BLACK MOUNTAIN CORP. v. COMMR. OF INTERNAL REVENUE

Respondent determined deficiencies in petitioner's income taxes in the amounts of $689.14 and $798.61 for the taxable years ended April 30, 1948 and 1949, respectively. The sole contested issue is whether income derived from the subjection of coal mined by petitioner to an oil treatment process constitutes income from an ordinary treatment process normally applied to obtain the commercially marketable mineral product within the meaning of section 114 (b) (4) (A) and (B) of the Internal Revenue Code, so as to permit its includibility in gross income from mining property for purposes of computing percentage depletion thereon.

FINDINGS OF FACT.

Some of the facts have been stipulated and are found accordingly.

Petitioner is a corporation organized under the laws of the State of Virginia in 1909. It maintains its principal office and place of business in Chicago, Illinois. Petitioner kept its accounts on an accrual basis during the taxable years in controversy and filed its returns on that basis for those periods with the collector for the first district of Illinois.

During the periods in controversy, petitioner was engaged in the business of mining bituminous coal on properties owned by it in the States of Virginia and Kentucky, designated as Mines Nos. 30 and 31.

As an integral part of its business activities at its mines, petitioner processes its coal after it is extracted from the ground in various ways, including cleaning, breaking, sizing, and loading for shipment. During the fiscal years herein petitioner also oil-treated some of its coal.

The oil treatment of coal by producers of bituminous coal consists of the application, by various means, of oil to the surface of the coal, primarily for allaying dust. Dust is also allayed by the use of calcium chloride, calcium chloride and oil, and, to a lesser extent, by the use of other materials.

Petitioner's oil treatment is effected by fogging the coal with an extremely fine mist of preheated oil of suitable viscosity and temperature which is applied to the coal under pressure through suitable nozzles. The apparatus consists primarily of oil containers, pumps, heaters, and supply and return lines (since the oil must be in constant circulation), together with a companion steam line used for heating purposes. Application of the oil is made by opening the nozzles as the coal to be treated passes from the surge bins on its way to the car, and closing the nozzles when the tonnage necessary to fill an order for oil-treated coal has passed the fogging device. While other means of applying oil to the coal at the mines are in use in the industry, the end result of such methods is substantially the same, that is, the application of a microscopic film of oil to the coal before or as it is loaded at the mines for transit to the consumer. Petitioner's oil treatment of coal does not measurably increase the British Thermal Units of the coal so treated.

On the average, 6 quarts or 11 pounds of treating oil are applied to 1 ton, or 2,000 pounds of coal, by passing the coal through the fine mist or fog of the oil. The purpose of this treatment is to allay dust for a normal storage period. The technique of the treatment is such that it is not generally feasible or economical today for anyone other than the mine owner or operator to apply it. The oil treatment of coal at the mines for allaying dust was fully developed early in the decade commencing with the year 1930 in connection with the domestic stoker heating plant as a part of the development of the coal industry in meeting the competition of oil and gas as a domestic heating fuel. As early as 1922, oil treatment and other processes to allay dust were performed in retail dealers' yards.

In 1920 bituminous coal and lignite were the source of 67.8 per cent of the power produced in the United States as against 18.4 per cent for oil and gas; by 1930 the percentage had changed to 54.6 per cent and 34.1 per cent, respectively; by 1940, to 47.9 per cent and 43.4 per cent, respectively; and by 1949, to 35.9 per cent and 55.8 per cent, respectively. Before the development of the domestic stoker heating plant, coal in the sizes used therein was usually shipped to industrial users, railroads, and electric utility plants, along with screenings or slack (the next smallest size). After the development of the domestic stoker heating plant and the oil treatment process, the special stoker sizes and grades of coal became generally marketable for domestic use. Without the application of the oil treatment process, coal for domestic heating purposes would find it much more difficult to meet the competition of oil and gas.

Geologically, coal is classified in five broad categories: anthracite, low volatile bituminous, medium and high volatile bituminous, sub-bituminous, and lignite. Commercially, coal is classified in a multitude of categories or products depending on its kind, quality, and size. Of the 23 coal producing districts established under the Bituminous Coal Act of 1937, that district in which the petitioner's mines were located had 27 price classifications of high volatile bituminous coal and 10 price classifications of low volatile bituminous coal.

