SCOTUS Reports

Tag: Evans v. Commissioner

  • Carter v. Commissioner, T.C. Memo. 2020-21; Evans v. Commissioner, T.C. Memo. 2020-21: Conservation Easement Deductions and Supervisory Approval of Penalties

    Nathaniel A. Carter and Stella C. Carter v. Commissioner of Internal Revenue, T. C. Memo. 2020-21; Ralph G. Evans v. Commissioner of Internal Revenue, T. C. Memo. 2020-21 (U. S. Tax Court 2020)

    In a significant ruling, the U. S. Tax Court disallowed charitable contribution deductions for conservation easements where the donors retained development rights in unspecified building areas. The court held that such rights violate the requirement for perpetual use restrictions on real property. Additionally, the court ruled that the IRS failed to timely secure supervisory approval for proposed gross valuation misstatement penalties, thus invalidating them. This decision impacts how conservation easements are structured and how penalties are assessed by the IRS.

    Parties

    Nathaniel A. Carter and Stella C. Carter (Petitioners) and Ralph G. Evans (Petitioner) v. Commissioner of Internal Revenue (Respondent). The cases were consolidated at the trial, briefing, and opinion stages.

    Facts

    In 2005, Dover Hall Plantation, LLC (DHP), owned by Nathaniel Carter, purchased a 5,245-acre tract of land in Glynn County, Georgia. In 2009, Ralph Evans purchased a 50% interest in DHP. In 2011, DHP conveyed a conservation easement to the North American Land Trust (NALT) over 500 acres of the property. The easement generally prohibited construction or occupancy of dwellings but allowed DHP to build single-family dwellings in up to 11 two-acre “building areas,” the locations of which were to be determined subject to NALT’s approval. DHP claimed a charitable contribution deduction for the easement on its 2011 tax return, and the Carters and Evans claimed deductions on their individual returns based on their shares of the partnership’s deduction. The IRS disallowed these deductions and proposed gross valuation misstatement penalties.

    Procedural History

    The IRS issued notices of deficiency to the Carters and Evans on August 18, 2015, disallowing the charitable contribution deductions and determining gross valuation misstatement penalties. The cases were consolidated for trial, briefing, and opinion. The Tax Court reviewed the case de novo, applying the preponderance of the evidence standard.

    Issue(s)

    Whether the conservation easement granted by DHP to NALT qualifies as a “qualified real property interest” under I. R. C. sec. 170(h)(2)(C), thus entitling petitioners to charitable contribution deductions? Whether the IRS timely secured written supervisory approval for the initial determination of the gross valuation misstatement penalties as required by I. R. C. sec. 6751(b)(1)?

    Rule(s) of Law

    I. R. C. sec. 170(h)(2)(C) defines a “qualified real property interest” as including “a restriction (granted in perpetuity) on the use which may be made of real property. ” I. R. C. sec. 170(h)(5)(A) requires that the conservation purpose be protected in perpetuity. I. R. C. sec. 6751(b)(1) mandates that no penalty under the Internal Revenue Code shall be assessed unless the initial determination of such assessment is personally approved in writing by the immediate supervisor of the individual making such determination.

    Holding

    The Tax Court held that the conservation easement did not meet the perpetual restriction requirement of I. R. C. sec. 170(h)(2)(C) because the retained development rights in the unspecified building areas allowed uses antithetical to the easement’s conservation purposes. Consequently, petitioners were not entitled to charitable contribution deductions. The court further held that the IRS’s supervisory approval of the gross valuation misstatement penalties was untimely under I. R. C. sec. 6751(b)(1), as it was granted after the initial determination of the penalties had been communicated to petitioners, thus invalidating the penalties.

