The "percentage depletion" allowance under 611 and 613 of the Internal Revenue Code of 1954 - whereby the owner of an economic interest in a mineral deposit is allowed a special deduction from taxable income measured by a percentage of his gross income derived from exhaustion of the mineral - may not be denied to respondent lessees of underground coal who had the right to extract and sell the coal at prices fixed by them, paying a fixed royalty per ton to their lessors, merely because their leases were subject to termination by the lessor on 30 days' notice. Pp. 576-585.
STEVENS, J., delivered the opinion of the Court, in which BURGER, C. J., and BRENNAN, MARSHALL, BLACKMUN, POWELL, and REHNQUIST, JJ., joined. WHITE, J., filed a dissenting opinion, in which STEWART, J., joined, post, p. 585.
Stuart A. Smith argued the cause for the United States. With him on the briefs were Solicitor General McCree, Assistant Attorney General Ferguson, and Michael L. Paup.
LeRoy Katz argued the cause for respondents and filed a brief for respondent Black Hawk Coal Corp., Inc. Lloyd R. Persun and Howell C. Mette filed a brief for respondents Swank et al. Woodrow A. Potesta and Robert Lathrop filed a brief for respondent Bull Run Mining Co., Inc.
JUSTICE STEVENS delivered the opinion of the Court.
The owner of an economic interest in a mineral deposit is allowed a special deduction from taxable income measured by a percentage of his gross income derived from exhaustion of the mineral. This deduction, codified in 611 and 613 of the Internal Revenue Code of 1954, is designed to compensate such owners for the exhaustion of their interest in a wasting asset, the mineral in place. 1 This case presents the question [451 U.S. 571, 573] whether that "percentage depletion" allowance must be denied to otherwise eligible lessees of underground coal because their leases were subject to termination by the lessor on 30 days' notice.
This question arises out of three different tax refund suits that were decided by the Court of Claims in a single opinion. 221 Ct. Cl. 246, 602 F.2d 348. The controlling facts are essentially the same in all three cases. Each taxpayer operated a coal mine pursuant to a written lease; in exchange for a fixed royalty per ton, the lessor granted the lessee the right to extract coal and to sell it at prices determined by the lessee. Each lease contained a clause permitting the lessor to terminate the lease on 30 days' notice. In fact, however, none of the lessors exercised that right; each lessee mined a substantial tonnage of coal during an uninterrupted operation that continued for several years. The proceeds from the sale of the coal represented the only revenue from which the lessees recovered the royalties paid to the lessors.
In each of the cases, certain additional facts help to illuminate the issue. In the Black Hawk 2 case the lease was to continue "during the term commencing on the first day [451 U.S. 571, 574] of March, 1964, and terminating when LESSEE shall have exhausted all of The Feds Creek (or Clintwood) Seam of coal, . . . or until said tenancy shall be earlier terminated . . . ." App. 77a. The lease required Black Hawk to pay a royalty of 25 cents per ton of coal or $5,000 per year, whichever was larger. Id., at 77a-78a. In addition, the lease required Black Hawk to pay all taxes on the underground coal, as well as the taxes on its plant and equipment and on mined coal. Id., at 79a. Black Hawk paid independent contractors a fixed price per ton to remove the coal, and Black Hawk was free to sell the coal to any party at whatever price it could obtain. Black Hawk mined the seam to exhaustion, operating continuously under the lease for 13 years. Id., at 70a-71a. The Government stipulated that Black Hawk was the sole claimant to the percentage depletion deduction; no claim had been made by the lessor or by any independent mining contractor employed by Black Hawk. Id., at 71a.
The Swank case involves two separate leases executed by Swank and Northumberland County, Pa., pursuant to which Swank operated mines on land owned by the county. The first lease, a deep-mining lease executed in 1964, was terminated in 1968 after a mountain slide forced Swank to close the mine. Id., at 52a. The second, a strip-mining lease executed in 1966, was still being operated by Swank's successor in interest in 1977 when the case was tried. During the tax years in dispute, Swank's royalty payments to the county at the rate of 35 cents per ton amounted to $7,545.10 in 1966 and $6,854.05 in 1967. Id., at 53a. The deduction for depletion, which was based on the gross income received from the sale of the coal, was significantly larger. 3 The record also indicates that Swank invested significant sums in the construction [451 U.S. 571, 575] of access roads, the acquisition of equipment, and the purchase and improvement of a "tipple" - the surface structure that is used to remove slate and rock from the mined product and to sort the coal into specific sizes for marketing. Id., at 55a-56a.
