Opinion
Docket No. 78812.
1961-03-28
SAMUEL L. GREEN AND ELLA GREEN, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Samuel L. Green, pro se. David E. Crabtree, Esq., for the respondent.
Amounts received by petitioners from two road construction contractors for soil extracted and removed from their property is taxable as ordinary income and not as long-term capital gain. The contracts under review did not effect a sale of the soil in place; such soil was in fact sold from time to time pursuant to the contracts as it was extracted from petitioners' land. Samuel L. Green, pro se. David E. Crabtree, Esq., for the respondent.
Respondent determined deficiencies in the income tax of petitioners in the amounts of $2,802.91 for the year 1955 and $1,890.35 for the year 1956.
The sole issue for decision is whether payments received by petitioners from two contractors for soil extracted and removed from their property were taxable as ordinary income or as long-term capital gains.
FINDINGS OF FACT.
Most of the facts are stipulated, and, as stipulated, they are incorporated herein by reference.
Petitioners, husband and wife, are residents of Philadelphia, Pennsylvania. They filed joint income tax returns for the years 1955 and 1956 with the district director of internal revenue at Philadelphia.
In September 1946 petitioners purchased at a tax foreclosure auction a tract containing approximately 160.247 acres in the Borough of Bellmawr, Camden County, New Jersey. During the years 1947, 1948, and 1949 they received rent from two local residents who were permitted to farm portions of this tract.
Petitioners caused to be prepared certain surveys and a subdivision plan for a housing project upon a major portion of the tract, comprising approximately 138 to 140 acres to the west of a deep gully or ravine which extended across the tract from the northern to the southern boundary. This subdivision plan was presented to and approved by the mayor and Council of the Borough of Bellmawr in April of 1948. Included in the survey was a topographic survey indicating the elevations and topography of the land. Because of delays in the installation of public sanitary sewers, sale of the land to homebuilders was delayed.
During 1950, petitioners were informed by the New Jersey Turnpike Commission of its plans to cut across petitioners' property for its right-of-way. After negotiations, petitioners sold 58.747 acres to the Commission, retaining 101.5 acres of the original tract.
The sale of the 58.747 acres to the Commission required a modification of the subdivision plan previously approved. A revised housing subdivision plan, including a plan of street grades, was presented to and approved by the mayor and Council of the Borough of Bellmawr in February 1951.
In February 1954, petitioners acquired from the Borough of Bellmawr two additional lots comprising approximately 3 acres which were contiguous with and lay between the easternmost boundary line of the original 160.247-acre tract and the right-of-way of the Grenlock Branch of the Pennsylvania-Reading Seashore Lines, which is used primarily as a freight line. The contract of sale provided, in part, as follows:
This tract is being sold to provide railroad and transportation access to Plate 18, Block 173, Lot 2 of the Borough Tax Map and industrial or commercial use and for no other purpose, and in case of breach of these covenants, said premises shall immediately revert to the grantors, and the grantee shall forfeit all right, title and interest in and to said premises.
In February 1955 the mayor and Council of the Borough of Bellmawr adopted a zoning ordinance in which the entire 160.247-acre tract was zoned ‘Heavy Industrial,‘ prohibiting the construction of residential dwellings. At the public hearing held prior to passage of the zoning ordinance, petitioners protested the prohibition of residential use of the tract. The borough council, in zoning the entire tract as ‘Heavy Industrial,‘ contemplated bringing in a railroad spur to service the area.
The elevation of the tracks of the Pennsylvania-Reading Seashore Lines at the point where a spur could be established to serve petitioners' tract is approximately 31 feet above sea level. The elevation of the petitioners' tract at the approximate point of entrance of the spur across the gully or ravine to the larger area to the west of the ravine was approximately 45 feet above sea level. The elevations of the tract as a whole varied from 8 to 30 feet above the elevation of the railroad line from which the tract was to be served.
In the early part of 1955, bids were being sought in connection with the construction of the Walt Whitman Bridge and the approaches to the bridge on the New Jersey side; and various contractors who intended to submit bids inquired of petitioners whether they had any surplus dirt which could be used in connection with the proposed contract. Petitioners told them that they had surplus dirt and would be willing to make arrangements for the contractors ‘to get some of it’ if they were awarded the contract. George M. Brewster and Son, Inc., was one of these contractors.
