Internal Revenue Service
Revenue Ruling

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 Rev. Rul. 77-79

1977-1 C.B. 34

Section 61
Section 111
Section 1016

IRS Headnote

Recovery of protested severance tax; depletion. Severance tax paid under protest and refunded in a later year to a corporation is includible in its gross income in the year refunded to the extent that the refund exceeds the resultant increase in percentage depletion that would have been allowable in the year the tax was incorrectly paid to the state. The refund is not includible in income from property for purposes of computing depletion allowance for the refund year, and the depletable basis of the property is reduced by the amount of the additional depletion that would have been allowable in the year of the incorrect payment.

Full Text

Rev. Rul. 77-79

A corporation was notified by the state that additional severance taxes were due on minerals produced within the state. The corporation did not agree that it owed additional tax but paid 1,500x dollars in 1974 under protest and claimed such amount as a deduction for that year under section 461(f) of the Internal Revenue Code of 1954. Because of this deduction, the taxable income from the property (computed without depletion) was reduced. Therefore, under the limitation of section 613(a), the percentage depletion deduction for 1974 was lower by 500x dollars, and the depletable basis of the property was adjusted by the lower depletion allowance actually taken in 1974. In 1974, the corporation sued the state to recover the 1,500x dollars and, in 1976, the court decided in favor of the corporation and the state refunded the 1,500x dollars.

Held, under section 1.111-1(b)(2) of the Income Tax Regulations, the amount of the recovery exclusion is 500x dollars and, therefore, the amount to be included in the corporation's gross income for 1976 is 1,000x dollars (1,500x dollars refunded minus 500x dollars recovery exclusion). No amount of the refund is to be included in the gross income or the taxable income from the property for the purpose of computing the depletion allowance for the year of refund. Furthermore, the depletable basis of the property, if any, must be reduced in the year of restoration because the 500x dollars recovery exclusion was equivalent to the restoration of the depletion deduction previously reduced because of the payment of the severance tax.