UNITED STATES v. SWANK

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ORAL ARGUMENT BY STUART A. SMITH, ESQ., ON BEHALF OF THE PETITIONER

Chief Justice Burger: We will hear arguments next in United States v. Swank.

Mr. Smith, you may proceed whenever you are ready.

Mr. Smith: Thank you.

Mr. Chief Justice, and may it please the Court:

These three cases are here on writ of certiorari to the United States Court of Claims.

They involve an important question of taxation in the mineral area, as to which there is a conflict of decisions in the lower courts.

Specifically, the question presented is whether a provision in a mineral lease permitting the lessor to terminate the lease on 30 days' notice without any cause deprives the lessee of an economic interest in the minerals in place so that the lessee is not entitled to the depletion deduction permitted under Section 611(a) of the Internal Revenue Code.

The facts of all three cases are virtually identical and can be summarized briefly as follows: respondents are all direct--

Unidentified Justice: But there are some differences, aren't there, Mr. Smith?

Mr. Smith: --There are some differences, Mr. Justice Blackmun, for the purposes, I think, that the case has come here... I think neither party thinks the differences are germane, but, you're right, there are some minor differences.

Principally, the respondents are all lessees under coal leases and as under these leases they were authorized to remove coal, in consideration of a stated royalty per ton.

The leases each permitted respondents to sell coal, the coal that was extracted, to anyone at any price.

Unidentified Justice: Could I interrupt you at that point?

Mr. Smith: Surely.

Unidentified Justice: There is talk in one of the briefs... I think it's Swank... that the county agreed not to terminate the lease.

Do you agree or concede that point, or do you not?

Mr. Smith: No, we don't concede that point, Mr. Justice Blackmun, and we think it's a little late in the day for the Respondent Swank to be raising it, because while... may I refer the Court to pages 54a and 55a of the Appendix, which discusses this problem and specifically paragraph (c) on page 55a which says:

"Statements to the effect that Northumberland County would not terminate a lease except for cause were made to various individual mine operators including taxpayer, in public meetings of the commissioners, and reported in the press. "

But then it goes on to say, and this is from the stipulation of facts:

"However, no assurance was given that the county commissioners could not cancel a lease without cause. "

I think that the Court of Claims assumed for purposes of its decision that the Swank lease was a termination without cause.

Respondent Swank never took exception to that finding and I think that for purposes... as the case comes here, I think that is agreed, that must be agreed, that the Swank lease as well as the Bull Run and Black Hawk lease all provided for termination without cause.

Unidentified Justice: And it's only if they did that the issue is here at all.

Mr. Smith: Exactly.

Exactly.

Unidentified Justice: And you wouldn't be here if they had... if you accepted--

Mr. Smith: We wouldn't be here on that... because if the lease were terminated for cause... and in fact, there were other provisions of these leases that were terminable, because, for example, if the respondents didn't pay their rent or their royalties, the leases were terminable.

We're not contending that that deprives the lessee of the depletion deduction.

In any event, each lease provided, as I said, that the lessor could terminate without cause on 30 days' notice, and it was on this basis that the Internal Revenue Service disallowed the respondents' depletion deductions on the ground that none of the respondents had an economic interest in the minerals covered by their leases.

The Court of Claims decided otherwise on the authority of its earlier decision in Bakertown Coal Company, which essentially presents the same question.

Unidentified Justice: --Mr. Smith, what would be your view if it was cancellable on one year's notice?

Mr. Smith: Well, the Internal Revenue Service's position, and it is our position, that one year is the line.

In other words, a cancellation on one year's notice and beyond is all right, but anything less than a year violates or undermines--

Unidentified Justice: It's not a matter of whether or not it's all right or whether it violates something.

It is a--

Mr. Smith: --No, no; essentially, it does deprive the lessee of the economic interest in the coal in place, because--

Unidentified Justice: --Whether or not he can take the deduction.

Mr. Smith: --Exactly.

Unidentified Justice: And is that a one-year, on the basis of a regulation?

Mr. Smith: That is on the basis, Mr. Justice Rehnquist, of a long-standing published position of the Internal Revenue Service, so-called GCM.

Unidentified Justice: Well, it's an announced--

Mr. Smith: Yes, it's an announced position which is 30 years--

Unidentified Justice: --Well, I've heard of ID's and Treasury Regionations, but GCM?

Mr. Smith: --A GCM is an old form of ruling called General Counsel's Memorandum.

Unidentified Justice: GCMs.

Mr. Smith: And this is a classic statement in the depletion area because what it did was, to permit lessees like an operator in this situation, but announced that if the lease... the lease had to be for more than a nominal period.

It could only be terminable on more than nominal notice, and the Service announced in that case that generally one year was the rule.

