Code of Federal Regulations · Section

§ 1.614-8 — -8 Elections With Respect To Separate Operating Mineral Interests For Taxable Years Beginning After December 31, 1963, In The Case Of Oil And Gas Wells

26 C.F.R. § 1.614-8

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(a) Election to treat separate operating mineral interests as separate properties—(1) General rule. If a taxpayer has more than one operating mineral interest in oil and gas wells in one tract or parcel of land, he may elect to treat one or more of such interests as separate properties for taxable years beginning after December 31, 1963. Any such interests with respect to which the taxpayer does not so elect shall be combined and treated as one property. Nonoperating mineral interests may not be included in such combination. There may be only one such combination in one tract or parcel. Any such combination of interests shall be considered as one property for all purposes of subtitle A of the Code for the period to which the election applies. The preceding sentence does not preclude the use of more than one account under a single method of computing depreciation or the use of more than one method of computing depreciation under section 167, if otherwise proper. Any reasonable and consistently applied method or methods of computing depreciation of the improvements made with respect to the separate interests which are combined may be continued in accordance with section 167 and the regulations thereunder. Except as provided in paragraph (b) of this section, such an interest in one tract or parcel may not be combined with such an interest in another tract or parcel. For rules with respect to the allocation of the basis of an aggregation of separate operating mineral interests under this section among such interests as of the first day of the first taxable year beginning after December 31, 1963, see paragraph (a) (2) (ii) of § 1.614-6. For the definition of operating mineral interest see paragraph (b) of § 1.614-2.

(2) Election in respect of newly discovered or acquired interest or interest ceasing to participate in cooperative or unit plan of operation. (i) If the taxpayer makes an election under this paragraph in respect of an operating mineral interest in a tract or parcel of land and, after the taxable year for which such election is made, an additional operating mineral interest in the same tract or parcel is discovered or acquired by the taxpayer or is the subject of an election under this paragraph because it ceases to participate in a cooperative or unit plan of operation to which paragraph (b) of this section applies, the additional operating mineral interest shall be treated:

(a) If there is no combination of interests in such tract or parcel, as a separate property unless the taxpayer elects to combine it with another interest, or

(b) If there is a combination of interests in such tract or parcel, as part of such combination unless the taxpayer elects to treat it as a separate property.

(ii) The application of this subparagraph may be illustrated by the following example:

Prior to 1964 a taxpayer acquired, and incurred development expenditures with respect to, three operating mineral interests in oil, designated Nos. 1, 2, and 3. All three interests are in the same tract or parcel of land. For the taxable year 1964, the taxpayer elects to treat such interests as three separate properties. During the taxable year 1965, the taxpayer discovers and incurs development costs with respect to a fourth operating mineral interest, No. 4, in the same tract of land. During the taxable year 1966, the taxpayer discovers and incurs development costs with respect to a fifth operating mineral interest, No. 5, in the same tract of land. If the taxpayer makes no election relative to No. 4 for 1965, such interest will thereafter be treated as a separate property. Alternatively, the taxpayer may make an election for 1965 to combine No. 4 with any one (and only one) of the three other interests and to treat such combination as one property. If, for example, he elects to combine No. 4 with No. 3, then in 1966, No. 5 will automatically become part of the combination of Nos. 3 and 4 if no election is made to treat it as a separate property. After the combination of Nos. 3 and 4 is formed, Nos. 1 and 2, which were acquired or discovered prior to the formation of the combination and which were not included in such combination within the time prescribed, may not be included in that or any other combination. However, see subparagraph (3) (iv) of this paragraph.

(3) Manner and scope of election—(i) Election; when made. Except as provided hereafter in this subdivision (i), any election under subparagraph (1) or (2) of this paragraph shall be made for each operating mineral interest not later than the time prescribed by law for filing the income tax return (including extensions thereof) for whichever of the following taxable years is later:

(a) The first taxable year beginning after December 31, 1963; or

(b) The first taxable year in which any expenditure for development or operation in respect of such operating mineral interest is made by the taxpayer after his acquisition of such interest