Under date of September 2, 1955, petitioners as ‘owners' and George M. Brewster and Son, Inc., as ‘Contractor’ entered into a ‘Contract of sale of the right to remove soil and/or subsoil.’ This contract provided, in part, as follows:
WHEREAS the grades and elevations of the above property are such that there is a surplus of soil and/or sub-soil that may be removed from the said property, and
WHEREAS the Contractor desires to purchase the right to remove a portion of the said surplus soil and/or subsoil,
NOW THEREFORE it is agreed between the parties hereto as follows:
1. The Owners agree to sell and the Contract agrees to buy the right to remove approximately four hundred thousand (400,000) cubic yards (more or less) of soil and/or sub-soil from the property.
2. The Contractor is to comply with all requirements and conditions of the Soil Removal Ordnance (sic) of the Borough of Bellmawr, and to furnish the Borough with a Surety Bond in the sum of Ten Thousand Dollars ($10,000) conditioned for the faithful fulfillment of the said requirements and conditions.
4. The top soil is to remain the property of the Owners, but is to be stripped by the Contractor and stockpiled on the east and west sides on ground from which sub-soil shall have already been removed to grade, and approximately ten to fifteen feet away from the bottom of the slopes to the ground from which soil and/or sub-soil will not be removed.
6. The Contractor shall not be required to excavate below three feet above the water table.
7. Ingress and egress to and from the property of the Owners in order to perform the removal operations are herewith granted to the Contractor for the duration of the job of such removal which shall not run later than May 1, 1956.
9. The final determination of the quantities of soil and/or sub-soil removed shall be made by the cross section method and shall be determined by agreement between the engineers of the Contractor and the Owners.
10. The consideration to be paid to the Owners by the Contractor for the right to remove the soil and/or sub-soil hereinabove mentioned from the property of the Owners shall be ten cents per cubic yard of soil and/or sub-soil removed, said soil to become property of the Contractor.
11. Periodic payments are to be made to the Owners on the twenty-fifth day of each month for the approximate quantities removed, as determined by truck count, and, if required by the Owners, by cross section check. Final payment shall be made on the basis of the determination to be made by the cross section method, as stated in paragraph 9.
Under date of July 26, 1956, petitioners and Gaskill Construction Co., Inc., entered into a ‘Contract of sale of the right to remove soil and/or sub-soil.’ The provisions of this contract were substantially the same as those in the September 2, 1955, contract with Brewster except that the amount of soil or subsoil to be removed was approximately 100,000 cubic yards, the work of excavation was to start on petitioners' property where Brewster stopped and continue in the direction indicated in the contract, and removal operations were to end not later than December 31, 1956. The contract of July 26, 1956, was extended and amended by an agreement dated November 15, 1957; by a supplemental agreement dated May 12, 1958; and by an addition to the supplemental agreement dated February 25, 1959.
George M. Brewster and Son, Inc., removed 260,163 cubic yards of soil from petitioners' property during the year 1955 and in accordance with the provisions of the September 2, 1955, contract paid petitioners the amount of $26,016.30 during that year. During 1956 Brewster removed 151,468 cubic yards of soil from petitioners' property and paid petitioners the amount of $15,146.80 during that year.
Gaskill Construction Company, Inc., removed 8,640 cubic yards of soil from petitioners' property during the year 1956 and in accordance with the provisions of the July 26, 1956, contract paid petitioners the amount of $864 during that year.
As a result of the removal of surplus dirt and the grading of petitioners' land, some of which was completed during the years 1955 and 1956 and the remainder during the years 1957, 1958, and 1959, the value of their property was considerably enhanced. The purchase price of the original tract which was acquired in September 1946, was $8,435, or approximately $47 per acre. The cost of the two lots adjacent to the railroad, containing approximately 3 acres, acquired on February 25, 1954, from the Borough of Bellmawr, was $250, or somewhat over $80 per acre. On March 4, 1954, petitioners purchased an additional contiguous piece of land comprising 12.38 acres for $5,200, or approximately $423 per acre; and on August 9, 1954, they acquired a corner lot measuring 150 feet by 200 feet for $1,500. On December 16, 1959, petitioners sold the entire tract consisting of the foregoing parcels, less the 58.747 acres previously sold to the New Jersey Turnpike Commission in 1950, for $495,000, or approximately $4,000 per acre.