The Bull Run 4 case involves a 5-year lease executed in 1967 and renewed in 1972. Id., at 90a-91a. Unlike the leases in the other cases, it gave the lessor a right of first purchase if it was willing to meet the lessee's price, and in the tax year in dispute the lessor did purchase all of the coal mined by Bull Run. 221 Ct. Cl., at 249, n. 4, 602 F.2d, at 350, n. 4. The lease did not, however, limit the lessee's right to set selling prices or to sell to others who were willing to pay more than the lessor. Ibid. Like the lease in Black Hawk, the lease provided for a royalty of 25 cents per ton. App. 91a. As is also true in both Black Hawk and Swank, there is no suggestion that any other party has made any claim to any part of the percentage depletion allowance at issue in this case. 5 See id., at 92a. The Bull Run lease, like the others, contained a provision giving the lessor the right to cancel on 30 days' written notice. 6 [451 U.S. 571, 576]
Since 1913 the Internal Revenue Code or its predecessors have provided special deductions for depletion of wasting assets. We have explained these deductions as resting "on the theory that the extraction of minerals gradually exhausts the capital investment in the mineral deposit," and therefore the depletion allowance permits "a recoupment of the owner's capital investment in the minerals so that when the minerals are exhausted, the owner's capital is unimpaired." Commissioner v. Southwest Exploration Co., 350 U.S. 308, 312 . 7 The percentage depletion allowance, however, is clearly more than a method of enabling the operator of a coal mine to recover the amount he has paid for the unmined coal. Because the deduction is computed as a percentage of his gross income from the mining operation and is not computed with reference to the operator's investment, it provides a special incentive for engaging in this line of business that goes well beyond a purpose of merely allowing the owner of a wasting asset to recoup the capital invested in that asset. 8 As the Court said in Southwest Exploration Co., supra:
A recognition that the percentage depletion allowance is more than merely a recovery of the cost of the unmined coal is especially significant in this case. The question here is [451 U.S. 571, 578] whether a deduction for the asset depleted by respondents will be received by anyone. 11 The tax consequences of the lessors' receipt of royalties will not be affected, either favorably [451 U.S. 571, 579] or unfavorably, by our decision in this case. 12 The Government therefore is not contending that the wrong party is claiming the percentage depletion allowance. Rather, the Government takes the position that no such deduction shall be allowed to any party if the legal interest of the lessee-operator is subject to cancellation on short notice. 13
The language of the controlling statute makes no reference to the minimum duration of the interest in mineral deposits on which a taxpayer may base his claim to percentage depletion. 14 The relevant Treasury Regulation merely requires the taxpayer to have an "economic interest" in the unmined coal. 15 That term is broadly defined by regulation as follows:
The Parsons opinion covered two consolidated cases with similar facts. In each the owner of coal-bearing land entered [451 U.S. 571, 581] into a contract with the taxpayer providing that the taxpayer would strip-mine the coal and deliver it to the owner for a fixed price per ton. Neither of the contracts purported to give the mining contractor any interest in the coal, either before or after it was mined, or any right to sell it to third parties. See 359 U.S., at 216 -219. The contracts were terminable on short notice and terminability was one of the seven factors the Court listed to support its conclusion that the independent contractors did not have an economic interest in the coal. 18 It is perfectly clear, however, that the Court would have reached the same conclusion if that factor had not been present.
