United Ates v. Skelly Oil Company/Dissent Stewart

by Potter Stewart

United States Supreme Court

394 U.S. 678

United Ates  v.  Skelly Oil Company

 Argued: Jan. 15, 1969. --- Decided: April 21, 1969

Mr. Justice STEWART, with whom Mr. Justice DOUGLAS and Mr. Justice HARLAN join, dissenting.

The Court today denies the respondent a tax benefit fairly provided by the Code for no other discernible reasons than that, under the statute as written, 'the taxpayer always wins and the Government always loses,' ^[1] and that 'the approach here adopted will affect only a few cases.' Ante, at 686. But we are not free, even in a few cases, to abandon settled principles of annual accounting and statutory construction merely to avoid what the Court thinks Congress might consider an 'inequitable result.' ^[2]

'(T)he rule that general equitable considerations do not control the measure of deductions or tax benefits cuts both ways. It is as applicable to the Government as to the taxpayer. Congress may be strict or lavish in its allowance of deductions or tax benefits. The formula it writes may be arbitrary and harsh in its applications. But where the benefit claimed by the taxpayer is fairly within the statutory language and the construction sought is in harmony with the statute as an organic whole, the benefits will not be withheld from the taxpayer though they represent an unexpected windfall.' Lewyt Corp. v. Commissioner of Internal Revenue, 349 U.S. 237, 240, 75 S.Ct. 736, 738, 99 L.Ed. 1029.

From any natural reading of § 1341, it is apparent that Congress believed the 'deduction' in § 1341(a)(2) would be in the amount of the 'item' described in § 1341(a)(1). If that understanding is not manifest from the face o the statute and the legislative history, ^[3] it is the unavoidable inference from a study of the pre-1954 law which the Court concedes § 1341(a)(4) was intended to codify. In every case in this area previously decided by the Court the amount deductible in the year of repayment was considered to be exactly the same as the amount of the previously included item. In two of the cases most sharply in congressional focus in 1954, the Government had conceded without hesitation that the taxpayers were 'entitled to a deduction for a loss in the year of repayment of the amount earlier included in income. Healy v. Commissioner of Internal Revenue, 345 U.S. 278, 284, 73 S.Ct. 671, 675, 97 L.Ed. 1007. See also United States v. Lewis, 340 U.S. 590, 591, 71 S.Ct. 522, 523, 95 L.Ed. 560. That has been the express position of the Treasury since at least 1936, ^[4] and the Court today has not cited a single instance of deviation from that understanding.

The Court says that § 1341 is not alone controlling and that 'it is necessary to refer to other portions of the Code to discover how much of a deduction is allowable.' Ante, at 683. I agree that § 1341 must be considered in the context of the Internal Revenue Code as an 'organic whole.' But no other provisions of the Code in any manner bolster the Court's argument. The Court assumes, quite correctly, that either § 162 or § 165 does permit a deduction for the refund. But it does not, and cannot, suggest that either of those sections-or any other statutory provision-limits the amount of the deduction for the undeniable loss of profits in the full amount of the repayment. Instead the Court assumes a broad equitable authority to weed out tax benefits which it calls 'double deductions'-a characterization wholly inapposite to the facts of this case.

In prior decisions disallowing what truly were 'double deductions,' the Court has relied on evident statutory indications, not just its own view of the equities, that Congress intended to preclude the second deduction. In those cases the taxpayers sought to enefit twice from the same statutory deduction. ^[5] In this case, by contrast, the respondent had taken two different deductions accorded by Congress for distinct purposes. In the years 1952 through 1957 it deducted the proper amounts for depletion-a deduction which is allowed by Congress 'on the theory that the extraction of minerals gradually exhausts the capital investment in the mineral deposit,' and which is 'designed to permit a recoupment of the owner's capital investment in the minerals so that when the minerals are exhausted, the owner's capital is unimpaired.' Commissioner of Internal Revenue v. Southwest Exploration Co., 350 U.S. 308, 312, 76 S.Ct. 395, 397, 100 L.Ed. 347. The respondent's 1958 deduction was granted by Congress for the entirely different reason that the refund of previously reported income constituted a loss, or business expense. In purpose and effect the deductions are wholly unrelated, and each is sustainable on its own merits. Certainly it cannot be said either that the respondent did not in fact exhaust the capital assets for which the deductions were allowed in 1952 through 1957 or that it did not suffer a business loss by the 1958 repayment.

The sole nexus between these distinct transactions on which the Court constructs its 'double deduction' theory is that the depletion deductions were computed as a percentage of gross income from the property. But this fact cannot distinguish percentage depletion from any other deduction. If the respondent had elected to take cost depletion in 1952 through 1957, for example, there would also have been a portion of the gross income in those years perhaps less than 27 1/2%, perhaps more-which was not included in taxable income. Whether a deduction is computed as a fixed percentage of income or in some other manner, it always reduces by some percentage the income which is ultimately taxed. There are other deductions, of course, whose amount is a function of a certain percentage of the taxpayer's income. With respect to the individual taxpayer, the standard 10% deduction, § 141, and those for charitable contributions, § 170, and medical expenses, § 213, are doubtless the most frequent. Under the Court's ruling today, any taxpayer who repays money included in gross income in a prior year in which he also took one of the above mentioned deductions will have to reduce his refund deduction by that portion of the previous year's deduction at ributable to the included income. Surely this result contravenes the purpose of the annual accounting concept to prevent recomputations of the prior year's tax.