Petitioners were not engaged in the business of buying and selling real estate for their own account. Except for their transactions with George M. Brewster and Son, Inc., and Gaskill Construction Co., Inc., they never engaged in any transactions involving the excavation, removal, or sale of fill dirt from their property.
In petitioners' income tax returns for the years 1955 and 1956 they treated the amounts received from George M. Brewster and Son, Inc., and Gaskill Construction Company in those years as long-term capital gains. Respondent determined that these amounts constituted ordinary income.
OPINION.
RAUM, Judge:
The question before us has become a familiar one. Whether the profit realized by a landowner with respect to the removal and sale of dirt, sand, gravel, or any mineral deposit on or in his property may properly be classified as capita gain or ordinary income has been dealt with in a number of cases reaching a variety of results. E.G., Otis A. Kittle, 21 T.C. 79, affirmed 229 F.2d 313 (C.A. 9); Battjes v. United States, 172 F.2d 1 (C.A. 6); Albritton v. Commissioner, 248 F.2d 49 (C.A. 5), affirming in part 24 T.C. 903; Crowell Land & Mineral Corp. v. Commissioner, 242 F.2d 864 (C.A. 5), reversing 25 T.C. 223; Barker v. Commissioner, 250 F.2d 195 (C.A. 2), reversing 24 T.C. 1160; Gowans v. Commissioner, 246 F.2d 448 (C.A. 9), reversing a Memorandum Opinion of this Court; Maude W. Olinger, 27 T.C. 93; Robert M. Dann, 30 T.C. 499; Charles A. Linehan, 35 T.C. 533; Griffith v. United States, 180 F.Supp. 454 (D. Wyo.); Sanders v. United States, . . . F.Supp. . . . (E.D.S.C., Aug. 8, 1960); Pacific Rock & Gravel Co. v. United States, (S.D. Cal., Apr. 16, 1959) 3 A.F.T.R.2d 1464, 59-1 U.S.T.C.par. 9448; Bel v. United States, 160 F.Supp. 360 (W.D. La.). Although the decisions in some of these cases may appear to be in conflict with one another, we think that, when carefully read, they actually apply the same rule, and it is merely the difference in views with respect to comparatively similar factual situations in the application of that rule that is responsible for the difficulty in attempting to reconcile the cases.
The rule seems to be that where there is in fact a sale of the material ‘in place,‘ the owner has sold part of his real estate and any profit realized thereby is therefore not disqualified from being regarded as capital gain by reason of the form of the transaction. See, e.g., Robert M. Dann, supra at 504, 505 (‘in place’); Barker v. Commissioner, supra at 196, 197 (‘in place’); cf. Crowell Land & Mineral Corp. v. Commissioner, supra at 866;
Gowans v. Commissioner, supra at 450, 451, 452.
The Court in the Crowell case stressed the fact that the instrument there considered undertook to ‘convey the entire interest of Crowell for a price to be determined as fixed in it and to be paid in cash in installments.’ 242 F.2d at 866.
On the other hand, where the owner does not part with his entire interest in the deposits until removed or where he does not sell part of his property ‘in place,‘ but in effect merely enters into a lease for the exploitation of his land reserving a royalty with respect to the materials extracted or otherwise merely makes arrangements with a contractor to sell the materials at a unit price from time to time as they are extracted and removed from the property, the transaction has not been considered as a sale of a portion of the land entitling the owner to the benefit of the capital gains provisions. See e.g., Charles A. Linehan, supra at 544, 545, 546, (‘in place’); cf. Albritton v. Commissioner, supra at 51.
