Dorothy Glenn Coal Mining Co. v. Commissioner

DOROTHY GLENN COAL MINING COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Dorothy Glenn Coal Mining Co. v. Commissioner Docket No. 89934. United States Board of Tax Appeals 38 B.T.A. 1154; 1938 BTA LEXIS 782; November 15, 1938, Promulgated *782 In its 1933 and 1934 income tax returns petitioner claimed depletion deductions in respect of its coal properties on the basis of cost. The respondent disallowed the deductions on the ground that the lease had no cost basis within the meaning of the statute, a conclusion now conceded by petitioner to be correct. Petitioner claims, however, that it is entitled, under the statute, to depletion deductions for each of the years in question computed on the percentage basis. Held, as to 1933, that the petitioner was not required under section 114(b)(4) of the Revenue Act of 1932 to make an election as to the method of computing its depletion allowance and the claim of a depletion deduction in its return based on cost does not bar the allowance of a depletion deduction computed on the percentage basis, and, as to 1934, the taxpayer having failed in making its 1934 return to state an election to have its depletion allowance computed on the percentage basis, section 114(b)(4) of the Revenue Act of 1934 directs that the depletion allowance for that year shall be computed without reference to percentage depletion. Arthur S. Dayton, Esq., for the petitioner. Frank B. Schlosser,*783 Esq., for the respondent. TURNER *1154 This proceeding involves deficiencies in income and excess profits taxes determined by the respondent as follows: Tax liability Assessed Deficiency [1934] Income tax $927.06 $2,040.31 $99.93 $1,206.79 $827.13 $833.52 Excess profits tax 300.24 116.93 23.84 None 276.40 116.93 The question presented is whether petitioner has complied with the requirements of sections 114(b)(4) of the Revenue Acts of 1932 and 1934 so as to be entitled to deductions for depletion of its coal properties computed on the percentage basis. *1155 FINDINGS OF FACT. The case was submitted upon a stipulation of facts which was read into the record by counsel, as follows: The petitioner is a corporation created under the laws of the State of West Virginia. Its first corporate name was the Wet Branch Coal Company, later changed to Coalburgh Splint Coal Company, and thereafter to Dorothy Glenn Coal Mining Company, such changes being made in accordance with the laws of the State of West Virginia; there being no change, however, in the corporate entity*784 or identity. Under date of November 23, 1932, petitioner received by assignment from Van B. Darby a coal mining leasehold which had been executed to the said Van B. Darby by the Gallatin Coal Mining Company under date of November 1, 1932, without consideration. The consideration for the transfer by Darby to this petitioner was all of the capital stock (400 shares) of petitioner, 300 shares being issued to Van B. Darby, who has at all times been president and chief executive officer of petitioner, 50 shares to Jane W. Darby, his wife, and 50 shares to James W. Darby, his son, the shares being issued to the latter two as nominees of Van B. Darby. Petitioner sets up its book value of $100,000 for this leasehold at time of organization, and in its tax return for 1933 claimed thereon, upon the socalled unit basis, an annual depletion deduction of $6,666.67, and made a like claim in its tax return for the year 1934. Prior to the filing of its return for the year 1934 there had been no examination by representatives of the Commissioner of Internal Revenue of its 1933 return. Subsequent to the filing of the returns for 1933 and 1934, the petitioner's tax affairs for the years in*785 question were examined by representatives of the Commissioner, who disallowed any depletion upon a unit basis because no statutory cost basis had been established. Petitioner objected to this disallowance by the Department and sought to contest the same in the Department, and consulted with an attorney at law, who advised the petitioner that the Departmental position was correct and, as a matter of law, regardless of the actual value, for the reason that the petitioner was limited to the cost basis of its assignor, Van B. Darby, with respect of such leasehold and, accordingly, the said Darby not having a cost basis, petitioner was not entitled to any cost basis and not entitled to unit depletion. Thereupon the petitioner sought to take so-called percentage depletion but such claim was not allowed by the Commissioner. It is stipulated that petitioner did not upon either its 1933 or 1934 return make any statement whereby it elected that its depletion allowance should be computed upon the so-called percentage basis. It is further stipulated that petitioner, as aforesaid, in claiming depletion allowance of $6,666.67 for each of the years in question upon the so-called unit