And in fact, the Service has ruled subsequently, more recently... as a matter of fact, I can cite the Court to two Revenue Rulings that I think bring this matter up to date: Revenue Ruling 74-506 and 74-507, which were cited at 1974-2, Cumulative Bulletin 178 and 179, which more or less reaffirmed the one-year rule.

Unidentified Justice: Are they in the Appendix?

Mr. Smith: They are not.

I just discovered these two rulings in preparation for the argument.

Unidentified Justice: Now, these rulings have to do--

Mr. Smith: With the one-year rule.

Unidentified Justice: --Well, only with coal?

Mr. Smith: Well, no, they don't.

Unidentified Justice: Because the percentage depletions are quite different--

Mr. Smith: Exactly.

Unidentified Justice: --Depending upon different presumptions as to how long it's going to take to exhaust the resource.

Mr. Smith: Exactly.

Unidentified Justice: And maybe one year would be right for some minerals, and quite wrong for others.

Mr. Smith: Well, the particular ruling that involves coals particular ruling that talks about the one-year rule, involves coal, 74-507.

74-506 deals with phosphate rock deposits, and in that particular instance the taxpayer-lessee had a five-year lease and then he renewed it for another six months.

Unidentified Justice: What are those, GCMs?

Mr. Smith: No, these are Revenue Rulings.

Unidentified Justice: Does the Service take the position that one year is the cut-off line on every type of case?

Mr. Smith: No.

The Service takes the position that one year is the general rule of thumb, and the taxpayer... the general principle is that the taxpayer has to have the right to mine the deposit to exhaustion in order to have an economic interest in minerals in place.

Unidentified Justice: You might have an allowable depletion allowance deduction of, say, 25 percent and that would be based upon the presumption that the asset is going to be fully depletable in four years.

You might have on allowable depletion allowance deduction of ten percent, which would be based upon the presumption that the asset is going to be fully depletable in ten years.

And this rate is one year.

Mr. Smith: The coal rate is ten percent, and these two rulings that I've adverted to, which talk about the one-year rule, are in the context of coal.

Unidentified Justice: But, Mr. Smith, the one year isn't based on the anticipated period of mining out a coal seam, is it?

That has nothing to do with the ten-year presumed life of--

Mr. Smith: No, that's simply a rate that's negotiated between industries and the Congress, I think, and the Treasury.

Unidentified Justice: --You mean the one-year is?

Mr. Smith: No, no.

Unidentified Justice: Or the ten-year?

Mr. Smith: The rates in the Code.

Unidentified Justice: Yes, but what I'm saying, the one-year is not related to any prediction about how long it takes to exhaust a coal mine; maybe ten years would be.

Mr. Smith: Well, but it's a general rule of thumb that if you had... basically, since the general principle is that you have to have something substantial, you have to have a capital interest in minerals in place.

And simply to say, you know, if you have like a one... a right to do something for one day, it wouldn't be a terribly significant right.

Unidentified Justice: There aren't very many coal mines that operate for one day, are there?

Mr. Smith: No, but in fact, the rhetorical question that the Court of Claims asked in Bakertown about it, saying that this is not a one-day case, apparently there is a case now pending before the Court of Claims involving a one-day termination in turquoise mining.

But anyway, the basic point is that in order to have this right to mine a deposit to exhaustion... and it's basically what the Court talked about in Paragon and in Parsons--

Unidentified Justice: From the point of view of the Government's interest, I mean, the whole purpose of a depletion allowance, what difference does it make to the Government whether... say it takes 20 years to mine out a coal, or ten years to exhaust a coal mine, what difference would it make if there were 20 different operators, each of whom succeeded one another at six-month intervals or ten at one-year intervals, or one for working the whole 20 years?

Why isn't there the same amount of coal being mined and depleted and the same reason for the depletion allowance, regardless of the period that the lease is in effect?

Mr. Smith: --Well, simply, Mr. Justice Stevens, the question of who has it, since the general rule--

Unidentified Justice: Well, the person who is the miner at the time mines it and sells it.

He has the title to the coal and he sells it.

Mr. Smith: --Exactly, exactly.

But there are a lot of people involved in mining operations, extracting of minerals who have something much less than an economic interest to satisfy.

Unidentified Justice: But only one person has a right to sell the coal.

Mr. Smith: Only one person has a right to sell the coal, but indeed, in Parsons and in Paragon, the taxpayers before the court... those are the two decisions that we think bear very heavily on the question before the Court... in both those cases the miners there were the only persons who had the right to have the coal, and the Court held that they didn't get the depletion allowance because they didn't satisfy the economic interests.

Unidentified Justice: They didn't have the right to sell the coal.

They had to sell it to the lessor at a fixed price.