In the Gowans case the court said (at 450-451):‘In a series of decisions beginning with Palmer v. Bender, 287 U.S. 551, * * * the principle has been developed that an arrangement involving the extraction and removal of natural deposits from the land of another is to be deemed a ‘sale’ only if, at the time such arrangement is entered into, the owner has alienated all interest therein. Stated conversely, if an economic interest in the deposits has been retained, the transaction is not to be regarded as a ‘sale’ for tax purposes. In that event, the proceeds of the transaction are to be reported as regular income, subject, under certain conditions, to the deduction of a percentage depreciation allowance.‘An economic interest has been retained where the owner has: (1) acquired, by investment, any interest in the natural deposit in place; and (2) secured by any legal relationship income derived from the extraction of the natural deposit to which he must look for a return of his capital. Commissioner of Internal Revenue v. Southwest Exploration Co., 350 U.S. 308 * * * ’
As we view the problem before us, it is to determine on this record whether there has been a sale of the dirt ‘in place.’ In other words, did petitioners in fact make ‘a complete and immediate conveyance of all of * * * (their) interest in the property involved, i.e., (soil deposits) * * * for a substantial cash payment not dependent upon or related to the successful exploitation of the property by the grantee’? Maude W. Olinger, supra at 98.
The master contracts with Brewster and Gaskill merely established the terms and conditions upon which petitioners undertook to sell dirt as the contractors removed it from petitioners' land. The contracts themselves did not effect any such sale. Until the dirt was removed from the property it belong to petitioners, and the payments received by petitioners were based upon the amount of soil extracted from the land. A moment's reflection will disclose the unsoundness of the position that the contracts themselves constituted a sale of the soil in place. Had either of the contractors gone into bankruptcy prior to removal of all the soil permitted under the contracts, could there be any doubt that the remaining soil would not have been an asset of the bankrupt? Plainly, the contracts in this case did not result in petitioners' parting with all interest in the soil prior to removal. They continued to own that soil until it was bought by the contractors, truckload by truckload, in accordance with the master contracts. The situation before us is similar to the one recently considered in Charles A. Linehan, 35 T.C. 533.
If petitioners themselves had extracted soil from their land and sold it from time to time, there could be no serious dispute that the profit realized would be ordinary income rather than capital gain. The nature of that income is not altered by the fact that they permitted the vendee-contractors to go on their land and do the extracting. The true test is whether the contract itself resulted in a conveyance of the deposits ‘in place’ so that the owner no longer retained any interest in such deposits.
In Griffith v. United States, 180 F.Supp. 454 (D. Wyo.), the court said (at 458):‘In a long line of decisions beginning with Palmer v. Bender, 287 U.S. 551 * * * , the underlying principles governing the income tax consequences involving natural deposits have been set forth by the Supreme Court; Anderson v. Helvering, 310 U.S. 404 * * * ; Burton-Sutton Oil Co., Inc. v. Commissioner, 328 U.S. 25 * * * ; Commissioner of Internal Revenue v. Southwest Exploration Co., 350 U.S. 308 * * * . Under these decisions notwithstanding the terminology of the contract the transaction is to be considered a sale if the consideration is payable to the grantor without respect to the production and sale of the mineral. On the other hand, regardless of the wording of the contract, where the consideration payable to the grantor depends solely upon the extraction and sale of mineral, the owner is said to retain an economic interest and therefore his proceeds from the transaction are to be reported as regular income, subject under certain conditions to a deduction of a percentage depreciation allowance.’
Petitioners place much reliance upon Gowans v. Commissioner, 246 F.2d 448, supra, arguing that their predominant purpose in entering into the contracts was to grade the portions of the land involved for ultimate use as industrial land, and not for the exploitation of the soil deposits. It is difficult to see why one purpose rather than another should be of any consequence in relation to the issue before us, since the question is whether petitioner in fact sold the soil deposits ‘in place’, and the answer to that question should not turn upon the motive that prompted them to enter into the transactions under review. Nevertheless, even if such motive were to be regarded as relevant, petitioners have not made out a case under the Gowans decision. In the first place, the opinion in Gowans explicitly rested its conclusion upon three factors ‘in combination’ (246 F.2d at 451), only one of which was comparable to the circumstances stressed by petitioners. The other two are completely absent here.
And in the second place, there is no convincing evidence that even the one factor was present here, for the record fails to show that in entering into the arrangements in controversy petitioners' predominant purpose at that time was other than to exploit the soil deposits.
They are: (1) The fact that the contractor obligated itself to remove all the sand; and (2) the fact that the contractor was obligated to pay for all the sand contained in the deposit. See 246 F.2d at 451-452.
We hold that petitioners did not make a sale of the soil deposits in place, that the soil was in fact sold pursuant to master contracts from time to time as extracted, and that the profit realized must therefore be treated as ordinary income.
Decision will be entered for the respondent.