    Reasoning

    The court followed its precedent in Pine Mountain Pres. , LLLP v. Commissioner, 151 T. C. 247 (2018), which established that retained development rights in unspecified areas violate the perpetual restriction requirement of I. R. C. sec. 170(h)(2)(C). The court reasoned that the building areas allowed for residential development, which is antithetical to the conservation purposes of preserving open space and natural habitats. The court distinguished this case from Belk v. Commissioner, 140 T. C. 1 (2013), where the easement allowed for substitution of property, noting that the issue here was the lack of a defined parcel subject to perpetual use restrictions. Regarding the penalties, the court applied its interpretation of I. R. C. sec. 6751(b)(1) from Clay v. Commissioner, 152 T. C. 223 (2019), requiring supervisory approval before the first communication of the penalty determination. The court found that the IRS’s communication to petitioners via Letters 5153 and accompanying RARs constituted the initial determination of the penalties, and the subsequent supervisory approval was untimely.

    Disposition

    The Tax Court disallowed the charitable contribution deductions claimed by petitioners and invalidated the gross valuation misstatement penalties proposed by the IRS.

    Significance/Impact

    This decision reinforces the strict requirements for conservation easements to qualify for charitable contribution deductions, particularly the need for perpetual use restrictions on a defined parcel of property. It also underscores the importance of timely supervisory approval for penalties under I. R. C. sec. 6751(b)(1), impacting IRS procedures for assessing penalties. The ruling may influence how conservation easements are drafted and how the IRS handles penalty assessments in future cases.

  • Evans v. Commissioner, 56 T.C. 1142 (1971): Tax Treatment of Distributed Pension Plan Contracts

    Evans v. Commissioner, 56 T. C. 1142 (1971)

    The cash surrender value of distributed retirement income contracts from a qualified pension plan is not taxable if it equals or exceeds the face amount, converting them into annuities; otherwise, it is taxable unless made nontransferable within 60 days.

    Summary

    Evans received eight contracts from a terminated qualified pension plan. Seven of these contracts had cash surrender values equal to or exceeding their face amounts at distribution, transforming them into annuities and thus not taxable under IRC section 402(a). The eighth contract, with a face amount exceeding its cash surrender value, retained life insurance protection and was taxable because it was not made nontransferable within 60 days as required by the regulations. The court’s decision hinged on the nature of the contracts at the time of distribution, applying IRC section 402(a) and related regulations to differentiate between annuity and life insurance elements.

    Facts

    Aubrey Rolph Evans participated in a pension plan from 1945 until its termination in 1964. The plan purchased eight contracts from Occidental Life Insurance Company, which included both annuity and life insurance elements. By the time of distribution in 1965, seven contracts had cash surrender values equal to or greater than their face amounts, while the eighth had a face amount exceeding its cash surrender value. Evans did not make the contracts nontransferable within 60 days of distribution.

    Procedural History

    Evans filed a tax return for 1965 without reporting income from the distributed contracts. The Commissioner of Internal Revenue issued a deficiency notice, asserting that the cash surrender values of the contracts were taxable income. Evans petitioned the Tax Court, which ruled that the cash surrender values of the seven contracts were not taxable, but the value of the eighth contract was taxable due to its retained life insurance protection.

    Issue(s)

    1. Whether the cash surrender values of the seven contracts, whose values equaled or exceeded their face amounts at distribution, are includable in the taxpayer’s gross income.
    2. Whether the cash surrender value of the eighth contract, whose face amount exceeded its cash surrender value at distribution, is includable in the taxpayer’s gross income.

    Holding

    1. No, because the seven contracts had transformed into pure annuities at the time of distribution, and thus, their cash surrender values were not taxable under IRC section 402(a).
    2. Yes, because the eighth contract retained life insurance protection and was not made nontransferable within 60 days as required by the regulations, making its cash surrender value taxable.

    Court’s Reasoning

    The court analyzed the nature of the contracts at distribution, applying IRC section 402(a) and related regulations. The primary purpose of the plan was to provide retirement benefits, with life insurance being incidental. When the cash surrender value of a contract equals or exceeds its face amount, the life insurance protection disappears, leaving a pure annuity contract. The seven contracts met this criterion and were thus not taxable. The eighth contract, however, retained life insurance protection and was subject to taxation because it was not made nontransferable within 60 days, as required by the regulations. The court rejected the taxpayer’s argument to treat all eight contracts as one, emphasizing that each contract’s nature must be determined separately. The court also referenced prior cases and regulations to support its interpretation of the tax treatment of such contracts.