Mr. Smith: Oh, they... yes; indeed, they had to sell--

Unidentified Justice: They mined on a contract.

Mr. Smith: --Exactly.

But they were selling the coal.

Here, of course... that's true; they did have the right to sell the coal to anyone they pleased, at any price.

But we submit that the terminability clause, that that right has to be viewed in the context of the terminability clause.

It's simply like saying.

I have a five-year, lease on an apartment and my landlord--

Unidentified Justice: I don't think you're responding to my question.

In terms of tax policy, say you have a 20-year life of a mine and one, say one person was going to mine it out and get the full depletion allowance.

What difference does it make to the government whether one person does it for 20 years four people do it for five years each, or 40 people do it for three months?

Mr. Smith: --I don't think it makes any difference, but essentially, the reason this case is here, in order to have the Court announce a rule that both lessors and lessees and the Treasury will honor as the uniform rule.

As matters now stand, in the Court of Claims the rule is one way, and in the 3rd Circuit the rule is another.

Unidentified Justice: You don't care how it's decided, so long as you get a ruling?

Mr. Smith: Well, I'd like to... I would not stand here and tell you that this was an overwhelming important question of tax policy, except to the extent that the Bar and the Treasury depend upon the application of uniform rules, and we think that the uniform rule in this case ought to be that the termination clause should be regarded as a powerful right against which all other rights must be subordinated.

And indeed, this concept is not foreign to the tax law.

Although the respondent suggests that this is a terrible thing that the Treasury is imposing upon this in the area of trusts, in the area of estate taxes, the right to revoke or the right to pull back something is extremely important, and we submit that here, where the lessor has the right to cancel a lease without any cause at all, essentially saying, get out in 30 days, really reduces these respondents to having nothing more than a right to mine an additional 30 days of coal.

Unidentified Justice: Well, of course, in these cases, maybe it doesn't fit the theory, but certainly the cutting edge of the cases are these: in Swank, if the operator doesn't get the allowance, nobody does, because the lessor is a tax-free municipality.

So the government benefits.

In the other two, I think the facts are that each operator mined to exhaustion.

Mr. Smith: Well, if each operator... okay.

Well, I think that the fact that Swank, that the lessor in Swank is a municipality or a county is simply a fortuity and I'm not really sure that the depreciation--

Unidentified Justice: If it weren't for the Government's advantage, just as in the old days when a taxpayer tried to prove the year of loss of a bad debt, he always guessed wrong.

Mr. Smith: --Right.

Well, the answer, I suppose, is to have appropriate counsel and claim it in a variety of years so that when it gets disallowed in one year you don't lose it completely.

Unidentified Justice: Well, Mr. Smith, I understand your position, I'm just--

Mr. Smith: Okay.

Unidentified Justice: --Thinking of the--

Mr. Smith: But on the question of the other two respondents which were taxpayers, those respondents get cost depreciation and capital gains under Section 631.

Unidentified Justice: --The owners do.

The owners do.

Mr. Smith: The owners.

And the capital gains... in fact, that's one of the points that the Court of Claims made that we think is so ill taken, that they said, my goodness, we've got to give it to these respondents because otherwise nobody will get it, and that's simply not the case.

The owners in those cases will get 631(c) capital gains treatment, which is a special provision in the Code only for coal and iron ore, and it's really quite beneficial, and it's really hard, it's really hard to accept the force of the Court of Claims' point on that.

Unidentified Justice: So depletion to the operator is giving an additional allowance?

Mr. Smith: Exactly.

Exactly.

Now, getting back to what I think is... to be sure, the Court in Parsons and in Paragon did talk about the fact that the contractors in those cases had the right to sell coal to anyone they chose.

But I think that that doesn't diminish the force of the Court's "emphasis" in both those cases on the termination provisions in those contracts.

In both... in fact, in Parsons, the Court mentioned it on three different occasions.

It talks about it every time it described the contracts.

It talked about them being--

Unidentified Justice: One of the seven factors.

Mr. Smith: --What?

Unidentified Justice: As one of the seven factors?

Mr. Smith: That was one of the times it mentioned it but on pages 224, 225, and 226... I think 225 is where the seven factors are sketched out.

The Court talked about termination, and indeed, the Court talked about termination in Paragon as well, and referred back to Swank.

Unidentified Justice: Mr. Smith, are you finished?

Mr. Smith: Yes.

Unidentified Justice: I just want to go back to your argument that in the two cases the owner was in effect getting the allowance.

Suppose it were held that this lessee here did have an economic interest in the minerals in place, my experience always was that the depletion allowance is going to go to one or the other but not to both.

Mr. Smith: The depletion allowance does not go to both people on the same income; that is true.