basis*786 of depletion, acted in good faith upon reasonable premises and believed that it was entitled to such unit depletion. It is further stipulated, however, that being now advised of the law and the facts in relation thereto, petitioner does not now claim that it is entitled to such unit depletion. The coal mining lease under which petitioner operates provides for the payment of a tonnage royalty for each ton of coal mined, there being a further provision for an annual minimum royalty of $3,600, whether the amount of coal purchased shall be equivalent to that sum or not, the lease providing: "Article *1156 V. From the date of this lease and for each and every year thereafter included in the terms of this lease, that such Lessee shall pay an annual minimum royalty of $3,600, $300 payable on the 25th of each succeeding calendar month, as a minimum rental for the property and coal herein demised, whether the amount of coal mined shall produce that amount of royalty or not." This lease embraces two contiguous tracts of coal bearing land and a coal mining plant thereon, including a store building and a number of tenement houses and certain personal property used in connection*787 with the mining of coal, under which and upon the property leased petitioner during the years 1933 and 1934 conducted a coal mining operation and operated a store and leased a number of said tenements to its employees. [Sic.] Article 18 of the lease provides: "The rent and royalties hereinbefore mentioned shall be treated and considered as rent for the demised premises and the property of the Lessee ("Lessor" intended) upon said demised premises or occupied or used in connection therewith." For the calendar year 1933 the gross sales from coal were $75,702.76 and the Commissioner determined an operating loss from mining operations of $3,005.88. Gross merchandise sales were $30,661.41 and the Commissioner determined a net income from the operation of the store of $9,199.40. Gross receipts from the tenements were $4,286.70 and the Commissioner determined a net rental income from the tenements of $1,333.25. Royalties paid upon the leasehold in 1933 amounted to $4,787.10, all of which royalty was charged against the operation of coal and no part thereof was charged or allocated by the Commissioner against the store or the tenement operations. During the year 1934 the gross*788 sales of coal were $175,646.59 and the Commissioner determined a net profit of $574.45 from coal operations. The gross sales of store merchandise were $71,078.12 and the Commissioner determined a net profit from store operations of $11,924.39. The gross tenement rents were $7,953.83 and the Commissioner determined a net rental income of $1,801.08. During 1934 the total royalties were $9,597.87, all of which were charged to coal mining operations and no part thereof was allocated by the Commissioner to store or tenement operations. During 1934 the president of the corporation and chief executive official received a salary of $6,000; the treasurer a salary of $5,575 and the secretary a salary of $5,175, or a total of $16,750, all of which was charged to coal mining operations on petitioner's books. Of the said amount of $16,750 the amount of $1,500 was allocated by the Commissioner to store operations and $1,500 was allocated to tenement operations. The property in question is situated in a sparsely settled region and not near any large community. The tenements are rented exclusively to employees of the petitioner and virtually all sales at the store are made to employees*789 of petitioner although a small amount of such sales is made to others. OPINION. TURNER: In its 1933 and 1934 income tax returns the petitioner claimed depletion deductions computed on the unit basis. The respondent disallowed the deductions on the ground that the lease had no cost to petitioner within the meaning of the statute. The petitioner now admits that the respondent is correct and that it is not entitled to depletion computed on the unit basis, but contends that its claims for depletion in those returns were made in good faith and under a misapprehension *1157 of fact and law, and for that reason it should now be allowed to have a depletion allowance computed on the percentage basis. The respondent's position is that petitioner has made binding elections under sections 114(b)(4) of the Revenue Acts of 1932 and 1934 to compute its depletion allowance for the years here in question without regard to percentage depletion and that it can not now make a new election and claim depletion on that basis. Section 114(b)(4) of the Revenue Act of 1932 1 provides that the allowance for depletion in the case of coal mines shall be 5 per centum of the gross income from*790 the property, provided such allowance shall not exceed 50 per centum of the net income of the taxpayer from the properties, "except that in no case shall the depletion allowance