    Practical Implications

    This decision clarifies the tax treatment of distributed pension plan contracts based on their nature at the time of distribution. Taxpayers and practitioners should carefully assess whether distributed contracts are annuities or retain life insurance elements, as this affects their taxability. The ruling underscores the importance of timely action to make contracts nontransferable when life insurance protection is present. It also impacts how similar cases should be analyzed, emphasizing the need to evaluate each contract individually. Later cases and IRS guidance may further refine these principles, but this case remains a key reference for distinguishing between taxable and non-taxable distributions from qualified plans.

  • Evans v. Commissioner, 54 T.C. 40 (1970): Tax Implications of Assigning Partnership Interest to a Corporation

    Evans v. Commissioner, 54 T. C. 40 (1970)

    A partner’s assignment of their entire partnership interest to a corporation results in the corporation being recognized as the partner for federal income tax purposes, even without the consent of other partners.

    Summary

    Donald Evans assigned his one-half interest in the Evans-Zeier Plastic Company to his wholly owned corporation, Don Evans, Inc. , without informing his partner, Raymond Zeier. The Tax Court held that for federal tax purposes, the assignment effectively transferred Evans’ partnership interest to the corporation, terminating the old partnership and creating a new one between the corporation and Zeier. Thus, Evans was not taxable on the partnership income or the gain from the subsequent sale of the interest to Zeier, as the corporation was recognized as the partner under IRC sections 708 and 704(e).

    Facts

    Donald L. Evans and Raymond Zeier were equal partners in the Evans-Zeier Plastic Company, a business involving the manufacture of plastic products. In 1960, due to strained relations and a desire to start his own business, Evans sought advice on how to accumulate capital. On January 2, 1961, he assigned his entire one-half interest in the partnership to Don Evans, Inc. , a corporation he solely owned, without informing Zeier. The assignment was valued at $51,518. 46, for which Evans received corporate stock. Despite the assignment, partnership returns continued to list Evans as a partner, and he continued to perform his usual work. In 1965, Evans and Zeier dissolved the partnership, with Evans selling his interest to Zeier, the proceeds being deposited into the corporation’s account.

    Procedural History

    The Commissioner of Internal Revenue determined deficiencies in Evans’ income tax for the years 1961 through 1965, asserting that he remained taxable on the partnership income and the gain from the 1965 sale. Evans petitioned the Tax Court, which ruled in his favor, holding that the assignment to the corporation was effective for federal tax purposes, thus relieving Evans of tax liability on the partnership income and the sale’s gain.

    Issue(s)

    1. Whether the assignment by Donald Evans of his entire interest in the Evans-Zeier Plastic Company to Don Evans, Inc. , without the consent of his partner, Zeier, was effective to relieve him of tax upon the distributive share of partnership income attributable to such interest.

    2. Whether gain derived on the subsequent sale of such partnership interest is taxable to Donald Evans.

    Holding

    1. No, because under IRC sections 708 and 704(e), the assignment terminated the old partnership and created a new one with the corporation as a partner, making the corporation, not Evans, taxable on the partnership income.

    2. No, because the gain from the sale of the partnership interest was taxable to the corporation, which had acquired the interest, not to Evans personally.

    Court’s Reasoning

    The Tax Court’s decision hinged on the interpretation of IRC sections 708 and 704(e). Section 708(b)(1)(B) provides that a partnership terminates if 50% or more of the total interest in partnership capital and profits is sold or exchanged within a 12-month period, which occurred here. The court also relied on section 704(e), which recognizes a person as a partner if they own a capital interest in a partnership where capital is a material income-producing factor. The court found that the assignment transferred Evans’ entire interest in profits and surplus to the corporation, entitling it to partnership income and assets upon dissolution. The court distinguished this case from Burnet v. Leininger, noting that Evans assigned a capital interest, not just future income. The court further held that Evans’ continued nominal status as a partner did not subject him to tax on income assigned to the corporation, citing United States v. Atkins.