That is what the Court has said.

Unidentified Justice: Well, now, what if this Court ruled that... with the Court of Claims... but, said, well, we don't need to decide whether the owner is getting depletion or not, could the Service do anything about it?

Could they deny the capitals gains treatment to the lessor?

Mr. Smith: In fact, I don't think they could, because I think that the transaction would still fit Section 631(c).

It would be a transfer with a retained economic interest.

And as I understand the matter, the owners have their overriding royalty is a retained economic interest.

They would continue to get capital gains treatment on their royalties.

They get capital gains treatment no matter how the Court decides.

Unidentified Justice: But, if a lessee has an uncancellable lease for 20 years, the depletion allowance is shared, isn't it?

Mr. Smith: If the lessee has an uncancellable... if the lessee has a noncancellable lease for 20 years, then the lessee gets percentage depletion.

Unidentified Justice: Percentage depletion.

Mr. Smith: Right.

Unidentified Justice: And what does the owner get?

Mr. Smith: The owner gets capital gains on his royalties and also, as I understand it, he can claim cost depletion.

In other words, on each dollar that he gets back--

Unidentified Justice: On that, I'm going to ask you again, what if we held in this case that the lessee had an economic interest in the--

Mr. Smith: --I don't think it would affect.

Unidentified Justice: --Wouldn't it affect the amount of depletion the owner--

Mr. Smith: No.

Unidentified Justice: --In effect?

Mr. Smith: No, because I think the owner here would continue to get, only because... Mr. Justice White, let me say this.

Your general--

Unidentified Justice: Your answers sound inconsistent, I'm not sure.

Mr. Smith: --Your general statement about sharing depletion deductions is correct, but it's not true for purposes of coal, because it's a peculiar rule of Section 631(c) which says that, you know, in such a situation the owner of the coal deposit is not eligible for percentage depletion.

So he can't get it.

And in fact, the Court of Claims in Bakertown, in the Bakertown Coal Company, I think at Footnote 2--

Unidentified Justice: Well, so I'll ask you again, what about in a coal mining case where the lessee has a lease that's good for 20 years?

Now he has an economic interest in the minerals in place.

Mr. Smith: --He has an economic interest in the minerals in place.

Unidentified Justice: And he gets... what kind of depletion does he get?

Mr. Smith: He gets percentage depletion.

Unidentified Justice: He gets percentage depletion.

What does the landowner get?

Mr. Smith: What does the landowner get?

The land-owner gets on his retained royalty, under Section 631(c), because he has made a transfer that fits that section, he gets capital gains treatment on his royalties, the basis of which--

Unidentified Justice: Under what section?

Mr. Smith: --Under Section 631(c).

It says that you get capital gains treatment--

Unidentified Justice: All right.

What if we ruled in this case, having decided the very case we just described, we said, well this case that we now have before us, this Swank case, is exactly like that one.

We looked at all the facts here, and it's just like having a lease for 20 years.

Mr. Smith: --Right.

Unidentified Justice: Well, then, what have we said now?

What about the effect on the landowner then?

Mr. Smith: It would have, in my view, no effect on the landlord, because this still would be a Section 631(c) case.

The other thing really involved in this case is whether the lessee is eligible for percentage depletion.

The lessor, because of the peculiar... Section 631(c) is not elective and if you make a transfer like that in the coal area, you are not eligible for percentage depletion.

The statute is clear on that.

It's a special benefit for transfers of coal deposit... you know, interests in coal deposits and more or less, as I understand it, is a trade-off that says, you don't get percentage depletion on your overriding royalties the way you would if you were in oil or a variety of other minerals but you'll get capital gains treatment and, you know, correspondingly, cost depletion.

Unidentified Justice: Mr. Smith, can I summarize it just to be sure I have it right?

If you had the 20-year lease situation, the lessor would get both capital gains treatment and cost depletion?

Mr. Smith: Right.

Unidentified Justice: And he would get that in this case regardless of how we decide it?

Mr. Smith: Right; that's right.

Well, getting back to what I think is sort of germane here, and that is, on the question of the importance of the terminability provision, in Parsons, like this case, there were clear and explicit termination clauses in the contracts.

But in Paragon, the importance of terminability to the Court was so significant that the Court implied a termination right on the behalf of the lessors, on the fact that the contractors could have walked off at any time.

Unidentified Justice: But wouldn't you agree, Mr. Smith, that in both of those cases, even if they'd been 20-year deals, there wouldn't have been an economic interest on the part of the--

Mr. Smith: Well, that is true, that is true, because... exactly.

But in our view, and I think that, really, this is the important thing, that I couldn't agree with you more, that if you can't sell the coal to anyone you please but you have to sell it to the lessor, you really are a kind of glorified coal miner.

