Charles J. Heitzman v. Commissioner of the Internal Revenue Service

Charles J. Heitzman, a limited partner in Stonehurst Energy Partners, both of whom operated under the accrual method of accounting for tax purposes, deducted his share of the partnership’s obligation for advanced oil and gas royalties and for the costs of drilling oil and gas wells on his 1979 return. The Commissioner disallowed the deductions. The Tax Court upheld the Commissioner. We affirm.

I.

On December 29, 1979, Stonehurst entered a sublease for land on which it planned to drill oil and gas wells. The sublease provided that Stonehurst’s obligation to pay the first year’s royalties would accrue on the execution of the sublease, and for the second and subsequent years on each anniversary of the execution date. If the wells produced oil or gas, the accrued royalties were to be paid out of earnings from production. Accrued royalties not satisfied out of production were to be paid by 1994. Heitzman personally assumed primary liability for payment of his share of the accrued royalties. No oil or gas was produced in 1979. Nonetheless, Stonehurst claimed the first year’s accrued royalties as a deduction on its 1979 tax return. Heitzman claimed a pro-rata share of Stonehurst’s…