## Facts

- Five consolidated federal tax cases presented the same question involving assignments of carved-out oil or sulphur payment rights.
- P. G. Lake, Inc., an oil and gas producer, held a seven-eighths working interest in two producing leases.
- In 1950, Lake owed its president $600,000 and, to satisfy the debt, assigned him an “oil payment” right totaling $600,000 plus 3% interest, payable out of 25% of oil attributable to Lake’s working interests.
- The payment right was expected to pay out over three or more years and did so in a little over three years.
- Lake reported the assignment as a sale producing long-term capital gain under § 117 of the Internal Revenue Code of 1939.
- The Commissioner determined a deficiency, treating the consideration as ordinary income (subject to depletion).
- In the Fleming case, taxpayers exchanged oil payment rights for fee simple interests in real estate and claimed nonrecognition as a like-kind exchange under § 112(b)(1) of the 1939 Code.
- The Fifth Circuit ruled for the taxpayers; the Supreme Court granted review and consolidated the cases.

## Issues

1. Whether lump-sum consideration received for assigning a carved-out oil or sulphur payment right is taxable as ordinary income or as long-term capital gain under § 117 of the Internal Revenue Code of 1939.
2. Whether exchanging oil payment rights for fee simple real estate qualifies as a tax-free like-kind exchange under § 112(b)(1) of the Internal Revenue Code of 1939.

## Decision

- The Supreme Court reversed the Fifth Circuit.
- Consideration received for assigning carved-out oil or sulphur payment rights was taxable as ordinary income, subject to depletion, not as long-term capital gain under § 117.
- The exchange of oil payment rights for fee simple interests in real estate did not qualify as a like-kind exchange under § 112(b)(1).
- Reliance on a prior, non-public administrative practice contrary to the Commissioner’s position did not bind the Government or control statutory meaning.

## Legal Principles

- A lump-sum received for assigning a carved-out mineral payment right is taxed according to substance: it is consideration for the right to receive future ordinary income, not gain from appreciation of an income-producing capital asset.
- Retaining the underlying mineral interest while transferring a limited right to production proceeds generally reflects an acceleration or substitution of ordinary income rather than a sale of a capital asset for capital-gain treatment.
- Unpublished, informal administrative practice is not presumed incorporated into a statute by congressional reenactment; administrative interpretations may change through the agency’s continuing rulemaking authority.
- Oil payment rights are not “like kind” to fee simple interests in real estate for nonrecognition under § 112(b)(1) when the rights function as a limited entitlement to a defined income stream.

## Conclusion

The Court treated carved-out mineral payment assignments as transactions converting a future stream of ordinary income into present cash; accordingly, the proceeds were ordinary income (with depletion), and an exchange of such payment rights for fee simple real estate was not a tax-free like-kind exchange under the 1939 Code.


Commissioner v. P. G. Lake, Inc., 356 U.S. 260 (1958)