for the taxable year 1932 or 1933 be less than it would be if computed without reference to this paragraph." It further provides that a taxpayer making a return for the year 1933 shall state in such return whether he elects to have the depletion allowance for such property "for succeeding taxable years" computed with or without reference to percentage depletion, and that if the taxpayer fails to make such statement in the return, the depletion allowance "for succeeding taxable years" shall be computed without reference to percentage depletion. *791 With respect to 1933, the respondent has apparently interpreted the statute as requiring some act on the part of a taxpayer as a prerequisite to the allowance of percentage depletion for that year. Obviously the statute does not so provide. As we pointed out in the proceding paragraph, the allowance of percentage depletion for 1932 and 1933 is outright and the right of a taxpayer to take percentage depletion or unit or cost depletion, whichever will give him the greater deduction, is carefully and plainly stated. There are some provisions of the statute which may operate to limit the amount of the deduction, but *1158 there is no limitation whatever as to the years mentioned of the right to take one or the other. If the allowance is computed on the percentage basis it may not exceed 50 percent of the net income from the property, while, on the other hand, a taxpayer may not be required to compute his depletion allowance on the percentage basis if it results in no deduction or in a deduction less than it would be if computed on the unit or cost basis. Furthermore, if there were any ambiguities in the statute or doubts as to its meaning they would be immediately removed*792 upon examination of Report No. 665 of the Senate Committee on Finance, dated May 9, 1932. With respect to section 114(b)(4), the report reads in part as follows: * * * In respect to the taxable years 1932 and 1933 the taxpayer is privileged to have the greater of either (1) the percentage depletion allowance or (2) an allowance computed on the adjusted basis provided in section 113(b) (usually cost or March 1, 1913, value, with adjustments). This privilege is the same for those two years as that accorded both under the existing law and the bill in the case of oil and gas wells for all years. In the return for the taxable year 1933, however, the taxpayer is required to state as to each property whether he elects to have the depletion allowance for such property for succeeding taxable years computed with or without reference to percentage depletion; this election must be as between either percentage depletion or depletion computed upon the adjusted basis. * * * There is no room for doubts as to the intent and meaning of the statute. The right of a taxpayer to take percentage depletion or unit or cost depletion, whichever would give him the greater deduction, was for 1932 and*793 1933 unconditional, and for 1933 that right was in no way affected by the fact that petitioner did claim on its return for that year a depletion deduction erroneously computed on the unit or cost basis. For the year 1934 and all years subsequent to 1933 the provisions of the controlling statute are quite different. As to those years there was no outright or unconditional grant of alternative depletion allowances as was true for 1932 and 1933. Percentage depletion was put in reach of the taxpayers for 1934 and subsequent years but was not unconditionally provided. The allowance of percentage depletion for 1934 and subsequent years is governed by section 114(b)(4) of the Revenue Act of 1934, 2 the effect of which we considered in , promulgated of even date. The instant case *1159 is similar to the Mead case in that the petitioner made no claim for percentage depletion on its 1934 return and a proper computation of the depletion allowance on any basis other than the percentage basis will not result in a depletion deduction. It is unlike the Mead case in that the petitioner here affirmatively claimed depletion*794 on the unit basis and has not at any time made a request in connection with any return, amended or otherwise, for percentage depletion. In , we held that, since the petitioner failed to make an election in respect of depletion on or at the time of filing its 1934 return, it lost the opportunity to take percentage depletion, and, the method of computing depletion having become fixed under the statute, it was not thereafter changed or affected by the later filing of an amended return wherein percentage depletion was claimed. The reasoning in that case is equally applicable here and points to a conclusion contrary to that contended for by the petitioner. In the Mead case, however, the petitioner in effect conceded that if percentage depletion was to be obtained a taxpayer was required by statute to make an affirmative election to that effect on its return even