The facts in the Paragon Jewel case were much like those in Parsons, except that the mining contractors dealt with [451 U.S. 571, 582] lessees instead of the owners of the underground coal. As in Parsons, the contractors agreed to mine the coal at their own expense and deliver it to Paragon's tipple at a fixed fee per ton. 19 The contractors had no control over the coal after delivery to Paragon, had no responsibility for its sale or in fixing its price, and did not even know the price at which Paragon sold the coal. 380 U.S., at 628 . The Court stated that the Commissioner took the position that
The contrast between the interest of the contractors in Parsons and Paragon Jewel and the lessees in these cases is stark. Whereas those contractors never acquired any legal interest in the coal, the lessees in these cases had a legal interest in the mineral both before and after it was mined, and were free to sell the coal at whatever price the market could bear. Indeed, the Government does not contend that, absent the termination clauses, the lessees would not have had an economic interest in the coal. In contrast, it seems clear that the contract miners' interest in the Parsons and Paragon Jewel cases would have been insufficient even if their agreements had been for a fixed term.
The Government, however, does argue that the lessors' right to terminate the leases alone made the taxpayers' interest so tenuous as to defeat a claim to the percentage depletion deduction. 22 According to the Government, as a matter [451 U.S. 571, 584] of "practical economics" an increase in the price of the minerals will "assuredly" lead to an exercise of the lessors' right to terminate; accordingly, the only significant economic interest is controlled by the lessor. We find this theoretical argument unpersuasive for at least three reasons.
First, the royalty rate is a relatively small element of the mine operator's total cost. 23 Therefore, even if the price of coal increases, the lessor cannot be certain that he will be able to negotiate a more favorable lease with another lessee. Moreover, the quantity of coal extracted by the operator each year may be as important in providing royalties for the lessor as the rate per ton. Purely as a theoretical matter, it therefore is by no means certain that an increase in the price of coal will induce a lessor to terminate a satisfactory business relationship. Indeed, the only evidence in the record - the history of three different operations that were uninterrupted for many years - tends to belie the Government's entire argument. 24
Second, from the standpoint of the taxpayer who did in fact conduct a prolonged and continuous operation, it would [451 U.S. 571, 585] seem rather unfair to deny him a tax benefit that is available to his competitors simply because he accepted a business risk - the risk of termination - that his competitors were able to avoid when they negotiated their mining leases. It is unlikely that Congress intended to limit the availability of the percentage depletion deduction to the mining operations with the greatest bargaining power.
Third, and most important, the Government has not suggested any rational basis for linking the right to a depletion deduction to the period of time that the taxpayer operates a mine. If the authorization of a special tax benefit for mining a seam of coal to exhaustion is sound policy, that policy would seem equally sound whether the entire operation is conducted by one taxpayer over a prolonged period or by a series of taxpayers operating for successive shorter periods. The Government has suggested no reason why the efficient removal of a great quantity of coal in less than 30 days should have different tax consequences than the slower removal of the same quantity over a prolonged period. 25
The Court of Claims correctly concluded that the mere existence of the lessors' unexercised right to terminate these leases did not destroy the taxpayers' economic interest in the leased mineral deposits.
The judgment is
[ Footnote 2 ] Black Hawk Coal Corp., Inc., operated drift mines in Pike County, Ky. Its refund suit covered the tax years 1970-1972.
[ Footnote 3 ] The Government states that the depletion deductions claimed by Swank in 1966 and 1967 amounted to $41,371.24 and $15,204.32. Brief for United States 3. See also App. 8a-9a. No other party claimed the depletion deduction on coal mined by Swank.
[ Footnote 4 ] Bull Run Mining Co. operated in West Virginia. In its brief, Bull Run states that the leased coal was mined to exhaustion in September 1978. Brief for Respondent Bull Run Mining Co. 2.
[ Footnote 5 ] Bull Run claimed a depletion deduction of $39,981.41 for 1974, the tax year in question. App. 92a.
[ Footnote 6 ] The relevant section of the lease provides:
[ Footnote 7 ] In Helvering v. Bankline Oil Co., 303 U.S. 362, 366 , the Court explained that the deduction "is permitted in recognition of the fact that the mineral deposits are wasting assets and is intended as compensation to the owner for the part used up in production."