Petitioner sells various sizes of bituminous coal, ranging from 5-inch block to 1/4-inch by 0 carbon. The total coal tonnage produced and sold by petitioner, and the amount thereof sold as oil-treated coal during its fiscal years ended April 30, 1948, and April 30, 1949, were as follows: Fiscal year ended April 30 Tonnage produced 1948 1949 Mine No. 30 .............................. 318,894 398,737 Mine No. 31 .............................. 349,084 378,933 ------- ------- Total — Mines 30 and 31 ............. 667,978 777,670 Tonnage oil-treated Mine No. 30 .............................. 130,920 147,048 Mine No. 31 .............................. 170,042 135,517 ------- ------- Total — Mines 30 and 31 ............. 300,962 282,565 Petitioner oil-treated 45.06 per cent and 36.33 per cent of its total coal production in the fiscal years ended April 30, 1948 and 1949, respectively.

Petitioner's gross income from oil treatment and the cost of the oil for the fiscal years ended April 30, 1948, and April 30, 1949, were as follows: Fiscal year ended Mar. 30 Mine No. 30 1948 1949 Gross income ................................ $22,404.27 $33,829.68 Cost of oil ................................. 19,897.22 29,010,96 Mine No. 31 Gross income ................................ $27,064.00 $27,026,82 Cost of oil ................................. 25,677.42 26,206.55 The following table is a summary of the treatment of bituminous coal and lignite at the mines for allaying dust in the United States for the years 1940-49, inclusive: SUMMARY DATA ON TREATMENT OF BITUMINOUS COAL AT THE MINES FOR ALLAYING DUST, IN THE UNITED STATES, 1940-44, EXPRESSED IN THOUSANDS OF NET TONS 1940 1941 1942 Grand total production — bituminous coal and lignite (net tons) ........... 460,772 514,149 582,693 Total production at mines where coal was treated (net tons) ................ 161,090 197,476 202,974 Net tons treated with: Calcium chloride ...................... 2,633 3,957 10,133 Oil ................................... 25,768 29,258 11,302 Calcium chloride and oil .............. 4,428 2,483 6,545 All other materials ................... 2,808 3,844 7,148 ------- ------- ------ Total ............................... 35,637 39,543 35,128 Per cent of total production treated .... 7.7 7.7 6.0 Per cent of production treated at mines where treating is done .......... 22.1 20.0 17.3 Number of mines treating with: Calcium chloride ...................... 51 67 167 Oil ................................... 486 564 334 Calcium chloride and oil .............. 22 15 73 All other materials ................... 62 58 117 ------- ------- ------ Total ............................... 614 668 603 1943 1944 1945 Grand total production — bituminous coal and lignite (net tons) ........... 590,177 619,576 577,617 Total production at mines where coal was treated (net tons) ................ 153,863 172,955 166,936 Net tons treated with: Calcium chloride ...................... 15,049 7,277 5,115 Oil ................................... 1,720 13,189 18,876 Calcium chloride and oil .............. 1,947 4,745 4,648 All other materials ................... 7,966 5,563 4,911 ------- ------- ------- Total ............................... 26,683 30,773 33,549 Per cent of total production treated .... 4.5 5.0 5.8 Per cent of production treated at mines where treating is done .......... 17.3 17.8 20.1 Number of mines treating with: Calcium chloride ...................... 212 145 105 Oil ................................... 67 192 296 Calcium chloride and oil .............. 28 47 43 All other materials ................... 101 83 67 ------- ------- ------- Total^fn1 .............................. 393 434 487 1946 1947 1948 1949 Grand total production — bituminous coal and lignite (net tons) ...... 533,922 630,624 599,518 437,868 Total production at mines where coal was treated (net tons) ........... 166,815 195,840 196,600 160,979 Net tons treated with: Calcium chloride ................. 4,958 5,822 6,275 3,670 Oil .............................. 24,310 34,668 34,467 30,449 Calcium chloride and oil ......... 3,193 5,572 4,178 4,381 All other materials .............. 4,572 5,732 5,462 3,275 ------- ------- ------- ------- Total .......................... 37,033 51,794 50,382 41,775 Per cent of total production treated .......................... 6.9 8.2 8.4 9.5 Per cent of production treated at mines where treating is done ..... 22.2 26.4 25.6 26.0 Number of mines treating with: Calcium chloride ................. 79 67 68 91 Oil .............................. 380 384 474 586 Calcium chloride and oil ......... 41 58 48 62 All other materials .............. 51 45 46 34 ------- ------- ------- ------- Total^fn1 ......................... 546 546 629 769