    Practical Implications

    This decision clarifies that for federal tax purposes, a partner can assign their entire partnership interest to a corporation, even without the consent of other partners, and the corporation will be recognized as the partner. This ruling has significant implications for tax planning involving partnerships and corporations, allowing partners to shift tax liability to corporate entities. Practitioners should note that while state law may not recognize the corporation as a partner, federal tax law will, potentially affecting how partnership interests are structured and transferred. Subsequent cases like Baker v. Commissioner have applied this principle, reinforcing its use in tax planning strategies.

  • Evans v. Commissioner, 30 T.C. 798 (1958): Transfer of Life Estate for Consideration and Tax Implications

    30 T.C. 798 (1958)

    A taxpayer’s bona fide transfer of a life estate in a trust, for valuable consideration, shifts the tax liability for the trust income from the transferor to the transferee, even if the transfer is to a family member.

    Summary

    In Evans v. Commissioner, the U.S. Tax Court addressed whether a taxpayer, Gladys Cheesman Evans, was still liable for income tax on dividends paid to a trust after she had transferred her life interest in the trust to her husband. The court held that because Evans had transferred her entire interest in the trust for valuable consideration to her husband, the income generated by the trust was not taxable to her. The court found the transaction valid for tax purposes, despite the familial relationship, because the transfer was intended to be a sale and was not a sham. This case highlights the importance of substance over form in tax law and that a complete transfer of a property right can shift tax obligations.

    Facts

    Gladys Cheesman Evans and her mother created a trust in 1920, transferring stock of a real estate corporation. Evans’s husband was the trustee. After her mother’s death, Evans was the equitable life tenant. Following Supreme Court decisions in 1950 regarding estate tax implications for trusts, Evans sought to dispose of her interests in the trust. She and her advisors decided on a sale to her husband, who agreed to make annual payments to her during her life in exchange for the life estate and any reversionary interest. A formal deed was executed on December 1, 1950. Subsequently, the Commissioner of Internal Revenue determined that dividends paid to the trust constituted taxable income to Evans, despite the transfer. Evans received payments from her husband consistent with the agreement and the payments were credited against her unrecovered cost basis in the trust.

    Procedural History

    The Commissioner of Internal Revenue determined tax deficiencies against Evans for the years 1950-1954. The case was brought before the U.S. Tax Court to challenge the Commissioner’s inclusion of the trust dividends in Evans’s taxable income, despite the transfer of her life interest. The Tax Court found in favor of the taxpayer, Evans, and the Commissioner did not appeal.

    Issue(s)

    1. Whether the transfer of Evans’s life interest in the trust to her husband was a valid transfer for tax purposes.

    2. Whether the income from the trust was taxable to Evans after she had sold her life interest to her husband.

    Holding

    1. Yes, the transfer was a valid transfer for tax purposes because the deed transferred complete ownership to her husband without qualification or condition.

    2. No, the income from the trust was not taxable to Evans after the transfer of her life interest.

    Court’s Reasoning

    The court’s reasoning centered on whether the transaction between Evans and her husband was a genuine transfer of ownership or a mere attempt to avoid taxes. The court scrutinized the familial relationship, but found that the sale had substance. The court acknowledged the Commissioner’s argument about the lack of an arm’s length transaction and family motives. However, the court found that Evans intended to sell her interest and her husband intended to buy it. The court looked at the intent of the parties and the formal execution of the deed to support its finding. The court emphasized that the transfer was a complete alienation of Evans’s rights and interests, in exchange for valuable consideration, thereby shifting the tax incidence.

    The court stated: “In our opinion, petitioner’s decision to make the transfer here in question was caused by her desire to escape the impact of *Commissioner v. Estate of Church* and *Estate of Spiegel v. Commissioner*, and at the same time realize money by disposing of her interests under the trust.”

    The court found that the inadequacy of consideration was not relevant because no suit for equity was brought. It looked to the intent of the parties to determine the substance of the transaction. The court acknowledged the Commissioner’s dissatisfaction but refused to ignore a transaction that validly transferred ownership.