[ Footnote 8 ] The Swank case is illustrative of the nature of the depletion deduction. We can determine from the fact that Swank paid royalties of $7,545.10 in 1966 and $6,854.05 in 1967 that Swank mined roughly the same amount of coal in both years, 21,557 tons in 1966 and 19,585 tons in 1967. Thus Swank could apparently claim a depletion allowance of about $1.92 per ton in 1966 and about 78 cents per ton in 1967. Inasmuch as the depletion allowance is a percentage of gross income, these figures - which suggest that the selling price of the coal may have been almost as high as $20 [451 U.S. 571, 577] a ton - indicate the lack of any specific relationship between the lessee's cost of the raw coal and the value of the depletion allowance.
[ Footnote 9 ] In the Revenue Act of 1918, the capital to be recovered through the depletion allowance was not determined by the owner's investment in the minerals but rather was measured by the fair market value of the property at the date the mineral deposits were "discovered." See Revenue Act of 1918, ch. 18, 214 (a) (10), 234 (a) (9), 40 Stat. 1068, 1078. Although this method of determining the depletion allowance was changed to the percentage depletion method for oil and gas in 1926, Revenue Act of 1926, ch. 27, 204 (c), 44 Stat. (part 2) 16, and for coal in 1932, Revenue Act of 1932, ch. 209, 114 (b) (4), 47 Stat. 203, this Court, in Helvering v. Bankline Oil Co., supra, at 366-367, recognized that "[t]he granting of an arbitrary deduction . . . of a percentage of gross income was in the interest of convenience and in no way altered the fundamental theory of the allowance." Thus since 1918 the depletion deduction has not been limited to a recoupment of the operator's investment.
[ Footnote 11 ] The Government argues that the Court of Claims erred in concluding that a consequence of the Government's position is that no one will receive the percentage depletion deduction. See 221 Ct. Cl. 246, 251, 602 F.2d 348, 351; Brief for United States 22-23. This argument is not persuasive.
Under 631 (c) of the Internal Revenue Code, the lessor is required to treat his royalty income as a capital gain and is not entitled to claim a percentage depletion deduction. Section 631 (c) provides in pertinent part:
[ Footnote 12 ] The Government conceded at oral argument that the lessor's entitlement to the capital gain treatment of the royalty proceeds would be the same regardless of whether the lessee is entitled to percentage depletion. Tr. of Oral Arg. 16. Moreover, the Government also conceded that even if the lessees had a long-term lease and were clearly entitled to the depletion allowance, the lessors would nevertheless have a retained economic interest in the coal. Id., at 16-18. Therefore, the lessors would be required by 631 (c) to take capital gains rather than a depletion deduction regardless of whether we hold that the lessee is entitled to the percentage depletion deduction.
[ Footnote 13 ] Although these cases involve provisions for cancellation on 30 days' notice, the Government advises us that it takes the same position with respect to any lease cancellable on less than one year's notice. Tr. of Oral Arg. 8. This position has its genesis in G. C. M. 26290, 1950-1 Cum. Bull. 42, declared obsolete, Rev. Rul. 70-277, 1970-1 Cum. Bull. 280. See also Rev. Rul. 74-507, 1974-2 Cum. Bull. 179.
[ Footnote 14 ] See n. 1, supra.
[ Footnote 15 ] The Court early recognized that lessees had an economic interest in the mines:
[ Footnote 16 ] Treas. Reg. 1.611-1 (b), 26 CFR 1.611-1 (b) (1980).
[ Footnote 17 ] The regulation provides an example of such an "economic advantage":
[ Footnote 18 ] The Court listed the seven factors in this paragraph:
[ Footnote 19 ] Although this fee varied depending on the general trends of the market price and labor costs, the Court noted that such changes "were always prospective, the contractors being notified several days in advance of any change so that they always knew the amount they would get for the mining of the coal upon delivery." 380 U.S., at 628 .
[ Footnote 20 ] With respect to the terminability issue, although no specific right to terminate was mentioned in the agreement, the Paragon Jewel Court concluded that because the contractors had apparently been able to terminate at will, such a power should also be imputed to Paragon. The Court indicated, however, that even if the agreements were not terminable at will, the "right to mine to exhaustion, without more, does not constitute an economic interest under Parsons." Id., at 634.