But it seems to me that the right of termination on 30 days' notice without cause is an equally important right that subordinates the whole thing, because it basically says, the whole deal, I can nullify the whole deal anytime I want.

And it seems to me that if you are operating under those kinds of restraints you don't really have much of a deal anymore than you would if you had to sell the coal to the lessor.

It seems to me that both those factors are of equal weight.

Unidentified Justice: --Mr. Smith, do you see any tension or inconsistency between Parsons and Paragon?

Mr. Smith: Do I see any?

Unidentified Justice: Yes.

Mr. Smith: No.

No.

It seems to me that Paragon follows the rule of Parsons.

And indeed, that was one of the points I wanted to make.

It seems to me that one of the other points that the respondents make and the Court of Claims made is that, well, it's very nice to talk about termination and the terminability, but that's really a wholly theoretical thing and here nobody terminated.

What does that matter?

It's kind of instructive... I was reading the dissent in Parsons, in Paragon this morning, and the dissent made much the same complaint that the respondents do here in which the Court of Claims... It's incredible that no one has sort of made the analogy that the same complaint... the Court tries to assimilate this case to Parsons by stating that Paragon could have terminated the interest of the operators.

But the actual facts are really that Paragon never gave the slightest intimation that it might terminate anyone's contract, and in our view it's the right to terminate that's important, because depletion and the allowances that flow from these mining contracts necessarily have to turn on the rights.

The statute has to be administered in accordance with the rights that the parties set forth in their contracts.

And, indeed--

Unidentified Justice: I take it, Mr. Smith, that a mining contract, in Paragon and Parsons, equates in your view with a mining lease, such as we have here.

Mr. Smith: --Yes, in our view it does equate.

They are equivalents for these purposes.

I'm not suggesting that there aren't property law distinctions but I think the Court has said often in this area that property law really has to take a back seat to the governing principles in this area.

So, essentially, in our view, these respondent-lessees are much like tenants at sufferance.

They can be ejected at any time, and if they are ejected at any time... they can be ejected at any time.

Whether in fact they are or they aren't is irrelevant.

The essential point is that they don't have an economic interest in coal in place, and if they don't have that they don't get the depletion allowance.

I'd like to save the rest of my time for rebuttal.

Chief Justice Burger: Mr. Katz.

ORAL ARGUMENT OF LeROY KATZ, ESQ., ON BEHALF OF THE RESPONDENTS

Mr. Katz: Mr. Chief Justice, Members of the Court:

We are exactly at odds with the statements which have been made by the Government in this case.

He is wrong in stating that the lessor gets, besides capital gains, gets cost depletion.

It's just not true, Your Honors.

Section 631 specifically says that the lessor shall no longer get any depletion and in its place the lessor will get capital gains on the royalties which he receives.

Unidentified Justice: Well, isn't that designed to let him recover his capital in a?

Mr. Katz: Yes, Your Honor--

Unidentified Justice: Isn't it?

Mr. Katz: --Yes.

Unidentified Justice: And that was the conventional purpose, to take the place of depletion?

Mr. Katz: To take the place of depletion; that's right.

They--

Unidentified Justice: And so, to the extent that someone else gets depletion, well, at least I wouldn't suppose that people ought to get depletion on the same assets?

Mr. Katz: --Absolutely... on the same asset, but not on the same... not get the same depletion--

Unidentified Justice: On the same interest?

Mr. Katz: --Yes, sir, on the same interest.

And that is not the case in this situation, Your Honor.

You see, in a lease he gets a royalty.

That's what--

Unidentified Justice: He gets his capital gain on a negotiated royalty?

Mr. Katz: --That's correct.

Unidentified Justice: Which is negotiated, I suppose, on some assumptions about depletion?

Mr. Katz: No, sir.

Well--

Unidentified Justice: Well, I would suppose they would be.

Mr. Katz: --The intricacies of the market determine whether or not a lessor is going to lease his property to a lessee and what the royalty rate will be.

Now, when he has to figure what his capital gain is, he has to figure his cost in exactly the same way that if you bought a piece of machinery and later sold it, to see whether you had a capital gain you have to figure his cost.

That is what the Government in its 631(c) statute say, that they must figure their cost and then take capital gains on it.

But the important thing is--

Unidentified Justice: You're talking about the cost of the mineral to him, in place?

Mr. Katz: --Yes, if, for example, if you had paid for your property $100,000, for example, and then you had a million tons of coal in that property, and then you leased it to a lessee, your unit cost in that is a million divided by a hundred thousand, ten cents; ten cents a ton.

And then, if you go from there and see what the lessee, how many tons he mines and the royalty that he gets from that, you can figure what your cost is, and based upon that cost then you determine what your capital gain is.

