Reinecke v. Spalding/Opinion of the Court
The respondent owns a one-sixth interest in several leases executed 1901, 1902, 1903, and 1905, which authorize the lessee to take iron ore from certain Minnesota lands for 25, 45 and 50 years from their respective dates. These leases require payments quarterly of 25 cents royalty per ton upon all ore extracted; provide for minimum annual production and termination under specified circumstances.

During the year 1917 she received out of such royalties $260,072.30; during 1918, $219,940.43. For 1917 she was allowed $99,561.20 as depletion; for 1918, $84,979.55. Income tax was assessed against her upon the balances and payment exacted. Thereafter she unsuccessfully claimed refunds because the sums allowed for depletion were insufficient. The present suit followed.

The Revenue Act of 1918, c. 18, 40 Stat. 1057, 1066, 1067 (approved February 24, 1919), provides:

'Sec. 214. (a) That in computing net income there shall be      allowed as deductions:

'(10) In the case of mines, oil and gas wells, other natural      deposits, and timber, a reasonable allowance for depletion      and for depreciation of improvements, according to the      peculiar conditions in each case, based upon cost including      cost of development not otherwise deducted: Provided: That in      the case of such properties acquired prior to March 1, 1913,      the fair market value of the property (or the taxpayer's      interest therein) on that date shall be taken in lieu of cost      up to that date: Provided further, That in the case of mines,      oil and gas wells, discovered by the taxpayer, on or after      March 1, 1913, and not acquired as the result of purchase of      a proven tract or lease, where the fair market value of the      property is materially disproportionate to the cost, the      depletion allowance shall be based upon the fair market value      of the property at the date of the discovery, or within      thirty days thereafter; such reasonable allowance in all the      above cases to be made under rules and regulations to be      prescribed by the Commissioner with the approval of the      Secretary. In the case of leases the deductions allowed by      this paragraph shall be equitably apportioned between the      lessor and lessee.'

Section 5, Revenue Act for 1916, c. 463, 39 Stat. 756, 759, is in the margin.  Neither party suggests that this differs from the corresponding provision in the act of 1918, supra, in any way here material.

In her claim presented to the tax officer for refund of overpayment for 1917 respondent said:

'Tax as assessed is based upon income received from royalties      from iron ore mines. Depletion amounting to $99,561.20 was      allowed to taxpayer, whereas depletion amounting to      $203,510.86 should be allowed. The latter amount is the      present worth of the ore mined in 1917, as of March 1, 1913,      and is arrived at by discounting the amount received in 1917      at 5% of March 1, 1913.'

A like statement appears in her claim concerning overpayment for 1918.

The declaration has two counts. The first, relating to payments for 1917, alleges:

'That the value or market price of said ore in the ground      untouched and unextracted on March 1, 1913, and on all dates      subsequent thereto, exceeded the sum of twenty-five cents per      ton, so that every ton of ore paid for under said leases in      the year 1917 was disposed of at a price actually less than      market prices of the ore, and if then sold free of said      lease, would have realized more than twenty-five cents per      ton. The actual depletion of the mines by each ton of ore extracted was more than      twenty-five cents when extracted.

'That under the terms of the law the depletion for ore      extracted or considered to be extracted was fixed at the      market value of the ore in place in the mine at the time and      place of extraction, but if such depletion allowance per ton      exceeded the amount fixed as the royalty per ton in the      lease, the depletion allowance to the plaintiff could not      exceed such royalty, but since the royalty when paid included      an amount of interest of the payment considered as deferred      from March 1, 1913, to the date of actual payment of royalty      and the allowance of such depletion in successive years could      never exceed the market value of the ore in the mine on March      1, 1913.

'That each payment for ore extracted consisted of two parts,      one of which was interest on the deferred payment and the      other of which was the actual present worth to the payment      deferred from March 1, 1913. Said actual present worth is      accurately represented for each ton by that sum which put at      interest on March 1, 1913, would produce at the date of      payment for ore the royalty paid per ton; to put it in      another way, the actual present worth of the ore extracted is      accurately ascertained by taking from the royalty per ton      paid, the part of the royalty, when and as paid, which      represented interest on the deferred payment from March 1,      1913.

'That such an allowance of depletion in successive years and      in the year 1917 did not and could not exceed the market      value of such ore on March 1, 1913.

'That if of each payment for each ton of ore extracted, the      amount of such payment which represents interest on the      payment as deferred and actually paid, be figured, the income      of the owner will be accurately determined as that part of the twenty-five cents, which      represents interest.

