Louisiana Land and Exploration Company v. Donnelly

• Citation: 394 F.2d 273
• Decision Date: 01 May 1968
• Docket Number: No. 24693.,24693.
• Parties: The LOUISIANA LAND AND EXPLORATION COMPANY, Appellant, v. Charles A. DONNELLY, Formerly Collector of Internal Revenue, et al., Appellees.
• Court: United States Courts of Appeals. United States Court of Appeals (5th Circuit)

394 F.2d 273 (1968)

The LOUISIANA LAND AND EXPLORATION COMPANY, Appellant, v. Charles A. DONNELLY, Formerly Collector of Internal Revenue, et al., Appellees.

No. 24693.

United States Court of Appeals Fifth Circuit.

May 1, 1968.

Marvin K. Collie, Houston, Tex., L. K. Benson, David J. Conroy, New Orleans, La., for appellant.

Louis C. LaCour, U. S. Atty., New Orleans, La., Mitchell Rogovin, Asst. Atty. Gen., Lee A. Jackson, Harry Marselli, Grant W. Wiprud, Thomas L. Stapleton, Attys., Dept. of Justice, Washington, D. C., Joan Elaine Chauvin, Asst. U. S. Atty., of counsel, for appellees.

A. Chauncey Newlin, White & Case, New York City, amicus curiae, W. Bruce Thomas, Edmund W. Pavenstedt, New York City, of counsel.

Before MARIS,^* THORNBERRY and AINSWORTH, Circuit Judges.

AINSWORTH, Circuit Judge:

Louisiana Land and Exploration Company (LL&E), taxpayer, has appealed from an adverse judgment of the district court in its suit for refund of federal income and excess profits taxes paid for the calendar years 1950 through 1953. The sole issue is whether taxpayer, as owner of a mineral interest in oil and gas (8 1/3% of total production less certain agreed production expenses), is entitled to an additional depletion allowance on income received increased by the amount of severance taxes attributable to such interest.

The facts were stipulated by the parties substantially as follows: Taxpayer, as owner, granted mineral leases and subleases of certain realty in the State of Louisiana to the Texas Company by written instrument dated November 12, 1928. Pursuant to the rights granted by this instrument, oil and gas were discovered, developed and produced by lessee. Under the provisions of the instrument, particularly paragraph "Eleventh,"¹ the Texas Company paid to taxpayer "a royalty of 25% of production as well as a royalty based on 8 1/3% of the net profits from each dome covered by the contract." (See Stipulation, para. 12.) (Italics by the Court.) On its income tax returns for the years 1950, 1951, 1952, and 1953, taxpayer reported these receipts from the Texas Company as a part of its gross, depletable income.

The Stipulation further provided that during the years in question, severance taxes arising out of the production of the realty involved were payable to the State of Louisiana pursuant to the state statutes. Paragraph "Nineteenth" of the instrument of November 12, 1928 provides that the Texas Company shall pay all severance taxes due and owing on its 75% of production and that taxpayer shall pay all severance taxes due and owing on its 25% of production. Also, by agreement of the parties and provisions of paragraph "Nineteenth," the Texas Company paid to the State of Louisiana all of the severance taxes due on 100% of production; and when making payment to taxpayer of its royalty of 25% of production, the Texas Company withheld the severance taxes attributable to 25% of production which it had paid on behalf of taxpayer. On its income tax returns filed for the years 1950 through 1953, inclusive, taxpayer included in its gross income the amounts received from the Texas Company in payment of its royalty of 25% of production, plus the amount of severance taxes due thereon which had been withheld by the Texas Company. Taxpayer properly computed its depletion allowance on this total amount, and also claimed a deduction for the severance taxes. On taxpayer's income tax returns for the years 1950 through 1952, taxpayer also included in its gross income the amounts received from the Texas Company "in payment of its royalty based on 8 1/3% of the net profits" from each dome covered by the contract. (Stipulation, para. 14.) (Italics by the Court.) Taxpayer claimed a depletion allowance on the amount so received. However, on its income tax return for the year 1953, taxpayer treated the amounts received "in payment of its royalty based on 8 1/3% of the net profits" differently than it had treated these amounts on the 1950 through 1952 returns in that in addition to claiming a depletion allowance on the amount actually received from the Texas Company, taxpayer added to the amount so received a sum representing severance taxes it claimed to be attributable to this interest and computed its depletion on the total. Taxpayer also claimed a deduction for the severance taxes claimed to be attributable "to its royalty based on 8 1/3% of the net profits." (Stipulation, para. 15.) (Italics by the Court.)