though, having no cost basis, he could obtain a depletion deduction on the percentage basis only, the contention of the petitioner there being that an affirmative election stated on an amended return was an election within the meaning of the statute. *795 In this case the petitioner argues that, even though it did not on any return elect to take depletion on the percentage basis but did in fact claim a depletion deduction on the unit basis, it is still not precluded from claiming and obtaining percentage depletion in this proceeding in view of the fact that the computation of depletion on any basis other than the percentage basis will not result in a deduction to it. The petitioner's reasoning is that two remedies or rights must actually exist and if a party elects to take a supposed right or benefit which is in fact nonexistent he is not precluded thereby from later claiming the other. We are not here concerned with the doctrine of election of remedies, however, but with a question of statutory allowance of a deduction from gross income, and, as we have pointed out in , the allowance of a deduction is a matter of legislative grace and Congress may prescribe such prerequisites and conditions for the allowance thereof as it sees fit *1160 and a claim for deduction must come clearly within the conditions prescribed. *796 , and . *797 Prior to the Revenue Act of 1932 there was no provision in any of the revenue acts which would permit the owners of coal properties or leases thereof to take a deduction for depletion on the percentage basis. Up to that time Congress had seen fit to limit the owners of such properties to deductions for depletion computed on the unit or cost basis, and if any such property had no unit or cost basis in the hands of the taxpayer no deduction was allowed. Percentage depletion has been allowed in the base of oil and gas wells since the enactment of the Revenue Act of 1926, and from its inception its applicability to properties having no cost basis has been recognized. Accordingly, if Congress had made an outright grant of percentage depletion in the case of coal and metal mines as it had done in the case of oil and gas wells, there would be no question but that the petitioner here should be sustained but, as we pointed out in , the outright grant of percentage depletion was made for 1932 and 1933 only. If a taxpayer desired percentage depletion for subsequent years, he was first required under the Revenue Act of 1932 to so state in his return*798 for 1933. By the terms of the Revenue Act of 1934 Congress extended the time in which a taxpayer was required to make such a statement with respect to 1934 and subsequent years to the time of filing the 1934 return. In each of the acts, however, Congress in positive terms prescribed the time and conditions on which the right of a taxpayer to the depletion allowance computed with or without regard to percentage depletion should become final and fixed, by stating that "If a taxpayer fails to make such statement in the return the depletion allowance * * * shall be computed without reference to percentage depletion." The language of the statute is general and all-inclusive. There are no exceptions. It draws no distinction whatever between properties having a cost basis and those that do not. The depletion deduction was originally designed as the medium through which the owner of a mineral deposit or other "natural resource" might set aside free from income tax so much of the proceeds from the exploitation of the property as would by the time of exhaustion return to him his cost or investment therein. Prior to the enactment of the Revenue Act of 1932, the owners of coal properties*799 having in their hands no cost or unit basis were denied any depletion deduction in respect of such properties and we are unable to find any provision of the Revenue Act of 1932 or 1934 granting percentage depletion for years subsequent to 1933 to the owners of such properties except under the conditions plainly stated in the statute. We *1161 can not ascribe to Congress a lack of knowledge of such cases or any intention to exempt such property owners from the necessity of making an affirmative election at the time of filing their returns for 1934 if they are to obtain percentage depletion. In the instant case it is stipulated that the petitioner did not elect in its return for 1934, or for any year, to have the depletion allowance in respect of its property computed on the percentage basis. After the enactment of the Revenue Act of 1932, in which percentage depletion was first allowed in respect of coal, metal, and sulphur mines, petitioner did file returns for 1933 and 1934 and on each return claimed a depletion deduction on the unit basis. Accordingly, if an election was made it was an election to have the depletion allowance computed without regard to percentage depletion. *800 If, on the other hand, it is not