'That for the year 1917 a correct calculation under the rule      above shows that upon the tons of ore extracted and paid for      on January 14, 1917, of the payment of 25¢ per ton $0.2095      was for selling price or principal and $0.0405 was interest      on the deferred payments and that on the 330,507 tons      extracted the plaintiff was entitled to depletion of      $69,251.05; that upon the ore paid for on April 10, 1917,      $0.2074 was for selling price or principal and $0.0426 was      interest on the deferred payments and that on the 48,958 tons      extracted the plaintiff was entitled to depletion of      $10,153.29; that on the ore paid for on July 10, 1917,      $0.2053 was for selling price or principal and $0.0447 was      interest on the deferred payments and that on the 231,090      tons extracted plaintiff was entitled to depletion of      $47,434.55; that upon the ore paid for on October 10, 1917,      $0.2032 was for selling price or principal and $0.460 was      interest on the deferred payments and that on the 432,120      tons extracted the plaintiff was entitled to depletion of      $87,791.42; that plaintiff is entitled to depletion amounting      for the years 1917 to $214,630.31.'

Count 2 contains similar allegations concerning

Count 2 contains similar allegations concerning

In the trial court, after requests by both sides for directed verdict, the respondent had judgment and this was affirmed by the Circuit Court of Appeals. 30 F.(2d) 369.

'The sole controversy is over the correctness of the      government's method of arriving at the value of the iron ore      in the ground on March 1, 1913, a matter not covered by the      revenue acts in question, nor by any regulation of the      Treasury Department.'

This does not accurately state our understanding of the issue. It was necessary for the taxpayer to show the illegality of the exactions. 'The burden of establishing that fact rested upon it, in order to show that it was entitled to the deduction which the Commissioner had disallowed, and that the additional tax was to that extent illegally assessed.' Botany Mills v. United States, 278 U.S. 282, 289, 290, 49 S.C.t. 129, 132, 73 L. Ed. 379; United States v. Anderson, 269 U.S. 422, 443, 46 S.C.t. 131, 70 L. Ed. 347. The real point is whether respondent established her claim for refund by adequate evidence And we think she did not.

On March 1, 1913, she was lessor of mines from which the lessee had the right to extract ore during many years, paying therefor when taken out 25 cents per ton. Her rights were merely to receive the royalties stipulated and to regain possession when the leases terminated. Manifestly, the fair market value of this interest in 1913 was much less than 25 cents per ton of the estimated contents of the mines, but respondent introduced no evidence which tended to show such value. The suggestion that market value per ton on March 1, 1913, was equivalent to the sum which, if then put at simple interest, would have amounted to 25 cents when the ore was actually out and the stipulated royalty became payable, cannot be accepted. This method of estimation would decrease the 1913 market value with the passing of every year. Moreover, it disregards the fact that respondent's interest was in the mines considered as entireties and not in particular parts of ore beds which the lessee had agreed to remove during designated future years.

Under the statute it became necessary for respondent to establish the fair market value of her interest in the mines on March 1, 1913, or at least that such value was not below what she claimed it was. Otherwise she could not recover. She introduced three witnesses who testified as to ore values. No one of them gave an estimate of the value of her interest at that time. Replying to the question, 'You do not mean to testify that Mrs. Spalding's interest in that ton of ore as of March 1, 1913, or at any other time, was worth 25 cents or any other sum?' one of them said: 'That question is based upon Mrs. Spalding's one-sixth ownership of a lease at 25 cents per ton. That question is an entirely different one from the one asked me by Mr. Zane. It would require a good deal of calculation and certain assumptions as to how fast that ore would be shipped. Then it would require discounting against those assumptions to present value. That calculation would take time, and I can not answer that without working it out.' The other two gave no estimate of such value.

The judgment of the court below must be reversed. The cause will be remanded to the District Court for further proceedings in conformity with this opinion.

Mr Justice BUTLER took no part in the consideration or decision of this cause. 

Notes

(b) For the purpose of the tax there shall be allowed as deductions-

Eighth. (a) In the case of oil and gas wells a reasonable allowance for actual reduction in flow and production to be ascertained not by the flush flow, but by the settled production or regular flow; (b) in the case of mines a reasonable allowance for depletion thereof not to exceed the market value in the mine of the product thereof, which has been mined and sold during the year for which the return and computation are made, such reasonable allowance to be made in the case of both (a) and (b) under rules and rugulations to be prescribed by the Secretary of the Treasury: Provided, That when the allowances authorized in (a) and (b) shall equal the capital originally invested, or in case of purchase made prior to March first, nineteen hundred and thriteen, the fair market value as of that date, no further allowance shall be made. No deduction shall be allowed for any amount paid out of new buildings, permanent improvements, or betterments, made to increase the value of any property or estate, and no deduction shall be made for any amount of expense of restoring property or making good the exhaustion thereof for which an allowance is or has been made.'