But the important thing is, Your Honor, is that leaves nothing... we do not describe what the lessee is to get.

You see, the percentage depletion allowance is based upon gross income from mining.

So that means, what is the coal sold for on the market and what did the lessee, who had the absolute right, as soon as he cut that coal out of the mountain and as soon as he brought it in and had it cleaned, he had to sell it; he was responsible for it.

He had to take the risk of the loss, he had all of the obligations of an owner.

And he had to sell that coal.

Now, for example, you give the lessor 25 cents.

According to his theory, that's all there is in the way of depletion.

Not so.

If the lessee sells that coal for, say, $30 a ton, his depletion is based upon that $30 a ton less the 25 cents that he gave to the lessor.

Now, that is the depletion that we're talking about.

And the Government would say that, no, that's not right.

We say it can't be any other way, Your Honors.

It cannot be any other way.

We have lost the depletion allowance, and we say that nobody... and I repeat, what we're talking about here, and what we have been denied by their appeal... we were granted in the Court of Claims... what we have been denied is the percentage depletion which is based upon the gross income from the mining of that coal, which we did in every taxable year in this case.

That includes Swank, that includes Bull Run, and it includes Black Hawk.

Now you tell me why we are not entitled to that depletion allowance which the Federal Government, by virtue of this Congress, has given us, and said we are entitled to it?

No one else, and I repeat it again, no one else can claim that depletion, and no one else will get it if we don't.

And that's true of Swank, of course, because the governmental agency in Northumberland County doesn't have to worry about it.

But it is also true in Bull Run and it is true in Black Hawk.

Unidentified Justice: Then you say that the regulation issued under 631 is not valid?

If it says that you have to have a one-year period?

Mr. Katz: No, there's no such regulation as that, Your Honor.

What he is talking about was a General Counsel's Memorandum which came out in 1950 and which they have now abandoned.

General Counsel's Memorandums do not have the force of regulations; they don't have the force of a Revenue Ruling; they are just an opinion from the General Counsel's Office and they are not the law.

Unidentified Justice: Well, I mentioned in my comment to Mr. Smith that I had never heard of GCM.

There are lots of parts of the Tax Court I've never heard of too, but you say they don't have the force of a regulation?

Mr. Katz: Absolutely not, no, sir.

And I might add this, that I was in the Bakertown case in the Court of Claims, which we won, and which the Government did not appeal.

That was in 1973.

From 1973 on to this date, to this very date, the Government has made no attempt to put a regulation in explaining what they think of.

They have withdrawn the GCM that the Government contends is their rule of thumb.

Why they withdrew it I don't know, but it's gone.

Unidentified Justice: Well, in the old days, a GCM was pretty high up in the hierarchy.

Mr. Katz: Well, all I can say, Your Honor, it does not have the power of a regulation or revenue ruling.

And of course the regulation is the next thing to law, but... and of course that can be objected to too, but that has the... powerful act.

But we don't have it.

It's been withdrawn, so that shows you what you can do with the General Counsel's Memorandum.

But after one year--

Unidentified Justice: You say that's just another lawyer's opinion then?

Mr. Katz: --Well, it's an important opinion because it comes from the General Counsel, but it does not have the force of law and doesn't have the--

Unidentified Justice: It doesn't come from the Secretary, though.

Mr. Katz: --I beg your pardon?

Unidentified Justice: It doesn't come from the Secretary or the Commissioner.

Mr. Katz: No, sir, it does not.

And assuredly, Your Honor, that under those circumstances we've also got to remember, as far as... the Government in its brief has been arguing that this depletion allowance is what the lessor is entitled to and what he gets.

No such thing.

He gets no depletion allowance.

Now, I also want to call the Court' attention to the fact, to strengthen it, that under the depletion deduction... under Section 611, it says this:

"No depletion deduction"... no depletion deduction...

"shall be allowed the owner with respect to any coal. "

--I'm leaving out the other minerals...

"that such owner has disposed of under any form of contract by virtue of which he retains an economic interest in such coal, if such disposal is considered a sale of the coal under Section 631(c). "

Now, how he can say that they are going to get some depletion, the owner, under 631 is beyond me, because I'm just reading it right cut of the book.

Unidentified Justice: Mr. Katz, I understood Mr. Smith to be saying that he was referring, not to percentage depletion, but rather to what he called a "cost depletion", which as I understand it is really nothing more than the cost in any capital gains transaction, and you're--

Mr. Katz: That's right.

Unidentified Justice: --Well, you agree that they do get the ten cents in your hypothetical example?

Mr. Katz: Oh, yes, I agree.

Unidentified Justice: It's just a question of whether we call it cost depletion or not.