possible, as the petitioner contends, for a taxpayer to elect to take depletion on the unit basis when on the unit basis no deduction will result, the petitioner is in the position of having failed to make any election with or without regard to percentage depletion, and under such circumstances Congress has said "the depletion allowance * * * shall be computed without reference to percentage depletion." The petitioner has lost no deduction to which it was at any time entitled, but through its failure to act as Congress prescribed has failed to obtain an added deduction. The respondent also contends that for the year 1933 it makes no difference whether petitioner is entitled to percentage depletion or not because in any event it had no net income "from the property" upon which to compute the 50 percent limitation prescribed in the statute. He has determined that petitioner sustained a loss from mining operations in that year in the amount of $3,005.88. The petitioner contends that the term "income from the property" as used in the statute includes income from its store and tenements and in the alternative*801 that the respondent erred in failing to allocate to the store and tenements a part of the royalties, and further for 1934 that the amount of officers' salaries allocated to the said store and tenements is inadequate. It is well settled that in computing the depletion allowance on the percentage basis income from other sources or activities may not be included as "income from the property." ; affd., ; certiorari denied, . The petitioner's claim for the inclusion of income from the store and tenements as "income from the property" is accordingly denied. With respect to the alternative contention that part of the royalties paid should be allocated to the store and tenements, the petitioner relies upon a statement in ; certiorari denied, , to the effect that coal mining royalties *1162 are paid for privileges more extensive than the mere mining of coal and may include other considerations such as the right to erect the plant, the right to erect houses for the miners, etc. The*802 question in that case was whether a minimum royalty paid during the year in excess of the royalty on coal actually mined was deductible by the lessee in the year expended or should be treated as a capital expenditure, a question quite different from the one under consideration in the present case. Assuming without deciding, however, that the same reasoning is applicable and the petitioner is entitled to allocate part of its royalties to its store and tenements, it has failed to make any showing as to the amounts which should be so allocated. According to the stipulation of the parties the royalties for 1933 amounted to $4,781.10 and after deducting the full amount of the royalties from the gross income from mining operations the respondent arrived at a net loss of $3,005.88. It is thus apparent that if as much as 60 percent of the royalties paid is allocated to stores and tenements there would still be no amount shown as "net income from the property", and on the record before us there is no basis whatever for allocating any such percentage of royalties to stores and tenements even though the petitioner's theory of allocation be assumed to be correct. *803 As to 1934 there is no occasion to consider the allocation of either royalties or salaries of officers in view of our holding that petitioner is not entitled to percentage depletion for that year. Reviewed by the Board. Decision will be entered under Rule 50. OPPER concurs only in the result. ARUNDELL ARUNDELL, dissenting: I can not agree with the holding of the majority opinion that this petitioner is not entitled to percentage depletion for the year 1934. In denying a deduction for percentage depletion the effect is to deny to petitioner any depletion deduction whatever, inasmuch as it has no cost or other basis recognized by statute on which to compute depletion on the unit basis. This denial will operate in perpetuity, unless the law be changed, and in utter disregard of the actual depletion of the properties. I do not believe that this was the intended result of Congress in granting the privilege of a choice under section 114(b)(4). Neither do I think that such a result necessarily follows from the language used by Congress in the statute. True, as said in the majority opinion, Congress may limit and condition deductions and the prerequisites*804 to their allowance. But the depletion provisions of the Revenue Acts of 1932 and 1934 are liberalizing, rather than limiting, provisions. The allowance of percentage depletion to coal miners by the Revenue Act of 1932 gave *1163 depletion deductions to taxpayers who, because of a lack of basis, could not take depletion deductions under prior statutes. And to those who had a basis, the statute gave the choice of taking the greater of unit or percentage depletion. In the light of