The Court says today that there can be no deduction 'for refunding money that was not taxed when received.' Ante, at 685. This means nothing less than that, whenever a taxpayer seeks to deduct a refund of money received as income under a claim of right in a prior year, the deduction must be reduced by the percentage of gross income in that prior year which, for whatever reason, was not also taxable income. Otherwise there will be precisely the same kind of so-called 'double deduction' as the Court finds in this case.

It is clear that the Court has wrought a major transformation of the deduction which has heretofore been allowed and which Congress recognized in § 1341(a) (4). That deduction is permitted because, in the words of § 1341, the item 'was included in gross income for a prior taxable year' (emphasis added), not because it was included in taxable income. It is no answer to say that the 'annual accounting concept does not require us to close our eyes to what happened in prior years.' Ante, at 684. Of course we must look to the prior years to ascertain the amounts included in gross income and the nature of that income as it bears on the provision under which it is deductible in the year of repayment. Arrowsmith v. Commissioner of Internal Revenue, 344 U.S. 6, 73 S.Ct. 71, 97 L.Ed. 6. ^[6] But the very purpose of the annual accounting concept is to preclude adjustments in the amount of the deduction to reflect the tax consequences of the item's inclusion in the prior year.

'Congress has enacted an annual accounting system under which income is counted up at the end of each year. It would be disruptive of an orderly collection of the revenue to rule that the accounting must be done over again to reflect events occurring after the year for which the accounting is made, and would violate the spirit of the annual accounting system. This basic principle cannot be changed simply because it is of advantage to a taxpayer or to the Government in a particular case that a different rule be followed.' Healy v. Commissioner of Internal Revenue, 345 U.S. 278, 284-285, 73 S.Ct. 671, 675.

One of the major factors, in addition to changes in tax rates and brackets, that determine who will benefit from adherence to the annual accounting principles embodied in § 1341(a)(4) is the extent to which the taxpayer had deductions in the prior or subsequent taxable years to offset gross income. And it is no less inconsistent with annual accounting principles to pare down the allowable loss deduction in the year of repayment because of other deductions in the year of inclusion than because of a lower tax rate or bracket in that year.

Because I cannot agree that the Court's equitable sensibilities empower it to depart from the sound principles of tax accounting specifically endorsed by Congress in § 1341, I respectfully dissent.

Notes

1. Section 1341, of course, is designed precisely to create a situation where 'the taxpayer always wins and the Government always loses.' Strict adherence to annual accounting and the claim-of-right doctrine before 1954 sometimes benefited the taxpayer, sometimes the Government. Section 1341 retains those principles where they benefit the taxpayer but allow recomputation of the taxes of a prior year if that method would result in a greater tax saving.
2. Judicial assumptions that Congress did not intend liberal benefits for taxpayers are particularly suspect in the area of percentage depletion, perhaps the most generous business deduction in the Code. And Congress had the recipients of percentage depletion specifically in mind when it drafted § 1341. The House bill excluded from the coverage of § 1341 all refunds relating to inventory sales. The Senate Committee promptly removed refunds by regulated utilities from this exclusion with the following remarks:
3. The House and Senate Reports give no indication that Congress thought the deduction would be other than the amount of the item included in gross income for the prior year. They refer to the amount of the deduction and of the item interchangeably.
4. See G.C.M. 16730, XV-1 Cum.Bull. 179, 181 (1936):
5. Charles Ilfeld Co. v. Hernandez, 292 U.S. 62, 54 S.Ct. 596, 78 L.Ed. 1127, and United States v. Ludey, 274 U.S. 295, 47 S.Ct. 608, 71 L.Ed. 1054, both involved situations in which the taxpayer tried to take the same deduction twice. In Ilfeld the taxpayer had taken deductions, through consolidated returns, for the annual losses of its subsidiaries; when the subsidiaries' assets were sold and the companies dissolved, the parent taxpayer sought to take deductions for losses of its investment in the subsidiaries. As the Court held, 'The allowance claimed would permit (the parent) twice to use the subsidiaries' losses for the reduction of its taxable income,' a double deduction that 'nothing in the Act * * * purports to authorize * * *.' 292 U.S., at 68, 54 S.Ct., at 598. In Ludey the taxpayer had taken deductions for depletion of his mining properties; but when the properties were sold in the taxable year in question, the taxpayer did not, in computing the gain from the sale, adjust the basis of the property to reflect the depletion deductions. The Court held that depletion allowances, like those for depreciation, are granted in recognition of the fact that the asset is disappearing year by year. When it is disposed of, therefore, 'the thing then sold is not the whole thing originally acquired. The amount of the depreciation must be deducted from the original cost of the whole in order to determine the cost of that disposed of in the final sale of properties. Any other construction would permit a double decuction for the loss of the same capital assets.' 274 U.S., at 301, 47 S.Ct., at 610.
6. As the Court recognizes, ante, at 685, n. 4, the Court in Arrowsmith did not hold that the amount of the deduction in the year of repayment would be reduced because in the year of inclusion the money had been taxed at a lower rate or had been offset by deductions. It held merely that the losses fell within the definition of 'capital losses' contained in the sections authorizing deductions for the repayment. The Court does not in this case point to any comparable statutory provision affecting the nature or amount of the deduction for the refund.