Notwithstanding the provisions of (a) and (b), if it is determined that the operating mineral interest in respect of which the election is to be made was, during what would otherwise be the entire effective period of the election insofar as it would apply to the appropriate taxable year determined under (a) and (b), participating in a cooperative or unit plan of operation to which section 614(b)(3) applies, the election shall be made not later than the time prescribed by law for filing the income tax return (including extensions thereof) for the taxable year in which the interest ceases to participate in the cooperative or unit plan. See subdivision (iii) of this subparagraph for provisions relating to the effective date of an election and paragraph (b) of this section for provisions relating to certain unitization or pooling arrangements. For purposes of this subparagraph, expenditures for development include any intangible drilling or development costs within the purview of section 263(c). Delay rentals are not considered as expenditures for development. For purposes of this subparagraph, the acquisition of an option to acquire an economic interest in minerals in place does not constitute the acquisition of a mineral interest.

(ii) Election; how made. Any election under this paragraph shall be made by a statement attached to the income tax return of the taxpayer for the first taxable year for which the election is made. This statement shall identify by name, code number, or other means the operating mineral interests within the same tract or parcel of land which the taxpayer is electing to treat as separate properties or in combination, as the case may be. The statement shall also identify by name, code number, or other means the tract or parcel and shall set forth the facts upon which its treatment as a single and entire tract or parcel is based. See paragraph (a) (3) of § 1.614-1. However, if the taxpayer is electing to treat all of his operating mineral interests in a tract or parcel as separate properties, a blanket election with respect to all of such interests in that tract or parcel which are owned by the taxpayer at the time the election is made will suffice and only the tract or parcel itself need be so identified. The taxpayer shall maintain and have available records and maps sufficient to clearly define the tract or parcel and all of the taxpayer's operating mineral interests therein.

(iii) Election; when combination effective. (a) If, by reason of the exercise or nonexercise of an election under this paragraph, a combination is formed of two or more operating mineral interests, all of which are owned and operated by a taxpayer on the first day of the first taxable year beginning after December 31, 1963, and are not participating in a cooperative or unit plan of operation to which paragraph (b) of this section applies on such first day, the combination is effective on such first day.

(b) If, by reason of the exercise or nonexercise of an election under this paragraph, a combination of operating mineral interests not described in (a) of this subdivision (including a combination described in (a) to which another operating mineral interest is added) is formed, the date on which each operating mineral interest which is being combined by the taxpayer for the first time enters into the combination is the later of (1) the earliest date within the taxable year affected on which the taxpayer incurred any expenditure for development or operation of such interest at a time when such interest was not participating in a cooperative or unit plan of operation to which paragraph (b) of this section applies, or (2) the earliest date on which the taxpayer incurred any expenditure for development or operation of any other interest with which such interest is to be combined at a time when such other interest was not participating in a cooperative or unit plan of operation to which paragraph (b) of this section applies.

(c) The application of these provisions may be illustrated by the following examples:

In 1963, a taxpayer owned and operated mineral interests Nos. 1 and 2, both of which are in the same tract or parcel of land. Neither No. 1 nor No. 2 participates in a cooperative or unit plan of operation. The taxpayer, who is on a calendar year basis, continued to own and operate these interests during the year 1964, and made no election with respect to such interests in his income tax return for that year. As a result, Nos. 1 and 2 are combined as of January 1, 1964.

Assume that the taxpayer described in example 1 discovered operating mineral interests Nos. 3 and 4 in the same tract or parcel of land as Nos. 1 and 2, that he made his first expenditures for the development of No. 3 on June 1, 1964, and of No. 4 on September 1, 1964, and that, in a timely return for 1964, he elected to treat No. 3 as a separate property and made no election with respect to No. 4. As a result, No. 3 is treated as a separate property and No. 4 joins the combination of Nos. 1 and 2 as of September 1, 1964.

On March 1, 1964, a taxpayer acquired a tract or parcel of land containing operating mineral interests Nos. 1 and 2. The taxpayer made his first operating expenditures on No. 1 on April 1, 1964. On October 1, 1964, the taxpayer made his first development expenditures with respect to operating mineral interest No. 2. The taxpayer made no election with respect to these interests. As a result, Nos. 1 and 2 enter into a combination as of October 1, 1964.

