Rev. Rul. 86-46

1986-1 C.B. 341, 1986-13 I.R.B. 37.

WINDFALL PROFIT TAX; SEVERANCE TAX ADJUSTMENT; NEW MEXICO

Published: March 31, 1986

26 CFR 51.4996-2: Severance tax adjustment. (Also Sections 4986, 4988; 51.4986-

1, 51.4988-1.)

  Windfall profit tax; severance tax adjustment; New Mexico. The taxes imposed under N.M. Stat. Ann. sections 7-29-4, 7-30-4, and 7-31-4 are severance taxes within the meaning of section 4996(c) of the Code. The state portion of the tax imposed under N.M. Stat. Ann. 7-32-4 is also a severance tax within the meaning of section 4996(c) . The portion of the tax imposed for purposes of other governmental units is not a severance tax.

ISSUE

  Are the taxes described below, imposed by the State of New Mexico on the production of oil, severance taxes for purposes of the crude oil windfall profit tax severance tax adjustment allowed by section 4988(a) of the Internal Revenue Code?

FACTS

  New Mexico Statutes Annotated section 7-29-4 imposes, effective March 1,

1980, a tax of 3.75 percent of the taxable value of oil and of liquid hydrocarbons that are removed from natural gas at or near the wellhead and are severed and sold. Prior to March 1, 1980, the tax imposed by section 7-29-4 was a fixed fee per barrel.

  N.M. Stat. Ann. section 7-30-4 imposes an Oil and Gas Conservation Tax of

0.19 percent of the taxable value of products sold.

  N.M. Stat. Ann. section 7-31-4 imposes an Oil and Gas Emergency School Tax on the privilege of severing products in New Mexico. The tax is 3.15 percent of the taxable value of such products.

  For purposes of these taxes (N.M. Stat. Ann. Sections 7-29-4, 7-30-4, and 7-

31-4), taxable value generally is the value of the oil removed less royalties paid or due to exempt entities and the reasonable expense of trucking the oil from the property to the first place of market.

  N.M. Stat. Ann. section 7-32-4 levies and Oil and Gas Ad Valorem Production Tax on the assessed value of products which are severed and sold from each production unit at the rate certified to the oil and gas accounting division of the taxation and revenue department by the department of finance and administration under N.M. Stat. Ann . section 7-37-7. The assessed value of products is determined under N.M. Stat. Ann. section 7-32-5 by applying the uniform assessment ratio (33 1/3 percent) to the taxable value of products (150 percent of the value of products less certain deductions).

  Under N.M. Stat. Ann. sections 7-37-7 and 7-38-33 the secretary of finance and administration sets forth the tax rates for each of the governmental units that share in the tax levied under section 7- 32-4 on a property. These rates are based on the budgets of each unit, legislative enactment of rates for state purposes, special levies, amounts needed to satisfy judgements, and debt service on general obligation bonds. The county treasurer prepares tax bills showing, among other things, the taxable value of the property, the allocation of net taxable value to the governmental units, the rate and amount of tax for each tax imposed for the governmental units sharing in the tax on the property under section 7-32-4. Any tax from a property is divided among these governmental units that have jurisdiction over the area in which the property is located. The governmental units that share in the tax include the state, counties, municipalities, and school districts.

LAW AND ANALYSIS

  Section 4986 of the Code imposes a tax on the windfall profit from taxable crude oil. It is to be paid by the producer of the crude oil.

  Section 4988 of the Code allows a severance tax adjustment to be taken into account in determining the amount of the windfall profit.

  Section 4996(c) of the Code provides that the severance tax adjustment on any barrel of crude oil will be the amount by which (A) any severance tax imposed on the barrel exceeds (B) the severance tax that would have been imposed if the barrel had been valued at its adjusted base price. The term 'severance tax' is defined as a tax (A) imposed by a state on the execution of oil and (B) determined on the basis of the gross value of the extracted oil. Under section

4996(c)(3), a severance tax is not taken into account to the extent that its rate exceeds 15 percent.

  Under section 51.4996-2(b) of the Excise Tax Regulations under the Crude Oil Windfall Profit Tax Act of 1980, the term 'severance tax' does not include a tax levied on the value of reserves in the ground or a tax levied on the basis of net proceeds from production. Furthermore, a tax on the removal of crude oil from the ground levied as a fixed fee per barrel is not a severance tax within the meaning of section 4996(c) of the Code because the amount of that tax is not determined by reference to the gross value of the extracted oil.

  Under section 51.4996-2(c)(2) of the regulations, the amount of a state's severance tax taken into account under section 51.4996-2(a) shall not exceed the amount which would have been imposed under that state's severance tax as in effect on March 31, 1979, unless that excess is attributable to an increase in the rate of the severance tax (or to the imposition of a severance tax) which applies equally to all portions of the gross value of each barrel of oil subject to that tax. For purposes of this subparagraph, the conversion of a tax levied at a fixed fee per barrel into a tax based on the gross value of oil removed constitutes an initial imposition of a severance tax.

  The taxes imposed under N.M. Stat. Ann. sections 7-29-4, 7-30-4, and 7-31-4 are all imposed by the State on the basis of the gross value of each barrel of crude oil subject to the taxes. In addition, the tax imposed by section 7-29-4, which was converted from a fixed fee to a percentage of gross value after March

31, 1979, applies equally to all portions of the gross value of each barrel of oil subject to the tax.

  The tax imposed under N.M. Stat. Ann. section 7-32-4 differs from the other taxes imposed by the State of New Mexico described above in several respects. Even though collected as a single tax it is made up of several taxes levied by the State for state purposes and levied on behalf of various local jurisdictions for local purposes. The rates of tax imposed for state purposes are uniform state wide and are set by the State. The rates of tax imposed for local purposes are based on various factors, such as budgets, special levies, and bond issues, which vary from one governmental unit to another. Under the statutory provisions for setting the rate of the Ad Valorem Production Tax, a change in the budget of a political subdivision of the State, or the approval of a special levy or general obligation bond issue by a political subdivision, will have the effect of changing the tax rate to be applied to oil produced from a property located within the jurisdiction of the political subdivision. Thus, even though the secretary of finance and administration formally sets the rates of tax for political subdivisions, those rates are indirectly, but significantly, determined by the political subdivisions of the State, and not by the State alone. This is not in substance a tax imposed by a state within the meaning of section 4996(c) of the Code.

HOLDINGS

  The taxes imposed by N.M. Stat. Ann. sections 7-29-4, 7-30-4, and 7-31- 4 are severance taxes within the meaning of section 4996(c) of the Code and may be taken into account in determining the severance tax adjustment to the extent that the aggregate amount of all severance taxes imposed by the State of New Mexico does not exceed 15 percent.

  The portion of the tax imposed under N.M. Stat. Ann. section 7- 32-4 for state purposes is a severance tax for purposes of the windfall profit tax severance tax adjustment. The portion of the tax imposed for the purpose of other governmental units is not a severance tax for purposes of the windfall profit tax severance tax adjustment.

Rev. Rul. 86-46, 1986-1 C.B. 341, 1986-13 I.R.B. 37.