these provisions it is difficult to find any restrictive intent in the allowance of percentage depletion to coal mines. Consideration of these provisions from this point of view indicates the way to the solution of the question here. The sound premise, it seems to me, is that Congress intended to allow depletion deductions by one of the two methods, and intended to give taxpayers a right to elect whichever method they deemed most favorable under the circumstances in each case. From this premise it follows logically that an election is to be made only where a choice between the two methods is available, and that where there is no choice percentage depletion is to be allowed. Election presupposes*805 the existence of the right of a choice between alternatives. ; ; ; ; 48 Harvard Law Review 1281. To say that one is put to his election where he has no choice is to give him nothing more than a "Hobson's" choice. The Acts of 1932 and 1934 both use the terms "elects" and "election." These words become meaningless if applied so as to require an election where there is no right of choice. Where this situation exists and the taxpayer has no alternative from which to choose, then percentage depletion should be allowed under the opening sentence of section 114(b)(4) that "the allowance for depletion shall be, in the case of coal mines, 5 per centum * * *." It is not a sound answer to the taxpayer to say that it has lost nothing by the denial of percentage depletion because prior statutes did not give percentage depletion to coal mines. The 1932 and 1934 statutes are designed to correct that situation and to give to coal properties the deductions allowed to*806 other depletable properties under the earlier statutes. Footnotes 1. SEC. 114. BASIS FOR DEPRECIATION AND DEPLETION. * * * (b) BASIS FOR DEPLETION. - * * * (4) PERCENTAGE DEPLETION FOR COAL AND METAL MINES AND SULPHUR. - The allowance for depletion shall be, in the case of coal mines, 5 per centum, in the case of metal mines, 15 per centum, and, in the case of sulphur mines or deposits, 23 per centum, of the gross income from the property during the taxable year, excluding from such gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect of the property. Such allowance shall not exceed 50 per centum of the net income of the taxpayer (computed without allowance for depletion) from the property, except that in no case shall the depletion allowance for the taxable year 1932 or 1933 be less than it would be if computed without reference to this paragraph. A taxpayer making return for the taxable year 1933 shall state in such return, as to each property (or, if he first makes return in respect of a property for any taxable year after the taxable year 1933, then in such first return), whether he elects to have the depletion allowance for such property for succeeding taxable years computed with or without reference to percentage depletion. The depletion allowance in respect of such property for all succeeding taxable years shall be computed according to the election thus made. If the taxpayer fails to make such statement in the return, the depletion allowance for such property for succeeding taxable years shall be computed without reference to percentage depletion. * * * ↩ 2. SEC. 114. BASIS FOR DEPRECIATION AND DEPLETION. * * * (b) BASIS FOR DEPLETION. - * * * (4) PERCENTAGE DEPLETION FOR COAL AND METAL MINES AND SULPHUR. - The allowance for depletion under section 23(m) shall be, in the case of coal mines, 5 per centum, in the case of metal mines, 15 per centum, and, in the case of sulphur mines or deposits, 23 per centum, of the gross income from the property during the taxable year, excluding from such gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect of the property. Such allowance shall not exceed 50 per centum of the net income of the taxpayer (computed without allowance for depletion) from the property. A taxpayer making his first return under this title in respect of a property shall state whether he elects to have the depletion allowance for such property for the taxable year for which the return is made computed with or without regard to percentage depletion, and the depletion allowance in respect of such property for such year shall be computed according to the election thus made. If the taxpayer fails to make such statement in the return, the depletion allowance for such property for such year shall be computed without reference to percentage depletion. The method, determined as above, of computing the depletion allowance shall be applied in the case of the property for all taxable years in which it is in the hands of such taxpayer, or of any other person if the basis of the property (for determining gain in his hands is, under section 113, determined by reference to the basis in the hands of such taxpayer, either directly or through one or more substituted bases, as defined in that section. ↩