[ Footnote 21 ] Another distinguishing feature of Paragon Jewel is that that case really presented an issue respecting which taxpayer - the contract miner or the lessee - should receive the depletion allowance. See id., at 626, 630; id., at 639-649 (Goldberg, J., dissenting). The fact that the existence of a right to terminate is relevant in what is essentially a dispute between the parties to the contract surely does not support the conclusion that such an unexercised right has any bearing on the question whether any taxpayer may claim percentage depletion.
[ Footnote 22 ] "Although he has a potential right to benefit from a rise in the market, that right is illusory for practical economics will compel the lessor to terminate the lease and conclude a more favorable arrangement if market conditions so dictate." Brief for United States 19.
[ Footnote 23 ] In Swank, for example, the royalty payment was 35 cents per ton, while the price of coal apparently approached $20 per ton. See n. 8, supra.
[ Footnote 24 ] The Court of Claims opinion also recognized the weakness of this argument. The court stated that counsel for one of the taxpayers at oral argument had noted that the lessors had not terminated even though the value of coal had increased markedly. The taxpayer argued that lessors would be reluctant to terminate because "the costs of continuing with an existing mine are usually so great, comparatively, that it is difficult for a lessor to obtain new lessees at terms more favorable to the lessors than the existing leases." 221 Ct. Cl., at 251, n. 9, 602 F.2d, at 351, n. 9. The court did not accept these representations as evidence but indicated that "the record contains nothing to contradict this explanation for what seems to be the fact that leases of this type have not been regularly cancelled by lessors in recent years." Ibid.
[ Footnote 25 ] As we have indicated, the depletion deduction is geared to the depletion of the mineral in place, and not to the taxpayer's capital investment. Therefore, we can perceive no reason to impose duration requirements on the availability of the deduction for taxpayers who admittedly otherwise have an "economic interest" in the coal, are dependent on the market to recover their costs, and are actually depleting the mineral in place.
JUSTICE WHITE, with whom JUSTICE STEWART joins, dissenting.
The Court today rejects the Internal Revenue Service's interpretation of 611 and 613 and the applicable regulation because it has not "suggested any rational basis for linking [451 U.S. 571, 586] the right to a depletion deduction to the period of time that the taxpayer operates a mine." Ante, at 585. The Court suggests that depletion tax policy should be the same "whether the entire operation is conducted by one taxpayer over a prolonged period or by a series of taxpayers operating for successive shorter periods." Ibid. My disagreement with the Court's opinion is simple. It is not our function to speculate on who deserves an allowance; our duty is to determine if the Service's interpretation is a reasonable one. Since in my view the construction of the statutory provisions and the attendant regulation is clearly acceptable, I dissent.
Congress has provided for a depletion allowance in recognition of the fact that mineral deposits are wasting assets, in order to compensate "the owner for the part used up in production." Helvering v. Bankline Oil Co., 303 U.S. 362, 366 (1938). The theoretical justification for the allowance is that it will permit an owner to recoup his capital investment in the minerals as the resources are being exhausted. Commissioner v. Southwest Exploration Co., 350 U.S. 308, 312 (1956); United States v. Cannelton Sewer Pipe Co., 364 U.S. 76, 81 (1960). The fact that the manner of calculating the depletion allowance has changed and is not that closely tied to the underlying justification of recouping a party's capital investment is immaterial since the method of calculating the deduction is a matter of convenience and "in no way alter[s] the fundamental theory of the allowance." Bankline Oil, supra, at 367. In essence, therefore, any "right" to a depletion allowance under the statute is properly predicated on some indication of capital investment in the minerals in place.
