For Tax Professionals  
REG-103882-99 February 09, 2000

Depletion; treatment of delay rental

DEPARTMENT OF THE TREASURY
Internal Revenue Service 26 CFR Part 1 [REG-103882-99] RIN 1545-AX06

TITLE: Depletion; treatment of delay rental

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking and notice of public hearing.

SUMMARY: This document contains proposed amendments conforming
regulations relating to delay rental to the requirements of section
263A relating to capitalization and inclusion in inventory of costs
of certain expenses. Changes to the applicable law were made by the
Tax Reform Act of 1986 and the Technical and Miscellaneous Revenue
Act of 1988. The proposed regulations provide the public with
guidance concerning the application of section 263A to delay rental.

DATES: Written comments must be received by May 8, 2000. Outlines of
topics to be discussed at the public hearing scheduled for May 26,
2000, at 10 a.m. must be received by May 5, 2000.

ADDRESSES: Send submissions to: CC:DOM:CORP:R (REG-103882-99), room
5226, Internal Revenue Service, POB 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may be hand delivered between the
hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:R (REG-103882-99),
Courier's Desk, Internal Revenue Service, 1111 Constitution Avenue,
NW., Washington, DC. Alternatively, taxpayers may submit comments
electronically via the Internet by selecting the "Tax Regs" option
on the IRS Home Page, or by submitting comments directly to the IRS
Internet site at
http://www.irs.ustreas.gov/prod/tax_regs/regslist.html.

The public hearing will be held in room 2615, Internal Revenue
Building, 1111 Constitution Avenue, NW., Washington, DC. FOR FURTHER
INFORMATION CONTACT: Concerning the regulation, Brenda M. Stewart,
(202) 622-3120; concerning submissions and the hearing, LaNita Van
Dyke, (202) 622-7180 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

This document contains proposed amendments to the Income Tax
Regulations (26 CFR part 1) under section 612 to conform them to the
requirements of section 263A. Section 263A was enacted by the Tax
Reform Act of 1986, Public Law 99-514 (100 Stat. 2085), and amended
by the Technical and Miscellaneous Revenue Act of 1988, Public Law
100-647 (102 Stat. 3342). Explanation of Provisions Under the terms
of a lease of mineral property, the lessee acquires, for a stated
term, the right and obligation to obtain production of minerals from
the property. A lease may provide that for each year that the lessee
fails to make efforts to obtain production, the lessee must pay a
"delay rental" to the lessor. Section 1.612-3(c)(1) of the final
regulations defines a delay rental as an amount paid for the
privilege of deferring development of the property and which could
have been avoided by abandonment of the lease, or by commencement of
development operations, or by obtaining production. Section
1.612-3(c)(2) of the final regulations provides that since a delay
rental is in the nature of rent, it is ordinary income to the payee
and not subject to depletion. The payor may at his election deduct
the delay rental as an expense, or charge it to depletable capital
account under section 266.

Section 263A was enacted subsequent to the issuance of 1.612-3(c)
of the final regulations. The uniform capitalization rules of
section 263A generally require the capitalization of all direct
costs and certain indirect costs properly allocable to property
produced by the taxpayer. Capitalization may be required even though
production (development) has not yet begun. 1.263A-2(a)(3)(ii). In
some situations, a delay rental may be required to be capitalized
under section 263A. Accordingly, the proposed regulation clarifies
that subsequent to the enactment of section 263A, the payor of a
delay rental may elect to expense currently the delay rental or
charge it to depletable capital account under section 266 to the
extent that the delay rental is not required to be capitalized under
section 263A and the regulations thereunder.

Special Analyses

It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in.4 Executive Order
12866. Therefore, a regulatory assessment is not required. It has
also been determined that section 553(b) of the Administrative
Procedure Act (5 U.S.C. chapter 5) does not apply to these
regulations, and because the regulations do not impose a collection
of information on small entities, a Regulatory Flexibility Analysis
is not required. Pursuant to section 7805(f) of the Internal Revenue
Code, this notice of proposed rulemaking will be submitted to the
Chief Counsel for Advocacy of the Small Business Administration for
comment on its impact on small business.

Comments and Public Hearing

Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments that are
submitted timely (a signed original and eight copies) to the IRS.
The IRS and Treasury request comments on the clarity of the proposed
regulations and they may be made easier to understand. All comments
will be made available for public inspection and copying.

A public hearing has been scheduled for May 26, 2000, at 10 a.m. in
room 2615, Internal Revenue Building, 1111 Constitution Avenue NW.,
Washington, DC. Because of access restrictions, visitors will not be
admitted beyond the Internal Revenue Building lobby more than 15
minutes before the hearing starts. The rules of 26 CFR 601.601(a)(3)
apply to the hearing. Persons that wish to present oral comments at
the hearing must submit written comments (a signed original and
eight (8).5 copies) by May 8, 2000. The outline of topics to be
discussed at the hearing must be received by May 5, 2000.

A period of 10 minutes will be allotted for each person for making
comments.

An agenda showing the scheduling of the speakers will be prepared
after the deadline for receiving outlines has passed. Copies of the
agenda will be available free of charge at the hearing.

Drafting Information

The principal author of this proposed regulation is Brenda M.
Stewart of the Office of Assistant Chief Counsel (Passthroughs and
Special Industries), Internal Revenue Service. However, other
personnel from the IRS and Treasury Department participated in its
development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and recordkeeping requirements. Proposed
Amendments to the Regulations Accordingly, 26 CFR part 1 is proposed
to be amended as follows:

PART 1--INCOME TAX

Paragraph 1. The authority citation for part 1 continues to read in
part as follows:

Authority: 26 U.S.C. 7805 * * *

Par. 2. In 1.612-3, the second sentence of paragraph (c)(2) is
removed and two sentences are added in its place to read as follows:

1.612-3 Depletion; treatment of bonus and advanced royalty.

* * * * *

(c) * * *

(2) * * * To the extent the delay rental is not required to be
capitalized under section 263A and the regulations thereunder, the
payor may at his election deduct such amount or under section 266
and the regulations thereunder, charge it to depletable capital
account. The second sentence of this paragraph (c)(2) applies to
delay rentals paid with respect to leasing transactions entered into
on or after the date these regulations are published as final
regulations in the Federal Register.

* * * * *

Robert E. Wenzel
Deputy Commissioner of Internal Revenue


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