    Practical Implications

    This case provides guidance in the tax treatment of property transfers within families. It clarifies that transfers of interests in property, even within family units, will be respected for tax purposes if they are genuine transfers of ownership for valuable consideration, and not shams. This case is authority for the principle that, in tax matters, the substance of a transaction prevails over its form. It suggests that taxpayers can restructure ownership to shift tax liabilities, provided that the transfers are complete and reflect economic reality. This case is relevant for estate planning and income tax strategies.

    Later cases, when interpreting this ruling, would focus on the bona fides of the transfer, meaning that the parties involved truly intend for a sale, exchange, or gift to occur. When dealing with family members, tax courts will scrutinize such transactions more closely. If the transfer is intended, then the tax consequences will follow the transfer of the property interest.

  • Evans v. Commissioner, 19 T.C. 1102 (1953): Taxability of Alimony Payments During Interlocutory Divorce Decree

    19 T.C. 1102 (1953)

    Payments made to a wife during an interlocutory divorce decree period, where the parties are still considered married under state law, are not taxable income to the wife under Section 22(k) of the Internal Revenue Code.

    Summary

    Alice Humphreys Evans received monthly payments from her husband, John, following an interlocutory divorce decree in Colorado. The IRS argued these payments were taxable income to her. The Tax Court held that because Colorado law stipulates that the parties remain married during the six-month interlocutory period, the payments received during that time were not taxable alimony under Section 22(k) of the Internal Revenue Code. This decision aligns with the principle that the payments must be received after the legal separation or divorce to be considered taxable alimony.

    Facts

    Alice and John Evans were married in 1938 and separated in 1947, when Alice filed for divorce in Colorado. On December 5, 1947, they entered into a property settlement agreement that stipulated temporary alimony payments to Alice pending the final divorce decree. The Colorado court entered an interlocutory divorce decree on December 10, 1947, stipulating that the final divorce would be granted six months later. Alice received $3,750 in monthly payments from John during this six-month period. The final divorce decree was entered on June 11, 1948.

    Procedural History

    The Commissioner of Internal Revenue determined a deficiency in Alice Evans’ income tax for 1948, arguing that the payments received during the interlocutory decree period were taxable income. Evans contested this determination in the United States Tax Court.

    Issue(s)

    Whether monthly support payments received by a wife during the interlocutory period of a divorce decree in Colorado constitute taxable income to the wife under Section 22(k) of the Internal Revenue Code.

    Holding

    No, because under Colorado law, the parties remain married during the interlocutory period, and Section 22(k) applies only to payments received after a decree of divorce or legal separation.

    Court’s Reasoning

    The Tax Court relied on its prior decision in Marriner S. Eccles, 19 T.C. 1049, which addressed a similar issue under Utah law. The court reasoned that Colorado law, like Utah law, stipulates that parties are still married during the interlocutory period. Referencing In re McLaughlin’s Estate, 117 Colo. 67, 184 P.2d 130 (S. Ct. Colo. 1947), the court noted that if one party dies during this period, the divorce action abates, and the surviving spouse is entitled to inherit. The court also quoted Doty v. Doty, 103 Colo. 543, 88 P.2d 573 (S. Ct. Colo. 1939), stating, “under the statute and the express provisions of the interlocutory decree, the parties were still married and might lawfully have cohabited together as husband and wife.” Therefore, the payments were not considered to be made “subsequent to such decree” as required by Section 22(k) to be taxable.

    Practical Implications

    This case clarifies that the timing of a divorce decree is crucial in determining the taxability of alimony payments. Payments made before the final decree, during an interlocutory period where the parties are still legally married under state law, are not considered taxable income to the recipient under Section 22(k). Attorneys should carefully examine state law regarding the legal status of parties during interlocutory periods to advise clients on the tax implications of divorce settlements. Later cases would need to consider revisions to the tax code and parallel changes to state divorce laws. The case highlights the importance of understanding the interplay between federal tax law and state family law. This ruling provides certainty in tax planning for divorcing couples in states with similar interlocutory decree provisions.