From the earliest cases dealing with the statutory predecessors of 611 and 613, this Court has recognized the "capital investment" theory underlying the depletion allowance. In Palmer v. Bender, 287 U.S. 551, 557 (1933), the Court stated:
It is true, as recognized by the Court, that the statute does not specifically refer to a minimum duration of a leasehold to qualify a lessee to an allowance. But it is also true that the Service has promulgated a regulation which has fully adopted the "economic advantage-interest" distinction noted in the Court's earlier opinions:
Furthermore, although the term "economic interest" is not self-defining, the Service has the authority and the responsibility to interpret and apply the economic-interest standard contained in its own regulation. It has done so through various interpretative decisions and has concluded in the exercise of its expertise that the duration of the leasehold interest is a critical factor in determining a lessee's right to a depletion allowance under the statute. 1 A coal mining company's interest [451 U.S. 571, 589] in the coal lands may run from a straightforward fee simple ownership to a variety of lesser interests down to a nonexclusive right to extract coal as a tenant at will. The Service is of the view that a taxpayer operating pursuant to a lease must be assured of a right to continue mining for a reasonably long period of time. Accordingly, the Service believes that a lease which is revocable on short notice does not create a sufficient economic interest to justify the taking of a depletion allowance.
The Service's interpretation of its own regulation is entitled to deference. See Ford Motor Credit Co. v. Milhollin, 444 U.S. 555, 566 (1980) ("[a]n agency's construction of its own regulations has been regarded as especially due [considerable respect]"); Bowles v. Seminole Rock & Sand Co., 325 U.S. 410, 413 -414 (1945) (courts must look to "administrative construction of the regulation if the meaning of the words used is in doubt" and give it "controlling weight unless it is plainly erroneous or inconsistent with the regulation"). See also Fribourg Navigation Co. v. Commissioner, 383 U.S. 272, 300 (1966) (WHITE, J., dissenting) (given that Congress gave to "the Secretary of the Treasury or his delegate, not to this Court, the primary responsibility of determining what constitutes a `reasonable' allowance for depreciation," courts should affirm the Commissioner's position [451 U.S. 571, 590] when he "adopts a rational position that is consistent with the purpose behind the depreciation deduction, congressional intent, and the language of the statute and interpretative Treasury Regulations"). Of course, Revenue Rulings and other interpretative documents do not have the same force as Treasury Regulations. But this fact does not mean that the consistent interpretation of the Service may be disregarded because the Court feels another interpretation is more reasonable, especially in cases like the present where the interpretation involves the application of terms expressly used in the regulation. Indeed, in National Muffler Dealers Assn. v. United States, 440 U.S. 472 (1979), the Court afforded substantial deference to the Service's interpretation of a phrase in a regulation. Under the relevant regulation, certain tax advantages were made dependent on whether a particular activity was in a "line of business." Like the "economic interest" concept involved in this case, the meaning of "line of business" was open to different interpretations. The Commissioner, as expressed in a variety of Revenue Rulings, see id., at 483-484, had defined "line of business" in a narrow fashion. The Court upheld the administrative interpretation of the "line of business" concept, and stated:
The Service's concern with the nature of the underlying lease in determining whether an economic interest exists is also reasonable in light of our prior cases. In this regard, Parsons v. Smith, 359 U.S. 215 (1959), and Paragon Jewel Coal Co. v. Commissioner, 380 U.S. 624 (1965), provide two examples suggesting that the duration of a leasehold interest is an important factor in determining whether an economic interest exists. In Parsons, the Court noted that the interest asserted by the mining contractors rested entirely on the contracts. The Court found that the mining contracts did not entitle them to a depletion allowance since the contracts "were completely terminable without cause on short notice." 359 U.S., at 224 . In Paragon Jewel, a lessee made agreements with various companies to mine the coal. The agreements were silent regarding termination and were apparently for an indefinite period. The contractors were under no obligation to mine any specific amount of coal and were not given the right to mine any area to exhaustion. The Court held that the mining companies had no right to receive a depletion allowance.
