Ramsey v. Commissioner of Internal Revenue

• Decision Date: 26 July 1933
• Docket Number: No. 764.,764.
• Citation: 66 F.2d 316
• Parties: RAMSEY v. COMMISSIONER OF INTERNAL REVENUE.
• Court: U.S. Court of Appeals — Tenth Circuit

66 F.2d 316 (1933)

RAMSEY v. COMMISSIONER OF INTERNAL REVENUE.

No. 764.

Circuit Court of Appeals, Tenth Circuit.

July 26, 1933.

Charles H. Garnett, of Oklahoma City, Okl., for petitioner.

Maxwell M. Mahany, Sp. Atty., Bureau of Internal Revenue, of Washington, D. C. (Sewall Key, A. H. Conner, and William H. Riley, Jr., Sp. Assts. to Atty. Gen., and C. M. Charest, Gen. Counsel, Bureau of Internal Revenue, of Washington, D. C., on the brief), for respondent.

Before PHILLIPS and McDERMOTT, Circuit Judges, and KENNEDY, District Judge.

McDERMOTT, Circuit Judge.

From 1922 until 1926 the petitioner was engaged in developing oil leases. Wells were drilled by a contractor upon a footage basis, the petitioner furnishing the equipment and supervision. The amounts paid the contractor for drilling, plus certain items for labor, trucking, cementing, fuel, repairs, management, depreciation, and taxes (exclusive of derricks, boilers, casing and equipment) were deducted each year from his income, as development expense, in accordance with the option given him by Reg. 69, Art. 223, set out in the margin.¹ Recoverable items of development costs, such as the derrick, casing and boilers, are not herein involved. In 1926 he sold the properties and in returning the profit from that sale, he added the expenditures theretofore deducted as expenses of operation, to the cost of the leases sold. The Commissioner declined to permit this double deduction for the same costs, holding that since the petitioner had exercised his option to treat these items as expenses and taken credit therefor, he could not later retroactively elect to treat them as capital expenditures. The Board of Tax Appeals affirmed and we are asked to review that determination.

Counsel for petitioner very fairly says in his brief that if the regulation is construed as covering these expenditures and is valid as so construed, the decision should be affirmed. There being no question of the constitutional power of Congress to permit a deduction of such drilling costs from current income, we have only a question of statutory construction. The underlying provision for deduction from income is section 215 of the Revenue Act 1921 (42 Stat. 227, 242), and section 215, Revenue Acts 1924 and 1926 (26 USCA § 956), which runs in part:

"That in computing net income no deduction shall in any case be allowed in respect of * * *

"(2) Any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate."

Reg. 62, Art. 293, is the companion of this statute, and the first sentence is: "Amounts paid for increasing the capital value or for restoring the depreciated value of property are not deductible from gross income."

The position of petitioner is that the regulation quoted in the margin, if construed to cover these expenses, flies directly in the face of this statutory prohibition and is therefore invalid; that there was therefore no legal authority for the petitioner deducting these sums as development expenses during the years, and no legal impediment to his now charging them to capital account.

The office of an administrative regulation has been many times defined. A revenue law may not be altered or amended by regulation, Morrill v. Jones, 106 U. S. 466, 1 S. Ct. 423, 27 L. Ed. 267, nor go beyond what Congress has authorized, Utah Power & Light Co. v. United States, 243 U. S. 389, 37 S. Ct. 387, 61 L. Ed. 791. A regulation may make explicit what is general and clear up uncertainty. United States v. Dakota-Montana Oil Co., 288 U. S. 459, 53 S. Ct. 435, 77 L. Ed. 893.

The first question for determination is, Does the quoted regulation purport to cover those expenses, which it has been noted, do not include the cost of the derrick, casing, boilers, or other recoverable equipment? Of this we have no doubt. While the regulation uses the word "incidental" it is followed by the explanatory words "wages, fuel, repairs, hauling, etc., in connection with the exploration of the property, drilling of wells, building of pipe lines, and development of the property"; this language includes the very items here sought to be capitalized, and doubtless are intended to cover all drilling costs except derricks, casing, boilers and other equipment with salvage value. Tr. Dec. 4333, promulgated to restate the administrative practice of long standing without changing administrative policy, specifically provides that costs incurred by contracts for drilling on a footage basis are within the regulation. The sentence, "An election once made under the provisions of this article will control the taxpayer's returns for all subsequent years," is unambiguous; it is conceded that petitioner once elected to treat these costs as operating expenses. It would require a distortion of unequivocal language to hold that the regulation does not cover this case. The question is squarely presented therefore whether the regulation may permit the irrecoverable costs of drilling oil wells to be classed as an expense of operation rather than as a "permanent improvement or betterment."

Whether an oil well is a permanent improvement is at least a debatable question. The incidental costs here involved are irretrievably gone when the well is finished, whether it be a dry hole or a producer. A dry hole is neither an improvement nor a betterment; neither is a producer after the oil is exhausted. The truth is that the hole upon which the money is expended is simply a means of reaching the oil sands, and it is the oil which increases the value of the property; the hole is of value only if oil is found, and then only as long as the sands will produce. A producing field is of more value than a non-producing one, partly because the expenses of reaching the sands have been incurred, but largely because the presence of oil has been proven. While Dictionary definitions are helpful, they do not exclude an examination of the context to ascertain the purpose of the statute, nor forbid an inquiry into administrative interpretation as an aid in construction of doubtful words or passages. A priori, therefore, we are of the opinion that the holes through which the oil is recovered are not so conclusively "permanent improvements or betterments" as to preclude a regulation permitting the deduction of irrecoverable expenses of drilling them as ordinary expenses incurred in carrying on a trade or business, allowed by section 214 (a) of the acts in question. Revenue Act 1921, § 214 (a); Revenue Acts 1924 and 1926, § 214 (a), 26 USCA § 955 (a).

This conclusion is strongly fortified by the fact that this regulation has been in existence for many years; Congress has repeatedly amended the revenue laws while this regulation was in full force and effect, and no effort has been...