1931 BTA LEXIS 1601">*1601 The grantor of oil and gas leases in Texas is not entitled to deductions for depletion in respect of oil paid as a bonus for the leases.
24 B.T.A. 711">*711 This is a proceeding for the redetermination of a deficiency in income tax, asserted by the respondent for the year 1926 in the amount of $15,744.72. The deficiency arises from the respondent's disallowance, in part, of a deduction for depletion with respect to certain oil and gas leases.
The parties entered into a stipulation of facts. From that stipulation and the exhibits attached thereto, we make the following findings of fact.
FINDINGS OF FACT.
The petitioner is a trust taxable as a corporation, created by an instrument in writing made and entered into on March 31, 1923, by and between W. T. Waggoner, his wife, his two sons and their respective wives, and his daughter and her husband.
By the terms of the trust it was understood and agreed that the settlors of the trust should transfer and deliver to the petitioner, certain properties, real, personal and mixed, and such transfer was duly made. 1931 BTA LEXIS 1601">*1602 Included in that property were certain lands, including the oil and gas rights and interests therein.
Prior to the creation of the trust, W. T. Waggoner and his wife, Ella Waggoner, had outstanding numerous oil and gas leases with respect to portions of the lands covered by the deeds executed by them. Those leases were six in number, were granted during the year 1922, and the rights and interests of the lessors arising out of said leases became the property of the petitioner under the terms of the deed executed by W. T. Waggoner and Ella Waggoner on June 13, 1923.
During 1925, after the trust was created, the petitioner made and executed twenty-six other oil and gas leases. All of the leases, except as to names, description of property, and the amount named as consideration, were substantially in the following form:
24 B.T.A. 711">*712 O. & G. Lease .
W. T. WAGGONER ESTATE W. T. Waggoner, Trustee.The State of Texas
County of Wilbarger.
Agreement made and entered into this day of , , by and between W. T. Waggoner Estate (W. T. Waggoner, trustee,), created under a written Declaration of Trust and Articles of Agreement of March 31, 1923, recorded in Vol. 92, page 580, 1931 BTA LEXIS 1601">*1603 Deed Records of Wilbarger Co., Texas, acting by and through R. L. More, its duly authorized and empowered Agent and Attorney in Fact, hereinafter called Lessor, and , hereinafter called Lessee, WITNESSETH:
That for and in consideration of the sum of One Dollar, cash in hand paid, the receipt of which is hereby acknowledged, and further consideration of the sum of $ , to be paid in oil produced from said premises, said payment to be made not later than the tenth day of each month, for the preceding month, and not less than one-fourth of the oil so produced to be applied on this indebtedness, and the covenants and agreements hereinafter set out to be kept and performed by the lessee, have granted, demised, leased, and let and by these presents does demise, lease and let unto the lessee, for the sole and only purpose of drilling and mining for gas and oil, the following lands, in Wilbarger County, Texas, to-wit:
* * *
Lessee agrees and binds himself to pay an annual rental of One Dollar and Fifty Cents per acre until actual drilling is begun thereon, and failure to pay said rental when due at the option of the lessor shall void this lease.
As a part of the consideration hereof1931 BTA LEXIS 1601">*1604 the lessee covenants and agrees and binds himself, to begin the actual drilling of a well on said premises within three years from date hereof, and to prosecute the drilling thereof with due diligence to a depth of 2000 feet, unless oil or gas is found in paying quantities at a lesser depth. If no well be commenced hereon within three years from date hereof, or if a well is begun and the drilling thereof is not prosecuted with due diligence, as herein provided, or if said well is abandoned or drilling thereon shall cease for as much as 30 days at any time, then this lease shall immediately become null, void and of no effect and shall automatically revert to the lessor herein, with or without action in any court, but no drilling is imposed and no forfeiture for failure to continue drilling shall be exercised until said three years shall have expired.
Provided, however, that the Lessee shall have 60 days from the completion or abandonment of one well in which to begin the actual drilling of another well, such well to be prosecuted with due diligence and to be under the same conditions, requirements and limitations as the first mentioned well herein. And the Lessee shall and will1931 BTA LEXIS 1601">*1605 continue to dig additional wells on said tract, each succeeding well to be begun within sixty days from completion or abandonment of the preceding well, and to be drilled under the same conditions, requirements and limitations as provided for the first well, until the Lessee shall have dug a well on each twenty acres herein, the well for a center. Each producing well shall hold twenty acres in a square form, the well for a center, for the time herein specified.