Mr. Katz: Well, but... that's just the method of figuring the... he gets a better deal, Your Honor--

Unidentified Justice: I mean, Mr. Smith did not suggest that the lessor got percentage depletion.

At least I certainly didn't understand him to suggest that.

Mr. Katz: --Well... no, he did not.

But in his brief he used those terms that the owner was entitled to the depletion in this case, and this case involves percentage depletion, does not involve cost depletion.

Unidentified Justice: Well, I thought he referred to cost depletion there too.

So I may have--

Mr. Katz: No, sir, he does not.

Unidentified Justice: --It doesn't matter.

We... All right, I understand.

Mr. Katz: Now, he says there's no difference between a lease and a contract.

Let me say this.

We think there is a great deal of distinction between what we have here and what we have in Paragon Jewel, which was also my case.

Your Honor, in Paragon Jewel we had a contractor who was mining coal for the lessee.

And I might say this, in the... I'm not accusing him of trying to confuse the Court, but he kept saying in his brief--

Unidentified Justice: We've heard him before.

Mr. Katz: --Oh, all right.

Anyhow, the contractor in that case was mining the coal for the lessee.

He was... he did not depend upon what the lessee got for the coal on the open market.

He was paid a certain amount per ton.

He was required to bring the coal to the lessee's tipple.

He was required to give it to the lessee who then in turn sold it, and who was responsible for what happened on the market, whether he made money or whether he lost money.

And as a result of that, the contractor, this Court said, was not entitled to any depletion allowance.

They didn't base it on the terminability.

He had no economic interest in the coal in place, because all he was doing was getting paid for work which he performed and before he walked into that mine he knew exactly how much he was going to get for every ton of coal he pulled out, irrespective of what the lessee, Paragon, got in that case.

Now, that's the difference.

But, now, here the Government has conceded that we have a valid lease.

The Government concedes that absent this termination clause, that we had all the rights, all the privileges, all of the duties of any lessee.

In the case of Black Hawk, we had to even have a minimum royalty.

We had to pay $5,000 a year whether we mined a ton of coal or not.

Unidentified Justice: How long, in fact where each of these leases mined by the claimants?

Mr. Katz: All right, sir, in the case of Black Hawk, we mined it for 13 years, to exhaustion.

We mined every drop of coal out.

In the case of Bull Run, they mined it for 11 years, and mined every drop of coal out, to exhaustion.

It just happened that way.

In Swank, there were two leases.

One, they had to abandon after a year because they had a slide; and the other, they mined for the two years when it was transferred to someone else.

But in each of the instances that I have named, we have mined that coal through every tax year.

We think this is an important item.

The question that we have mined that coal in the tax years in issue, and that's what this case is about, were we entitled to the depletion allowance during the tax years in issue?

Well, we mined it.

Why shouldn't we get it?

It is not like Paragon where in that case two people were claiming the same depletion, the same percentage depletion.

The miner, the contract miner said, I am entitled to it on what I got paid, which is $10.

We contend that the lessee was entitled to it because he ran the risk of the market, and that he had the economic interest in the coal in place.

So, that was the difference between the two, and between what we have here and what we had in Paragon.

Unidentified Justice: And in this case your argument, as I understand it, would go so far as to say that if the lease were just a day-to-day lease terminable at will, so long as in fact the lessee stays there and mined it through a taxable year, then he's entitled to the percentage depletion?

Mr. Katz: Absolutely, yes.

Because, let me explain why, though, Your Honor.

Unidentified Justice: Well, I think you told us why.

You think--

Mr. Katz: Well, I mean, you've got to remember something about percentage depletion.

It's not a right that you get just by signing the lease, and all of a sudden you can go and take a deduction.

First of all, you've got to mine the coal.

Unidentified Justice: --That's right.

Mr. Katz: Secondly, you've got to sell it.

And, most importantly, you've got to sell it at a profit.

And if you don't combine all of those three factors, you don't get a dime's worth of percentage depletion.

Unidentified Justice: But all your mining and sales costs are deductible.

Mr. Katz: Yes.

Well, the calculation for percentage depletion tell you how to calculate it.

Unidentified Justice: No, no, all the costs are deductible.

Mr. Katz: Shown costs are deducted, yes.

Unidentified Justice: What's the justification for depleting that mineral in place?

Mr. Katz: Because the statutes say that we are entitled to it.

We get a ten percent--

Unidentified Justice: Where did percentage depletion come from?

That just didn't come off some tree somewhere.

Congress had some purpose in--

Mr. Katz: --It came this way.

At first, way back there, in the early years, in 1918 and before, we had what was called discovery depletion.

Unidentified Justice: --Then you had cost completion.

Mr. Katz: And then came the cost depletion.