According to the Stipulation (para. 17), the books and records of the Texas Company, payments to taxpayer and to the State of Louisiana for severance taxes pursuant to the contract of November 12, 1928 were handled as follows:

The Texas Company reported 100% of the gross production and paid to the State of Louisiana the severance taxes due thereon. It then deducted from the gross production the royalty of 25% of production due to the taxpayer under the provisions of the contract. In making this payment to the taxpayer, however, the Texas Company withheld 25% of the total severance taxes which it paid to the State of Louisiana.

In computing the royalty payment based on the net profits from each dome for purposes of paragraph "Eleventh (e)" of the contract, the Texas Company deducted from the gross income of each dome 100% of the severance taxes due thereon; from the result, multiplied by 75% depreciation, overhead, and direct expenses were subtracted. After making these deductions, which gave the net income of each dome, 8 1/3% of this net figure was paid to the taxpayer under the provisions of the contract.

In computing its depletion allowance, the Texas Company deducted the royalty of 25% of production paid to the taxpayer and the royalty of 8 1/3% of the net profits paid to the taxpayer to arrive at its gross income from each dome.

The parties stipulated (para. 16) that the issue presented in this case arises from taxpayer's contention that its depletion allowance with respect to the amounts received in payment of "its royalty based on 8 1/3% of the net profits" should be computed on the basis of the amounts actually received from the Texas Company increased by the amounts of severance taxes it claims is attributable thereto; further, that it should be allowed a deduction for the severance taxes it claims are attributable "to its royalty interest of 8 1/3% of the net profits." On the other hand, the Collector contends that taxpayer's depletion allowance received "in payment of its royalty based on a percentage of net profits" should be computed on the basis of the amounts physically received from the Texas Company and that no severance taxes are attributable thereto and should therefore not be allowed for the purpose of computing depletion; and that no additional deduction should be allowed for severance taxes since none are attributable to this interest. (Italics by the Court.)

The findings of fact of the district judge, pursuant to the Stipulation, are substantially identical to those above set forth. The trial court concluded, as a matter of law, that taxpayer was not entitled to the additional depletion allowance claimed on severance taxes said to be attributable to the 8 1/3% interest. We disagree and reverse.

At the outset it is pertinent to observe that the Collector's interest in this case is in protecting the Government's revenues. As between lessor and lessee, depletion is allowed only on 100% of production (and must be apportioned between lessor and lessee). It may not be claimed by both lessor and lessee on the same mineral income. See Helvering v. Twin Bell Oil Syndicate, 293 U.S. 312, 55 S.Ct. 174, 79 L.Ed. 383 (1934).

As the Collector points out in his brief, there is no dispute as to taxpayer's entitlement to depletion on the full amount of the 25% gross royalty, that is, the amount paid directly to it plus the amount paid over to the State for severance taxes. Nor is there any dispute as to taxpayer's right to additional depletion on the full amount of the actual income received from its 8 1/3% net profits interest. The issue is whether there should be added the amount of severance taxes taxpayer claims are attributable to the 8 1/3% interest to compute the depletion allowance.

Initially we must determine the nature of the 8 1/3% interest owned by taxpayer. Taxpayer terms it a royalty, sometimes as a net profits royalty. The Collector disagrees and refers to it as an interest or an amount but not a royalty.

Nevertheless, the parties to the contract considered the interest a royalty for they provided in paragraph "Eleventh" of the instrument of November 12, 1928, that the Texas Company would pay to LL&E "the following royalties": "(e) * * * an additional 8 1/3% of the net profits realized at the mouth of the well from the total production of oil and gas from such dome * * * after Texas has fully reimbursed itself for all expenses theretofore incurred in developing such dome; * * *." (Italics by the Court.) This royalty was part of taxpayer's remuneration for the use of its lands in the production of oil and gas.

The letter agreement between Texas Company and LL&E dated February 1, 1947, referred to "the royalties based on net profits payable to Lessor under the provisions of paragraph (e) of Section Eleventh of said aforesaid lease." (Italics by the Court.) The identical reference to "royalties" is made in several subsequent amendments to the contract.²

The stipulation of fact on which this case was tried, and which was freely entered into by the parties, frequently and consistently refers to the 8 1/3% interest as a royalty. Thus the 8 1/3% interest is referred to in paragraphs 14, 15 and 16 of the stipulation as "royalty based on 8 1/3% of the net profits."

Louisiana is a non-ownership state in the mineral law field. As such, oil and gas in Louisiana are fugacious and therefore not subject to absolute ownership in place. The property interest is the right to reduce the minerals to...