The sharp falling off of the percentage of coal treated with oil during the years 1942 through 1945 was due to restrictions imposed on the use of oil during World War II.

The following table shows figures published by the Bureau of Mines of the United States Department of Interior: Bituminous coal Year Total coal Bituminous Anthracite treated at the production coal coal mines for production production allaying dust 1940 ........... 512,256,140 460,771,500 51,484,640 35,636,783 1941 ........... 570,517,512 514,149,245 56,368,267 39,546,296 1942 ........... 643,020,666 582,692,937 60,327,729 35,127,551 1943 ........... 650,820,689 590,177,069 60,643,620 26,683,055 1944 ........... 683,277,603 619,576,240 63,701,363 30,772,730 1945 ........... 632,551,236 577,617,327 54,933,909 33,549,238 1946 ........... 594,428,941 533,922,068 60,506,873 37,033,161 1947 ........... 697,813,731 630,623,722 57,190,009 51,794,108 1948 ........... 656,658,177 599,518,229 57,139,948 50,381,696 1949 ........... 480,569,760 437,868,036 42,701,724 41,774,902 The following table shows, by years, the percentage of total bituminous coal produced in the United States at mines where none of the production is treated in any way to allay dust:

Year Per cent

1940 .............................................. 65.04 1941 .............................................. 61.59 1942 .............................................. 65.17 1943 .............................................. 73.93 1944 .............................................. 72.09 1945 .............................................. 71.10 1946 .............................................. 68.76 1947 .............................................. 68.95 1948 .............................................. 67.21 1949 .............................................. 63.24

The following table shows by years, from 1940 through 1949, the percentage of bituminous coal production oil-treated at the mines in the United States:

Per cent Year oil-treated

1940 ....................................... 5.6 1941 ....................................... 5.7 1942 ....................................... 1.9 1943 ....................................... .3 1944 ....................................... 2.1 1945 ....................................... 3.3 1946 ....................................... 4.6 1947 ....................................... 5.5 1948 ....................................... 5.8 1949 ....................................... 7.0