None of the reasons forwarded by the Court for rejecting the Service's view is persuasive. The fact that respondents did in fact mine to exhaustion is irrelevant to a determination of the legal rights underlying the leasehold. Indeed, the right to mine to exhaustion, without anything more, "does not constitute an economic interest under Parsons, but is `a mere economic advantage derived from production, through a contractual relation to the owner, by one who has no capital investment in the mineral deposit.'" Paragon Jewel, supra, at 634-635 (quoting Bankline Oil, 303 U.S., at 367 ). Both Paragon Jewel and Parsons also make clear that the fact of coal mining itself, regardless how great the cost of [451 U.S. 571, 593] the equipment or structures required to mine the coal, is irrelevant to the determination whether a mining company is entitled to a depletion allowance. The costs of mining, like the costs of doing any business, are deductible as business expenses or are depreciable expenses under other parts of the Code, and do not themselves serve to create an economic interest in the minerals in place. Paragon Jewel, supra, at 630-631; Parsons, supra, at 224-225. 3
In essence, the Court argues that because respondents own the coal and sell it on the open market, they must have an interest in the mineral in place. Accordingly, so the argument goes, they are entitled to a depletion allowance because [451 U.S. 571, 594] they were "at risk" with respect to the market. To be sure, neither Parsons nor Paragon Jewel involved a situation where the mining concern sold in the open market. But obviously, if the relationship to the market was the sole factor of importance, then the opinions in those two cases could have been drastically simplified. The Court could have stated that the marketing system, in and of itself, was such as to preclude the taking of the depletion allowance. This the Court did not do, and I find it peculiar that the Court today chooses to rewrite those cases in light of what it determines to be the more important factor. Indeed, the Court's focus on the marketing scheme for determining whether a depletion allowance should be permitted is far less sensible than the Service's duration-of-the-lease requirement. Market conditions may change, and drastic changes could predictably result in the leases being cancelled. A company with an assured right to mine the coal for a term is not at the mercy of the lessor. Respondents had no such right and their reliance on the market for economic return on their investment is therefore illusory since it is dependent on the lessor's willingness to permit continued extraction of the coal. The fact that in these particular cases this did not happen is beside the point. What matters is that respondents had absolutely no legal right to mine coal beyond the 30-day period provided in the leases. In this light, the Service was well within bounds in concluding that they had not demonstrated an economic interest in the mineral in place.
Of course, the question of what constitutes an economic interest is susceptible to differing interpretations. A 1-day lease would clearly not give the mining company any reasonable expectation of economic interest in the minerals in place. Perhaps equally clear is the fact that such an economic interest would be created by a long-term lease where the lessee has a guaranteed right to mine an area to exhaustion. In the grey area in between, reasonable minds could differ on the nature of the interests possessed. In my mind, the Service [451 U.S. 571, 595] has reasonably interpreted the acknowledged and accepted distinction between economic interest and economic advantage by focusing on the duration of the leasehold interest. In applying the economic-interest requirement, the Service has reasonably insisted upon some enforceable expectation of continuity in mining rights. It may well be that the Service could have concluded otherwise in the present cases. The point, however, is that the Service believes that a lease which is terminable on 30 days' notice without cause is not long enough to create an economic interest. Because I believe that the Service's long-held view, accepted by most lower courts, can hardly be considered to be irrational, I dissent from the Court's opinion which is nothing more than a substitution of what it deems meet and proper for the wholly reasonable views of the Internal Revenue Service as to the meaning of its own regulation and of the statutory provisions. It is also plain enough to see that with the owner recovering his investment tax-free, allowing depletion to these respondents with no more than an ephemeral interest in the coal is precisely the kind of an unjustified deduction, an undeserved windfall, that we should not require contrary to the informed views of the Service.
[ Footnote 1 ] The position of the Service is that in order for a leaseholder to qualify as possessing an economic interest in the mineral deposit, the leaseholder's "right to extract must be of sufficient duration to allow it to remove a substantial amount of the mineral deposit to which it would look for a [451 U.S. 571, 589] return of its capital." Rev. Rul. 74-506, 1974-2 Cum. Bull. 178-179 (6 month lease where it was anticipated that the period was sufficient to exhaust a mineral deposit did provide a sufficient economic interest). See Rev. Rul. 77-341, 1977-2 Cum. Bull. 204-205. The Service has also indicated that a 1-year lease which was renewable unless terminated for cause was sufficient for a coal mining lessee to acquire an economic interest for the purposes of obtaining a depletion allowance under 613 of the Code. See Rev. Rul. 74-507, 1974-2 Cum. Bull. 179. See also G. C. M. 26290, 1950-1 Cum. Bull. 42. Thus, contrary to the Court's view, the Service has not focused on the duration of the lease as the only relevant factor. Marketing schemes and other indicia of economic ownership are also relevant in the determination.
