Rev. Rul. 84-14

1984-1 C.B. 147.

                       Internal Revenue Service
                                 Revenue Ruling

     PERCENTAGE DEPLETION;  CLIFFORD TRUST;  TRANSFER OF PROVEN OIL AND GAS
                                   PROPERTIES

                          Published: January 23, 1984

SECTION 613A. - -LIMITATIONS ON PERCENTAGE DEPLETION IN CASE OF OIL AND GAS WELLS

  Percentage depletion;  Clifford trust;  transfer of proven oil and gas properties.  Neither the conveyance of an interest in oil and gas property to a Clifford trust, nor the conveyance of the corpus of the trust to the grantor at the termination of the trust, will be a transfer of proven oil and gas properties that will cause the grantor to become ineligible for percentage depletion.

ISSUE

  Whether the conveyance of interests in oil and gas properties to a Clifford trust, as described below, or the conveyance of the corpus of the trust to the grantor at the termination of the trust will constitute a transfer of proven oil and gas properties that will cause the grantor to become ineligible for percentage depletion.

FACTS

  In 1981, X executed an agreement creating a Clifford trust (trust), for a period of 121 months.  X's spouse is trustee.  X

transferred to the trust certain interests in oil and gas properties in which X was eligible to claim allowances for depletion under sections 611 through 613A of the Code.

  The trust provides that the trustee shall set aside annually, during the term of the trust, and pay to the grantor when the corpus of the trust reverts to the grantor, that portion of the income of the trust that is attributable to the reserve for depletion.  The reserve for depletion is the amount of the depletion deduction allowable for the tax year under the provisions of sections 611 through 613A of the Code.  The trustee may pay or apply so much of income of the trust to or for the benefit of the beneficiary, as the trustee in the trustee's sole discretion, may deem necessary or appropriate to provide for said beneficiary's health, maintenance, education and support.  The income from the trust shall not be paid or applied to discharge the legal obligations of either the grantor or the trustee to provide support or maintenance for such beneficiary.  Amounts not so distributed shall be accumulated in the trust and held, invested and reinvested.

  The corpus of the trust will revert to the grantor 121 months after the date the trust was executed.  The grantor will not be treated as owner of the trust under sections 673, 674, 675, 676, or 678 of the Code.

LAW AND ANALYSIS

  Section 611(a) of the Code provides that there will be allowed as a deduction, in computing taxable income, a reasonable allowance for depletion in the case of oil and gas wells.

  Section 611(b)(3) of the Code provides that, in the case of property held in trust, the deduction for depletion will be apportioned between the income beneficiaries and the trustee in accordance with the pertinent provisions of the instrument creating the trust, or, in the absence of such provisions, on the basis of the trust income allocable to each.

  Section 1.611-1(c)(4) of the regulations provides that where the trust instrument or local law requires or permits the trustee to maintain a reserve for depletion in any amount, the deduction is first allocated to the trustee to the extent that income is set aside for a depletion reserve, and any part of the deduction in excess of the income set aside for the reserve will be apportioned between the income beneficiaries and the trustee on the basis of the trust income (in excess of the reserve) allocable to each.

  Sections 612 and 613(a) of the Code and the regulations thereunder provide that the annual allowance for depletion is to be computed on the basis of the adjusted depletion basis of the property or on a percentage of the gross income from the property, whichever results in the greater allowance.

  Section 613A(a) of the Code provides that, except as provided in sections 613A(b) and 613A(c), the allowance for depletion will be computed without reference to section 613.

  Section 613A(c)(1) of the Code provides that, with respect to independent producers and royalty owners, the allowance for

depletion will be computed in accordance with section 613 with respect to limited quantities of domestic crude oil and natural gas.

  Section 613A(c)(9) of the Code provides that, in the case of a transfer after December 31, 1974 of an interest in any proven oil and gas property, section 613A(c)(1) will not apply to the transferee with respect to production attributable to the transferred interest.

  For purposes of section 613A(c)(9)(A) of the Code, a person will not be treated as a transferee of an interest in a proven oil

and gas property to the extent that such person was entitled to a percentage depletion allowance on mineral produced with respect to such property immediately before the transfer.

  Section 677(a) of the Code provides that the grantor will be treated as the owner of any portion of a trust whose income without the approval or consent of any adverse party is, or, in the discretion of the grantor or a nonadverse party, or both, may be distributed to the grantor or held or accumulated for future distribution to the grantor.

  Because the trust provides that the corpus of the trust will revert to the grantor upon termination of the trust, the grantor must include in gross income, in the year realized, the income that under the terms of the trust and applicable local law becomes a part of corpus in accordance with sections 671 and 677(a) of the Code. The amount to be included in the grantor's gross income includes the income attributable to the annual reserve for depletion in an amount equal to the depletion deductions allowable under sections 611 through 613A of the Code.  Because the trustee is required by the trust to maintain a reserve for depletion, the grantor will be entitled to the deduction for depletion provided that the provisions of sections 611 through 613A are met.

  The grantor will not be taxable, pursuant to section 677 of the Code, on any current income of the trust that is not allocated to corpus, provided that such income is not applied or distributed in satisfaction of the grantor's legal obligation to support or maintain the grantor's beneficiary.  Because the trust, in accordance with the special provision of section 611 of the Code and regulations, thereunder, must apportion the income from the oil and gas royalty interests and the attendant depletion deductions, and because the grantor was entitled to compute an allowance for percentage depletion in respect of such interests prior to their conveyance to the trust, the grantor will not be treated as a transferee of an interest in proven oil and gas property (within the meaning of section 613A(c)(9)(A)) during the term of the trust.

  Because the grantor will be entitled to deduct an allowance for percentage depletion in respect of production attributable to the oil and gas interests during the term of the trust by reason of sections 611, 677(a), and 671 of the Code, the grantor will not be treated as a transferee of an interest in proven oil and gas property under section 613A(c)(9)(A) following termination of the trust.

  Because the grantor, to the exclusion of all others, will be entitled to the allowance for percentage depletion in respect of the oil and gas interests prior to the conveyance of the interest to the trust, during the term of the trust, and after termination of the trust, section 613A(c)(9)(A) of the Code will not apply to the conveyance of the interests to the trust or the reversion of the interests to the grantor upon termination of the trust.

HOLDING

  Under the facts described above, neither the conveyance of interests in oil and gas property to the trustee nor the conveyance of the corpus of the trust to the grantor at the termination of the trust is a transfer of proven oil and gas properties that will cause the grantor to become ineligible for the percentage depletion allowance.

Rev. Rul. 84-14, 1984-1 C.B. 147.