The following table shows, for the years 1940 through 1949, the number of bituminous coal and lignite mines in the United States producing more than 1,000 tons, the number of these mines treating coal with oil for allaying dust, the percentage of these mines treating with oil to the total number of mines, and the percentage of mines treating with all materials to the total number of mines: Number of Number of Year Number mines treating mines treating of mines with oil with all materials 1940 ..................... 6,324 486 614 1441 ..................... 6,822 564 668 1942 ..................... 6,972 334 603 1943 ..................... 6,620 67 393 1944 ..................... 6,928 192 434 1945 ..................... 7,033 296 487 1946 ..................... 7,333 380 546 1947 ..................... 8,700 384 546 1948 ..................... 9,079 474 629 1949 ..................... 8,559 586 769 Percentage of mines Percentage of treating with oil mines treating to total number with all materials Year of mines to total number of mines 1940 ..................... 7.69 9.71 1441 ..................... 8.27 9.79 1942 ..................... 4.79 8.65 1943 ..................... 1.01 5.94 1944 ..................... 2.77 6.26 1945 ..................... 4.21 6.92 1946 ..................... 5.18 7.45 1947 ..................... 4.41 6.28 1948 ..................... 5.22 6.93 1949 ..................... 6.85 8.98 The following table shows in thousands of net tons, for the years 1940 through 1949, (A) the total tonnage of bituminous coal and lignite oil-treated at the mines; (B) the total retail dealer deliveries during those years, treated and untreated; and (C) the percentage that the total oil-treated tonnages bear to the retail dealer deliveries for each year: ( A) ( B) ( C) 1940 .............................. 25,768 87,700 29.38 1941 .............................. 29,258 97,460 30.02 1942 .............................. 11,302 104,750 10.79 1943 .............................. 1,720 122,764 1.4 1944 .............................. 13,189 124,906 10.56 1945 .............................. 18,876 121,805 15.50 1946 .............................. 24,310 100,586 24.17 1947 .............................. 34,668 99,163 34.96 1948 .............................. 34,467 89,747 38.40 1949 .............................. 30,449 90,299 33.72 Statistics published by the Bureau of Mines of the United States Department of Interior divide coal consumers into 8 classes: (1) electric power utilities, (2) bunker foreign trade, (3) railroads (class I) (4) coke plants, (5) steel and rolling mills, (6) cement mills, (7) other industrials, and (8) retail dealer deliveries. Not more than 50 per cent of bituminous coal in the retail dealer deliveries class was oil-treated to allay dust in any of the years 1940 through 1949. The following table shows (A) the percentage of total bituminous coal consumed in the retail dealer deliveries class; (B) 50 per cent of column A; and (C) the percentage of total production of bituminous coal treated at the mines for allaying dust by all methods: ( A) ( B) ( C) 1940 ........................ 20.4 10.2 7.7 1941 ........................ 19.8 9.9 7.7 1942 ........................ 19.4 9.7 6.0 1943 ........................ 20.7 10.35 4.5 1944 ........................ 21.2 10.6 5.0 1945 ........................ 21.8 10.9 5.8 1946 ........................ 20.1 10.05 6.9 1947 ........................ 18.2 9.1 8.2 1948 ........................ 17.3 8.65 8.4 1949 ........................ 20.3 10.15 9.5 With the exception of size 1/4-inch by 0 carbon, petitioner made some sales of non-oil-treated coal in all sizes sold to domestic customers.

The following table shows the combined totals of petitioners' shipments of coal in all sizes, oil-treated and untreated, to industrial and domestic consumers during the months of February and November in each period in controversy, in tons and fractions of tons: Domestic Industrial Total Size untreated 5" Block ...................... 45,857.40 47.00 45,904.40 5 x 3 1/4 Egg ................. 14,395.50 9,305.80 23,701.30 5 x 2 Egg ..................... 2,704.40 2,704.40 3 1/4 x 2 Nut ................. 21,537.85 188.35 21,726.20 3 1/4 x 0 Screenings .......... 2,120.05 2,120.05 2 x 0 Screenings .............. 6,309.70 6,309.70 1' x 1/4 Stoker ............... 3,616.35 356.75 3,973.10 1/4 x 0 Carbon ............... 26,886.50 26,886.50 ________________________________________ Total ................... 88,111.50 45,214.15 133,325.65 ======================================== Size treated 5" Block ...................... 300.00 300.00 5 x 3 1/4 Egg ................. 181.85 181.85 5 x 2 Egg ..................... 45.65 45.65 3 1/4 x 2 Nut ................. 485.70 485.70 3 1/4 x 0 Screenings .......... 2 x 0 Screenings .............. 1 x 1/4 Stoker ................ 91,370.15 688.15 92,058.30 1/4 x 0 Carbon ................ 8,995.15 394.05 9,389.20 ________________________________________ Total ................... 101,378.50 1,082.20 102,460.70 ======================================== Total all sizes 5" Block ...................... 46,157.40 47.00 46,204.40 5 x 3 1/4 Egg ................. 14,577.35 9,305.80 23,883.15 5 x 2 Egg ..................... 2,750.05 2,750.05 3 1/4 x 2 Nut ................. 22,023.55 188.35 22,211.90 3 1/4 x 0 Screenings .......... 2,120.05 2,120.05 2 x 0 Screenings .............. 6,309.70 6,309.70 1 x 1/4 Stoker ................ 94,986.50 1,044.90 96,031.40 1/4 x 0 Carbon ................ 8,995.15 27,280.55 36,275.70 ________________________________________ Total ..................... 189,490.00 46,296.35 235,786.35 The following table relating to Kentucky and Virginia shows, for the years 1947, 1948, and 1949, the number of bituminous coal and lignite mines producing more than 1,000 tons, the number of mines treating coal for allaying dust, and the percentage of mines treating coal for allaying dust to the total number of mines in those states: 1947 1948 1949 Number Number Number Number Number Number of mines treating of mines treating of mines treating Kentucky ...... 2,610 97 2,516 113 2,360 123 Virginia ...... 267 22 247 31 335 37 __________________________________________________________ Total ..... 2,877 119 2,763 144 2,695 160 Percentage of Mines Treating to Total Number of Mines 1947 1948 1949 4.1 5.2 5.9 The following table shows for the years 1947, 1948, and 1949, the tonnage of bituminous coal produced in Kentucky and Virginia, the tonnage of such coal from these States which was treated at the mines for allaying dust, and the percentage of production treated to total production: 1947 1948 1949 Total Tonnage Total Tonnage Total tonnage treated tonnage treated tonnage Kentucky ..... 84,240,682 8,388,953 82,083,939 9,665,560 62,583,264 Virginia ..... 20,170,799 4,247,599 17,999,405 3,478,827 14,584,087 Total .... 104,411,481 12,636,552 100,083,344 13,144,387 77,167,351 Tonnage treated Kentucky ..... 7,280,367 Virginia ..... 2,337,580 __________ Total .... 9,617,947 Percentage of Coal Treated to Total Production 1947 1948 1949 12.10 13.13 12.46 Coal which is not oil-treated represents the first commercially marketable mineral product.