  • Evans v. Commissioner, 17 T.C. 206 (1951): Gift Tax Exclusion Denied Where Trust Corpus Could Be Exhausted

    17 T.C. 206 (1951)

    A gift tax exclusion is not allowable for the present interest in the income of a trust if the trust agreement permits the total exhaustion of the trust corpus, rendering the income interest incapable of valuation.

    Summary

    Sylvia H. Evans created trusts for her six children, funding them in 1945 and 1946. The trust allowed the corporate trustee to distribute income and, at its discretion, principal for the beneficiaries’ education, comfort, and support. Evans claimed gift tax exclusions for these transfers. The Commissioner of Internal Revenue disallowed the exclusions, arguing the income interests were not susceptible to valuation because the trust corpus could be entirely depleted. The Tax Court agreed with the Commissioner, holding that because the trustee had the power to exhaust the entire corpus, the income interest was not capable of valuation, and the gift tax exclusion was not applicable. The court also disallowed an additional exclusion claimed for one beneficiary who had the right to withdraw principal, finding it a future interest.

    Facts

    Sylvia H. Evans created a trust on December 31, 1945, for the benefit of her six children, allocating a separate trust for each. The trust deed stipulated that trustees were to pay the net income to each child in installments. Additionally, the corporate trustee had the discretion to distribute principal for the education, comfort, and support of each child, or their spouse or children. One child, Sylvia E. Taylor, was over 30 and had the right to withdraw up to $1,000 of principal each year. In 1945, Evans contributed $2,500 to each child’s trust and made other direct gifts. In 1946, she added $5,000 to each trust and made additional direct gifts. The trust income was distributed currently, but no principal was withdrawn.

    Procedural History

    The Commissioner of Internal Revenue determined gift tax deficiencies for 1945 and 1946, disallowing gift tax exclusions claimed by Evans for transfers to the trusts. Evans petitioned the Tax Court for a redetermination of the deficiencies. The Tax Court upheld the Commissioner’s disallowance of the exclusions, with a minor adjustment to be calculated under Rule 50 regarding Evans’ specific exemption.

    Issue(s)

    1. Whether the petitioner is entitled to gift tax exclusions for transfers made to trusts where the trustee has the discretion to distribute principal, potentially exhausting the entire corpus.

    2. Whether the petitioner is entitled to an additional gift tax exclusion in 1946 for a transfer to a trust where the beneficiary already had a right to withdraw principal.

    Holding

    1. No, because the trustee’s power to invade the trust corpus for the beneficiaries’ education, comfort, and support made the income interest incapable of valuation, precluding the gift tax exclusion.

    2. No, because the beneficiary already possessed the right to withdraw principal, making the additional transfer a gift of a future interest.

    Court’s Reasoning

    The Tax Court relied on the precedent set in William Harry Kniep, 9 T.C. 943, which held that gifts of trust income are only eligible for the statutory exclusion to the extent that they are not exhaustible by the trustee’s right to encroach upon the trust corpus. The court reasoned that, similar to Kniep, the trustee’s power to distribute principal for the beneficiaries’ education, comfort, and support made the corpus entirely exhaustible, rendering the income interest incapable of valuation. The court emphasized that the focus is on valuing the present interest of each beneficiary at the time of the gift. As the Court of Appeals said in the Kniep case, “the only certainty as of the time of the gifts is that the beneficiaries will receive trust income from the corpus, reduced annually by the maximum extent permitted under * * * the trust agreement.” Because the trust agreement allowed for complete exhaustion, the present interests were not valuated. The court also denied the additional exclusion claimed for the transfer to Sylvia E. Taylor’s trust in 1946. It determined that because Sylvia already had the right to withdraw $1,000 per year, the additional transfer did not confer any new present right and was, therefore, a gift of a future interest.

