is destroyed or the coal is mined, we think that the cost of the land should be added to the cost of the coal in determining the depletion allowable. As each ton is mined a proportionate part of the cost of the land should be attributed to it. We know the number of acres and their cost and the estimated number of tons. The total cost of the land divided*1633 by the number of tons of coal would give a fair and reasonable basis for depletion for each ton mined.
Reviewed by the Board.
Judgment will be entered under Rule 50.
LANSDON and STERNHAGEN dissent.