(iv) Election; binding effect. A valid election made under section 614(b) and this subparagraph shall be binding upon the taxpayer for the first taxable year for which made and for all subsequent taxable years. However, notwithstanding the preceding sentence, an election to treat one or more operating mineral interests as separate properties shall not prevent the making of a later election to combine a newly discovered or acquired operating mineral interest with one of such interests, if no other combination exists in the tract or parcel of land on the date when the later election would become effective under subdivision (iii) of this subparagraph. Nor will an election to treat an operating mineral interest as a separate property prevent its treatment with another interest as a single property under paragraph (b) of this section if such interest later participates in a cooperative or unit plan of operation to which paragraph (b) applies. For rules relating to the binding effect of an election in certain cases in which the basis of a separate or combined property in the hands of the transferee is determined by reference to the basis in the hands of the transferor, see paragraph (c) of § 1.614-6.

(b) Certain unitization or pooling arrangements. (1) Except as provided in this paragraph, if one or more of the taxpayer's operating mineral interests, or a part or parts thereof, participate, under a voluntary or compulsory unitization or pooling agreement as defined in subparagraph (6) of this paragraph, in a single cooperative or unit plan of operation, then for the period of such participation in taxable years beginning after December 31, 1963, such interest or interests, and part or parts thereof, included in such unit, shall be treated for purposes of subtitle A of the Code as one property, separate from the interest or interests, or part or parts thereof, not included in such unit.

(2) Subparagraph (1) of this paragraph shall apply to a voluntary agreement only if all the operating mineral interests covered by the agreement are in the same deposit or are in two or more deposits, the joint development or production of which is logical, without taking tax benefits into account, from the standpoint of geology, convenience, economy, or conservation, and which are in tracts or parcels of land which are contiguous or in close proximity. Operating mineral interests under a voluntary agreement to which subparagraph (1) does not apply are subject to the rules contained in paragraph (a) of this section. For purposes of this paragraph an agreement is voluntary unless required by the laws or rulings of any State or any agency of any State.

(3) Notwithstanding the provisions of subparagraph (1) of this paragraph, if the taxpayer, for the last taxable year beginning before January 1, 1964, treated as separate properties two or more operating mineral interests which participate, under a voluntary or compulsory unitization or pooling agreement entered into in any taxable year beginning before January 1, 1964, in a single cooperative or unit plan of operation, and if it is determined that such treatment was proper under the law applicable to such taxable year, the taxpayer may continue to treat all such interests in a consistent manner for the period of such participation. If it is determined that such treatment was not proper under the law applicable to such taxable year, or if the taxpayer does not continue to treat all such interests in a manner consistent with the treatment of them for the last taxable year beginning before January 1, 1964, the treatment of the interests shall be in accordance with the provisions of subparagraph (1).

(4) If only a part of an operating mineral interest, which interest is not being treated under paragraph (a) of this section as part of a combination of interests, participates in a unit or pool, such part shall, for the period of its participation in the unit or pool, be treated for purposes of this section as being separate from the nonparticipating portion of the operating mineral interest of which it is a part. A portion of the adjusted basis and of the units of mineral of such operating mineral interest remaining at the beginning of the period described in the preceding sentence shall be allocated to the participating part in accordance with the principles contained in paragraph (a)(2)(i)(a) of § 1.614-6 as if such participating part had been sold. If participation in the unit or pool ends, the separate status of the participating part shall immediately terminate. At such time the adjusted basis of such part and the units of mineral with respect to such part remaining at the time of termination shall be added to the adjusted basis and to the remaining units of mineral of the nonparticipating portion of the operating mineral interest. During the period of participation in the unit or pool such participating part shall not be treated separately from the nonparticipating portion of the operating mineral interest in applying section 165.