24 B.T.A. 711">*713 In case a dry well is finished or abandoned on the above lease the Lessee may drill an additional well on that particular twenty acres or may surrender it to the Lessor. It being understood that only producing land is to be retained by the Lessee hereunder.
All tools and materials placed on said lease by the Lessee or those under him shall be liable and stand for whatever expense the lessor may be to in plugging, abandoning or completing said well, as the lessor may choose.
Subject to the terms and conditions herein this lease shall remain in full force and effect for a term of three years from date hereof, and as much longer as oil and gas are produced in paying quantities.
In consideration of the1931 BTA LEXIS 1601">*1606 premises the Lessee covenants and agrees:
To deliver to the lessor free of charge and tax in the pipe line to which said lease may be connected the equal one-eighth (1/8th) part of all oil and gas produced on said premises, and as produced.
That the lessor shall have the refusal from time to time of all oil and gas, or either, produced hereon at the posted price.
That no vacuum in excess of five points shall be used on any well without the written consent of the lessor.
That no rotary drilling shall be done hereon without the consent of the lessor.
That no tubing will be operated in any well hereon at less than 12 inches above the sand.
That, if at any time this lease or the rights hereunder shall become the property of the Texas Co., or the Texas Pipe Line Co., or any person or persons, Trustees or otherwise for the use and benefit of said companies, or either of them, this lease shall immediately become void.
That the Lessor herein agrees and binds itself to warrant and defend the title hereto against all legal claims.
That this contract extends to the heirs and assigns of all parties hereto subject to the limitations herein.
That all suits hereon may be1931 BTA LEXIS 1601">*1607 brought in Wilbarger Co., Texas.
That this instrument constitutes the entire contract.
In its income-tax return for the year 1926, the petitioner deducted an amount equal to the value of 27 1/2 per cent of all oil received, both in payment of the consideration for granting the leases, and in payment of the royalties reserved under the leases, as a depletion allowance. Depletion computed at 27 1/2 per cent of the gross income of the petitioner from each property involved during the calendar year 1926, does not exceed 50 per cent of the net income of the petitioner (computed without allowance for depletion), from each property during that calendar year.
The receipts of oil, both in respect of royalties and the bonuses for making the leases, constitute taxable gross income to the petitioner for the year 1926.
The respondent has allowed depletion in respect of the oil received as royalties, but has disallowed depletion as to oil received in payment of the bonuses for granting the leases. Such disallowance of depletion is alleged as error.
24 B.T.A. 711">*714 OPINION.
MARQUETTE: The only question here presented is whether petitioner is entitled to depletion in respect of amounts1931 BTA LEXIS 1601">*1608 paid to it, over and above royalties, as consideration for numerous oil and gas leases granted by the petitioner. By the terms of the leases the payments in question were to be made in oil produced from the respective lands so leased. The respondent takes the position that "the allowance of depletion on a bonus is a departure from the depletion concept," and relied upon .
That contention is unsound, in our opinion; nor is the Murphy case authoritative in the present instance. If oil is taken from the land, clearly there results a depletion of the oil resources or reserves of such land, and the owner's capital asset has been reduced pro tanto; whether the oil so taken is called a bonus or a royalty in no wise affects the fact that assets have been impoverished. It is to overcome that situation and to protect capital, that deductions for depletion are allowed. The Murphy case, upon the facts, is to be distinguished from the present proceeding.
But by the settled law of Texas, in which State the petitioner and its oil lands are located, it is a rule of property that an instrument granting the right to extract oil and1931 BTA LEXIS 1601">*1609 gas from the land is a conveyance of the title to the minerals in place. Manifestly, a grantor who has sold and no longer owns a wasting asset suffers no loss from the depletion of such asset, and the principle of depletion deductions can not operate in his behalf. ; ; . That is the situation of this petitioner respecting oil received as a bonus for granting the leases, and we must sustain the respondent's determination.
Respecting the amounts of oil received as royalties, however, a different rule applies. The royalties represent interests retained by the petitioner in the properties granted. Such interests were not conveyed by the petitioner under the leases and they remain protected by the statuory provision allowing annual deduction for depletion. The respondent having allowed such deductions, no change in his determination of deficiency is required.
Judgment will be entered for the respondent.