The opinion of the court was delivered by: Henley, District Judge.
This is a suit brought by plaintiff, Murphy Corporation,
against the Government to secure a refund of a portion of its
1953 federal income tax allegedly unlawfully and erroneously
exacted. The problem presented is the proper treatment for tax
purposes of an aliquot part of a cash "bonus" which plaintiff
paid to the Government in 1951 for an interest in an oil and gas
lease on certain federally owned lands in Bossier Parish,
Louisiana, from which lands oil and gas were produced in
commercial quantities during the tax year in question. The cause
been submitted to the Court on the pleadings, a written
stipulation of all controlling facts, and memorandum briefs.
Plaintiff has its principal place of business in El Dorado,
Union County, Arkansas, and files its federal tax returns with
the District Director of Internal Revenue at Little Rock. During
1953 and prior years plaintiff was largely engaged in the
production of oil and natural gas from wells located in Arkansas,
Louisiana, and elsewhere.
In the spring of 1951 the Government advertised for bids for an
oil and gas lease covering certain lands in the Barksdale
Airforce Base near Shreveport, Louisiana. The advertisement
announced that the lands would be leased for a cash bonus to be
paid in advance, and for a royalty of one-eighth of the oil and
gas produced from the properties. Plaintiff, acting through an
agent, submitted a bid and obtained a one-half interest in a
lease which the Government executed later in the year. The amount
of bonus which plaintiff paid for its interest was $2,273,500.
In computing its income taxes from year to year plaintiff takes
advantage of the depletion allowance provisions of sections 611
and 613(b)(3) of the Internal Revenue Code of 1954 and with
respect to 1953 claimed a depletion allowance as provided by
sections 23(m) and 114(b)(3) of the Internal Revenue Code of
1939. Since the rights of the parties are governed by the 1939
Code further Code references are to that Code. Likewise,
references to regulations are to those promulgated under the 1939
Under sections 23(m) and 114(b)(3) lessors and lessees of oil
or gas producing properties were entitled to claim as deductions
from their income for tax purposes annual allowances of 27.5
percent of gross income from the leased premises during the
taxable year to compensate for the depletion of oil and gas in
the ground. The allowances were required to be prorated equitably
between lessors and lessees, and the lessees were required by
section 114(b)(3) to exclude from gross income from the
properties "an amount equal to any rents or royalties paid or
incurred by the taxpayer in respect of the property." The reason
for the latter requirement was, and is, that rents and royalties
paid to lessors are taxable income to them against which they are
entitled to claim depletion, and unless the lessees are required
to eliminate such rents and royalties from gross income from the
properties when calculating their own depletion allowances, there
would be a duplication of the allowances.
With regard to a cash bonus paid for an oil and gas lease,*fn1
it is settled law that as far as the lessor is concerned, the
money which he receives by way of bonus is taxable income against
which depletion allowances may be claimed. See Anderson v.
Helvering, 310 U.S. 404, 60 S.Ct. 952, 84 L.Ed. 1277; Bankers
Pocahontas Coal Co. v. Burnet, 287 U.S. 308, 53 S.Ct. 150, 77
L.Ed. 325; Murphy Oil Co. v. Burnet, 287 U.S. 299, 53 S.Ct. 161,
77 L.Ed. 318; Burnet v. Harmel, 287 U.S. 103, 53 S.Ct. 74, 77
However, as far as the depletion allowance is concerned, the
Treasury has taken the view that a bonus paid for a lease must be
treated like an "advance royalty," and must be excluded from
gross income from the property when the annual depletion
allowance is calculated. In this connection section 39.23(m)-1(e)
(5) provides in part that if "royalties in the form of bonus
payments have been paid in respect to the property in the taxable
year or any prior years * * * the amount excluded from `gross
income from the property' for the current taxable year on account
of such payments shall be an amount equal to that part of such
payments which is allocable to the product sold during the
current taxable year * * *."
Thus, it will be seen that when the lessee comes to calculate
his income tax, he is not permitted to exclude the bonus payment
from gross income for section 22 purposes, but must exclude an
aliquot part of it from his gross income when computing his
depletion allowance under section 23(m).*fn2 It is this alleged
inconsistency in the treatment of the bonus in determining the
lessee's tax liability which gives rise to this lawsuit.
Plaintiff contends, alternatively, that if the bonus must be
excluded from gross income for purposes of computing depletion
allowance under sections 23(m) and 114(b)(3), it must also be
excluded from gross income for section 22 purposes, or that if it
is to be included in gross income for purposes of section 22, it
must also be included for purposes of sections 23(m) and section
114(b)(3). These alternative contentions were brought before the
Court in the following manner:
The portion of the bonus paid by plaintiff in 1951 and
allocable to 1953 was $181,830. When plaintiff prepared and filed
its income tax return for 1953 it excluded the sum just mentioned
both in its initial computation of gross income under section 22
and in its computation of depletion allowance under section 23(m)
and section 114(b)(3). Having so excluded that sum from gross
income, plaintiff proceeded to calculate and pay the resulting
tax. The Commissioner disallowed the double exclusion of the
bonus and assessed a deficiency of $73,069.77. Plaintiff paid
this deficiency and when its claim for a refund was denied
administratively, it commenced this action.
It is the position of the Government that regardless of
consistency or inconsistency in the treatment of the bonus when
determining the tax liability of the lessee, the regulatory
scheme whereby the lessee must exclude an aliquot part of the
bonus from gross income when computing his depletion allowance
but is not permitted to exclude it when computing his gross
income under section 22 has the force of law, and that plaintiff
is not entitled to prevail.
The contention advanced by plaintiff is not novel. It has been
considered and rejected by the Courts of Appeals for four
Circuits, Sunray Oil Co. v. Commissioner, 10 Cir., 147 F.2d 962;
Canadian River Gas Co. v. Higgins, 2 Cir., 151 F.2d 954; Baton
Coal Co. v. Commissioner, 3 Cir., 51 F.2d 469; Quintana Petroleum
Co. v. Commissioner, 5 Cir., 143 F.2d 588. More recently, it has
been rejected by the Tax Court in Shamrock Oil & Gas Corporation
v. Commissioner, 35 T.C. 979, 1040 ff., and in Fitzsimmons v.
Commissioner, 37 T.C. 179.*fn3
In an effort to avoid the force of the Courts of Appeals'
decisions just cited counsel for plaintiff contends that those
decisions have been overruled by implication by the holdings of
the Supreme Court in Kirby Petroleum Co. v. Commissioner,
326 U.S. 599, 66 S.Ct. 409, 90 L.Ed. 343, and Burton-Sutton Oil Co.
v. Commissioner, 328 U.S. 25, 66 S.Ct. 861, 90 L.Ed. 1062, and
that the Quintana Petroleum Co. case has been in effect overruled
by the Court of Appeals for the Fifth Circuit in Lambert v.
Jefferson Lake Sulphur Co., 5 Cir., 236 F.2d 542, affirming
Jefferson Lake Sulphur Co. v. Lambert, E.D.La., 133 F. Supp. 197.
While there is some language in the Burton-Sutton case which
perhaps lends some support to plaintiff's contention, neither
Burton-Sutton nor Kirby Petroleum involved the problem presented
here, and for that reason neither case can be considered as
directly in point. Nor is the Court persuaded that the Supreme
Court in either case intended to overrule or criticize the
results reached in the ...