(5) Where an operating mineral interest which is being treated under paragraph (a) of this section as part of a combination of interests begins participation in a unit or pool, the combination shall remain in force but the treatment of such participating interest as a part of the combination shall be suspended for the period of its participation in the unit or pool. If, for example, a taxpayer owns operating mineral interests Nos. 1, 2, and 3 in a single tract or parcel of land, elects to treat No. 1 as a separate property (with mineral interests Nos. 2 and 3 thus being combined), is later required by an agency of a State to place No. 2 in a unit, and subsequently discovers operating mineral interest No. 4 in the same tract or parcel of land, then under paragraph (a)(2)(i)(b) of this section No. 4 will automatically be combined with No. 3 unless the taxpayer elects to treat it as a separate property. Under this subparagraph, an interest may be treated as part of a combination for a portion of a taxable year and as part of a unit or pool for a portion of a taxable year. At the commencement of participation in the unit or pool, a portion of the adjusted basis of the combination and a portion of the units of mineral with respect to the combination remaining at that time shall be allocated to such participating interest in accordance with the principles contained in paragraph (a)(2)(i)(a) of § 1.614-6 as if such interest had been sold. During the period of participation in the unit or pool such participating interest is nevertheless treated as a part of the combination for purposes of paragraph (d) of § 1.614-6. If participation in the unit or pool ends, the treatment of such interest as participating in the unit or pool shall immediately terminate. At such time, the adjusted basis of the participating interest and the units of mineral with respect to such interest remaining at the time of termination shall be added to the adjusted basis and to the remaining units of mineral of the nonparticipating portion of the combination. In determining the adjusted basis of the participating interest at the time of termination there shall be taken into account any section 1016 adjustments attributable to such interest for the period of its participation in the unit or pool. If two or more operating mineral interests of the taxpayer participate in a unit or pool and are treated as one property under subparagraph (1) of this paragraph, and if participation by such interests in the unit or pool terminates, the adjusted basis of each such interest at the time of termination shall be separately determined. If the total of the adjusted bases of such interests upon termination of their participation in the unit or pool exceeds the adjusted basis of such one property, then the adjusted bases of such interests shall be further adjusted by applying the principles contained in paragraph (a)(2)(ii)(b)(ii) of § 1.614-6 so that the total of the adjusted bases of such interests equals the adjusted basis of such one property. In addition, the units of oil and gas estimated to be attributable to a participating interest at the time of termination of participation shall be restored to the units of oil and gas of the combination of which it is a part. The rules stated in this subparagraph with respect to an operating mineral interest which is being treated under paragraph (a) of this section as part of a combination and which begins participation in a unit or pool shall also apply to a portion of an operating mineral interest which is being treated under paragraph (a) as part of a combination if such portion begins participation in a unit or pool.

(6) As used in this paragraph, the term unitization or pooling agreement means an agreement under which two or more persons owning operating mineral interests agree to have the interests operated on a unified basis and further agree to share in production on a stipulated percentage or fractional basis regardless of from which interest or interests the oil or gas is produced. In addition, in a situation in which one person owns operating mineral interests in several leases, an agreement of such person with his several royalty owners to determine the royalties payable to each on a stipulated percentage basis regardless of from which lease or leases oil or gas is obtained is also considered to be a unitization or pooling agreement. No formal cross-conveyance of properties is necessary. An agreement between co-owners of a tract or parcel of land or a part thereof for the development of the property by one of such co-owners for the account of all is not a unitization or pooling agreement, provided that the agreement does not affect ownership of minerals or entitle any such co-owner to share in production from any operating mineral interests other than his own.

(c) Operating mineral interest defined. For the definition of the term operating mineral interest as used in this section, see paragraph (b) of § 1.614-2.

(d) Alternative treatment under Internal Revenue Code of 1939. If, on the day preceding the first day of the first taxable year beginning after December 31, 1963, the taxpayer has any operating mineral interests which he treats under section 614(d) (as in effect before the amendments made by the Revenue Act of 1964) and § 1.614-4, such treatment shall be continued and shall be deemed to have been adopted pursuant to the provisions of section 614(b) and paragraph (a) of this section. Accordingly, a taxpayer, who has four operating mineral interests in a single tract or parcel of land, and who has treated two of such interests as one property and two of such interests as separate properties under section 614(d) prior to the first day of the first taxable year beginning after December 31, 1963, is deemed to have adopted such treatment pursuant to the provisions of section 614(b) and paragraph (a) of this section. Hence, in the absence of an election to the contrary, a fifth operating mineral interest in the same tract or parcel acquired by the taxpayer in a taxable year beginning after December 31, 1963, will, after an expenditure for development or operation, be combined with the combination of two interests made under section 614(d). Furthermore, an election which was made for a taxable year beginning before January 1, 1964, under section 614(d) as then in effect will be binding for all taxable years beginning after December 31, 1963, even though the time for making an election under section 614(b) and paragraph (a) of this section has not elapsed.

26 C.F.R. § 1.614-7 26 C.F.R. § 1.615-1

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