Unidentified Justice: And that was very complicated.

Mr. Katz: Yes.

And now we're... then we came to percentage depletion, and the Congress just said that for coal we're going to give you ten percent.

Unidentified Justice: And the theory is... and perhaps it is just a theory, because I think the ten percent is probably a politically negotiated figure--

Mr. Katz: Yes.

Unidentified Justice: --But the theory must be then that the ordinary mine run coal mine, the asset is wasted and depleted at the end of ten years.

Mr. Katz: Well, they don't say that.

Unidentified Justice: Well, that must be the theory, isn't it?

Mr. Katz: Well, I can't say that that is the theory that it would be ten years because I don't believe it has any relation.

Unidentified Justice: What other theory could possibly support any depletion at all, or particularly a ten percent depletion?

Mr. Katz: I don't believe that the Congress--

Unidentified Justice: It's a wasting asset that's completely exhausted in ten years.

That must be the underlying proposition.

Mr. Katz: --Well, I don't believe that's correct.

Well, they'd have to say--

Unidentified Justice: Well, they have the same sorts of figures for all the minerals, don't they?

Mr. Katz: --Every mineral has a different--

Unidentified Justice: And it is a rough approximation of the rate as which some resource is being depleted?

Mr. Katz: --Well, let me say this, Your Honor--

Unidentified Justice: When they set 27 percent for oil, they didn't really think that the oil was going to be necessarily played out in three years?

Mr. Katz: --No, that's correct.

And they didn't in the case of coal, for example.

It used to be five percent.

Unidentified Justice: Well, but there's another--

Mr. Katz: It wasn't the theory that they later said, well, it ought to be ten percent because they could mine it more quickly.

I don't believe that's... I think it is just political.

Unidentified Justice: --Well, based on that theory, it would be a function of the cost invested in it.

It's not related to cost at all, it's related to sales price.

Mr. Katz: Not related to cost at all.

There's no relation.

Unidentified Justice: There's another drive, and that is to promote exploration and discovery.

Mr. Katz: Yes.

It's to promote discovery, Your Honor, and it's to reimburse the one who has to mine that coal for the capital which he expends.

I mean, this Court has said--

Unidentified Justice: In order to have any depletion allowance deduction, you must have a wasting asset.

Mr. Katz: --Yes, that's correct.

That is exactly correct.

And in this case, it's ten percent, but it's not just ten percent flat.

It's ten percent of the gross income not to exceed 50 percent of your net income after you've figured out your net income.

So that is what it is.

Contrary to what my opponent has stated here, Your Honor, we feel that the percentage depletion allowance should be given, to us.

The Government is not injured because the Congress has told us we are entitled to that depletion.

Not only that, Your Honor, if I may make this point, it doesn't make any difference whether we mine ten tons or a million tons, is this Court going to get into this debate that we have now in the Tax Court?

They have said, no; 30 days is not enough; 60 days is not enough; they have just come out with a case in which they say, well, 120 days is.

Now, is this Court going to say, well, we're going to fix a year or five years or six months, is that the job of this Court?

Why isn't the Government asking for, one, legislation, or two, to put down some regulations that we know how to follow?

And we feel that unless they do that they should not bring us into court every time they decide that they don't want to give out the depletion allowance.

We've fought it in Parsons v. Smith.

We had to fight in Paragon Jewel.

I fought it in Bakertown, to get the depletion to which we were entitled.

They did not appeal.

And I believe, Your Honors, that we are entitled to that depletion and that it should be granted.

Chief Justice Burger: Do you have anything further, Mr. Smith?

ORAL ARGUMENT BY STUART A. SMITH, ESQ., ON BEHALF OF THE PETITIONER -- REBUTTAL

Mr. Smith: I just have a couple of points.

As I understand why the GCM which has been bandied about today has been rendered obsolete, it's simply because it's been subsumed in other authorities including this Court's decisions in Parsons and in Paragon, and in the rulings which I cited today.

I don't think that this case can be decided on the basis of notions that Congress enacted the depletion deduction.

I think we can all agree on that.

I think that what we have to decide is whether these respondents have an economic interest in coal in place.

And in our view, they don't have any more than the right to stay there; and they didn't have any more than a right to stay there, more than an additional 30 days.

And in our view, that is not significant enough to have an economic interest in coal in place.

Unidentified Justice: And then, in your view, the fact that they did stay there and mine the coal until it was exhausted in two out of these three cases has nothing to do with it?

Mr. Smith: Is absolutely irrelevant.

You cannot administer the statute, in our view, on the basis of the hindsight, look-back.

Thank you.

Chief Justice Burger: Thank you, gentlemen.

The case is submitted.

The honorable court is now adjourned until tomorrow at ten o'clock.