Oil-treated coal is coal which is specially treated.

At least since 1905 and through the year 1949, all coal has been cleaned by mine owners or operators, either by hand or by machine.

At least since 1905 and through the year 1949, most coal has been sized by mine owners or operators.

All mines serving the coal trade in competition with each other, and producing more than 1,000 tons, size and clean their coal.

The greater share of anthracite coal is broken by mine owners or operators.

Practically all coal, except what might be used in the boiler at the mines, is loaded for shipment.

In cleaning, breaking, sizing, and loading for shipment, no material is added to the coal.

The fines, i. e., sizes less than 2 inches, represent roughly one-half the tonnage of a coal mine.

A stoker uses sizes less than 2 inches in order to gain the difference in cost between those sizes and the larger sizes.

There is a market for petitioner's stoker coal and for bituminous stoker coal generally which is not oil-treated.

The oil treatment of coal represents a further refinement of the first salable product which is a step beyond the mining operation.

The oil treatment of bituminous coal is not an ordinary treatment process normally applied by mine owners or operators in order to obtain the first commercially marketable coal product.

OPINION.

ARUNDELL, J., dissenting:

Petitioner subjected a part of the output of its coal mine to an oil treatment process designed to make the coal more salable for domestic home heating purposes. Our query is whether the price received for the coal so treated may be used in its entirety as gross income from the mining property for purposes of computing depletion under section 114 (b) (4) (A) of the Internal Revenue Code. The applicable statutes are quoted in the majority opinion.

The statute makes clear that mining is not limited to the mere extraction of the ore, but includes the "ordinary treatment processes normally applied by mine owners or operators in order to obtain the commercially marketable mineral product or products." There is no question that the oil treatment was a process applied by mine owners to obtain a commercially marketable product, but the majority have concluded that the oil treatment was not an ordinary treatment process normally applied by mine owners. This conclusion is based largely on statistics.

Certainly the oil process was not unusual or extraordinary, for the amount of coal treated with oil or in a similar manner to allay the coal dust ran into millions and millions of tons a year and a very large part of the bituminous coal which was used for heating homes was so treated. In fact, it is doubtful if there would have been any considerable market for bituminous coal for home heating purposes if the coal had not been given this treatment. In a competitive economy, there are always new and better methods being used to accomplish the same end, and whether the coal was washed with water or oil to allay the coal dust should not be a determinative matter in the construction of this statute.

The statute looks to a broad construction for, while it names certain treatment processes as "ordinary," its very wording suggests that other treatment processes may well come within the ambit of the statute.

I would hold that the oil treatment was an ordinary process normally applied by mine owners in order to obtain a commercially marketable product within the meaning of the statute. It would follow that the price received for the coal so treated would constitute gross income for the purposes of computing depletion.