    Practical Implications

    This case underscores the importance of carefully drafting trust agreements to ensure that income interests are capable of valuation if the grantor intends to claim gift tax exclusions. The Evans decision, along with Kniep, establishes that if a trustee has broad discretion to invade the trust corpus, potentially exhausting it entirely, the income interest will likely be deemed incapable of valuation, thus precluding the gift tax exclusion. Attorneys drafting trust documents should consider limiting the trustee’s power to invade the corpus if the grantor wishes to secure the gift tax exclusion for the present income interest. Later cases citing Evans often involve similar trust provisions and reinforce the principle that the ability to value the income stream with reasonable certainty is critical for claiming the exclusion. This case also illustrates that simply adding to a trust where a beneficiary already has withdrawal rights may not qualify for an additional exclusion if it is deemed a future interest.

  • Evans v. Commissioner, 11 T.C. 726 (1948): Determining Gross Income for Percentage Depletion

    11 T.C. 726 (1948)

    For the purpose of calculating percentage depletion on oil and gas wells, “gross income from the property” is determined by the amount the taxpayer receives for the crude product at the wellhead, excluding any costs associated with transportation or processing after production.

    Summary

    The Tax Court addressed whether oil producers could include transportation and gathering charges, deducted by the purchaser, in their “gross income from the property” calculation for percentage depletion purposes. The producers sold their oil to a pipeline company, which deducted a “freight equalization charge” and a “gathering charge” under their agreement. The court held that these charges, representing post-production transportation costs, could not be included in the gross income calculation because percentage depletion is based on the value of the crude oil at the wellhead, before transportation or processing.

    Facts

    James P. Evans, Sr., and his family owned an oil and gas lease in Mississippi. They sold the oil produced to Allied Pipe Line Corporation under a contract where Allied deducted a “freight equalization charge” and a “gathering charge” from the price paid to the Evans family. These charges were intended to cover Allied’s costs of transporting the oil from the well to a refinery. The Evans family argued that these charges should be added back into their gross income from the property for calculating percentage depletion.

    Procedural History

    The Commissioner of Internal Revenue determined deficiencies in the Evans family’s income tax. The Evans family petitioned the Tax Court for a redetermination of these deficiencies, arguing that they were entitled to include the transportation and gathering charges in their gross income calculation. The Tax Court consolidated the cases for James P. Evans, Sr., Edith S. Evans, William S. Evans, Catherine M. Evans, and James P. Evans, Jr.

    Issue(s)

    Whether amounts deducted by the purchaser of crude oil from the sale price, representing transportation and gathering charges, can be included in the seller’s “gross income from the property” for the purpose of calculating percentage depletion under Internal Revenue Code section 114(b)(3).

    Holding

    No, because “gross income from the property” is defined as the amount the taxpayer receives for the crude mineral product in the immediate vicinity of the well, and does not include costs associated with transportation or processing after production.

    Court’s Reasoning

    The court relied on Treasury Regulations defining “gross income from the property” as the amount received for the crude mineral product at the wellhead. The court emphasized that if the product is transported or processed before sale, these costs must be excluded from the gross income calculation. The court stated: “That regulation employs as a definition of ‘gross income from the property’…the principle that the crude product itself at the source is determinative…and that if other items are included in the ultimate sale, such as refining, processing, or transportation, they are to be eliminated as nearly as may be in arriving at the figure sought.” The court found that the agreement between the parties clearly indicated that the deducted charges were for transportation costs, not for the value of the oil itself. The court distinguished between costs of producing the crude product and costs of transporting it after production.

    Practical Implications

    This case clarifies the method for calculating percentage depletion for oil and gas wells. It establishes that only the income derived from the sale of the crude product at the wellhead is considered when calculating the 27 1/2% depletion allowance. Legal practitioners must carefully analyze contracts for the sale of oil and gas to determine whether any deductions from the gross price represent post-production transportation or processing costs. These costs must be excluded from the calculation of “gross income from the property.” This ruling ensures a uniform method for determining depletion across various oil producers, regardless of their individual transportation arrangements. Later cases have consistently applied this principle, focusing on the location and nature of the income-generating activity to determine its includability in the gross income calculation for depletion purposes. The core principle remains that depletion is an allowance for the extraction of the resource itself, not for activities performed after the resource has been brought to the surface.