Arthur E. Reich v. Commissioner of Internal Revenue, George D. Rowan v. Commissioner of Internal Revenue

These appeals from Tax Court decisions present two questions: (1) Are the taxpayers’ reserves of geothermal steam an exhaustible natural resource? (2) Is geothermal steam a “gas” within the meaning of Internal Revenue Code §§ 263(c), 611(a), and 613(b), which allow a percentage depletion deduction for the intangible costs of drilling and developing oil and gas wells ?

The Tax Court held in favor of the taxpayers on each question. Reich v. Commissioner, 52 T.C. 700 (1969) and Rowan v. Commissioner, 28 Tax Ct. Mem. 797 (1969). The Commissioner appeals. We affirm.

Taxpayers are all engaged in the business of drilling for geothermal steam in an area 75 miles north of San Francisco known as The Geysers. First discovered by a bear hunter in 1847, this canyon of steam fumaroles and geysers later became a tourist attraction. Successful commercial development of the steam field for geothermal power began in 1955.

Between 1957 and 1968 the taxpayers drilled 42 wells and the Pacific Gas and Electric Company built an electric generating plant to convert the energy in the superheated steam into electricity. The plant employs turbine generators, which are activated by the impulse of steam…