[ Footnote 2 ] See, e. g., Whitmer v. Commissioner, 443 F.2d 170, 173 (CA3 1971) (right of lessor to terminate at will "would appear to be fatal to a lessee's ability to claim the depletion deduction, because no right to extract until exhaustion of the coal has been granted"); McCall v. Commissioner, 312 F.2d 699, 705 (CA4 1963) ("[w]here the contract is terminable at will, at least by the owner or long-term lessee, that feature is the determining feature"); United States v. Stallard, 273 F.2d 847, 851 (CA4 1959) (the most important factor "is whether the producer has the right under the contract to exhaust the deposit to completion or is subject in this respect to the will of the owner through a provision in the agreement empowering the owner to terminate the contract at will"); Weaver v. Commissioner, 72 T. C. 594, 606 (1979) ("a miner who can be ousted immediately or on nominal notice from a mineral deposit at any time without cause is not really an owner of any economic interest in the deposit"); Mullins v. Commissioner, 48 T. C. 571, 583 (1967) (courts have repeatedly held that "the right to mine to exhaustion or for a specific period is the critical factor in determining whether a lessee has obtained a depletable economic interest in the mineral in place"); Bolling v. Commissioner, 37 T. C. 754 (1962). See also Costantino v. Commissioner, 445 F.2d 405, 409 (CA3 1971); Commissioner v. Mammoth Coal Co., 229 F.2d 535 (CA3 1956); Usibelli v. Commissioner, 229 F.2d 539 (CA9 1955); Holbrook v. Commissioner, 65 T. C. 415, 418-421 (1975).
To be sure there is authority to the contrary. See Winters Coal Co. v. Commissioner, 496 F.2d 995 (CA5 1974); Bakertown Coal Co. v. United States, 202 Ct. Cl. 842, 485 F.2d 633 (1973). The decision in Winters Coal is obscure because two members of the Fifth Circuit panel held that an economic interest existed for the reason that the taxpayer had purchased surface access rights which were necessary to mine the coal, and given this investment, a depletion allowance was justified. See Commissioner v. [451 U.S. 571, 592] Southwest Exploration Co., 350 U.S. 308 (1956). The Service indicated that it would not follow Bakertown Coal because, in its view, the terminability of a lease was "fatal to a claim of an economic interest . . . ." Rev. Rul. 77-481, 1977-2 Cum. Bull. 205-206.
[ Footnote 3 ] Nor is it of any consequence that the owners of the land may not be able to take advantage of the percentage allowance provided by 611 and 613 even if the lessees are held not to be entitled to it. Under the Code, the owners are entitled to another favorable tax treatment permitting them to consider royalty payments as capital gains. See 26 U.S.C. 631 (c) (1976 ed., Supp. III). The tax treatment under 631 (c) serves the same function as the depletion allowance at issue in this case since the amount which the owner considers as capital gain takes into account his adjusted depletion basis in the coal extracted during the year. Thus, the owner is taxed under the favorable capital gain method only on the difference between the amount realized less the adjusted depletion basis, which is the pro rata cost to the taxpayer of the coal extracted. It is clear, therefore, that 631 (c) permits the owner to recoup his capital investment without impairment under a method substantially akin to cost depletion. It is specious, therefore, to argue that respondents are entitled to a depletion allowance because the owners are denied one since the owners in fact receive a benefit similar to a depletion allowance.
In any event, even if the owners were denied a depletion allowance, this fact would be immaterial. Tax benefits are not entitlements, and it has been specifically noted that the provision of a depletion allowance is solely a matter of legislative grace. Paragon Jewel, 380 U.S., at 631 ; Parsons, 359 U.S., at 219 ; Bankline Oil, 303 U.S., at 366 ; Anderson v. Helvering, 310 U.S. 404, 408 (1940); Commissioner v. Southwest Exploration Co., supra, at 312. The only relevant question is whether under the present law respondents qualify under the statute in their own right, and not with respect to the independent tax treatment of the lessors. [451 U.S. 571, 596]