Rev. Rul. 79-347

ISSUE

How should the limitations of sections 246(b)(1) and 613A(d) of the Internal Revenue Code, both of which are stated as a percentage of taxable income, be applied in calculating the taxpayer's taxable income when the taxpayer is entitled to deductions for dividends received under section 243 and for percentage depletion under section 613A(c)?

FACTS

The taxpayer, a domestic corporation, is entitled to a dividends received deduction under section 243 of the Code and a percentage depletion allowance under section 613A(c). The deduction under section 243 is limited by section 246(b) to 85 percent of taxable income computed without regard to certain deductions set forth therein and the depletion allowance allowable under section 613A(c) is limited to 65 percent of the taxable income computed in the manner described in section 613A(d).

If the limitation of section 246(b)(1) of the Code was not applied, the taxpayer would not have a net operating loss under section 172. The taxpayer did not receive any dividends on preferred stock for purposes of the deduction allowed under section 244. The taxpayer did not receive any dividends paid from certain foreign corporations as described in section 245 or receive any dividends paid on certain preferred stock of public utilities for purposes of section 247, and did not have a capital loss carryback under section 1212(a)(1).

The taxpayer had the following amounts of income and potential deductions:

                                                           x

The applicable sections of the Code are sections 243, relating to dividends received by a domestic corporation; 246(b), relating to the limitation on aggregate amount of deduction allowed by section 243; 613A(c), relating to the exception for allowance of depletion for independent producers and royalty owners; and 613A(d), relating to the limitation of the application of section 613A(c).

Section 243(a)(1) of the Code provides that in the case of a corporation, there shall be allowed as a deduction an amount equal to 85 percent of the amount received as dividends from a domestic corporation that is subject to United States income taxation.

Section 246(b)(1) of the Code limits the aggregate amount of the deductions allowed by section 243(a)(1) and certain other deductions not here relevant to 85 percent of taxable income computed without regard to the deductions allowed by section 243(a)(1).

Section 246(b)(2) of the Code provides that section 246(b)(1) shall not apply for any taxable year for which there is a net operating loss (as determined under section 172).

Section 613A of the Code generally repealed the allowance of percentage depletion in the case of oil and gas wells. However, section 613A(c) allows an exemption for independent producers and royalty owners.

Section 613A(d)(1) of the Code limits the deduction attributable to the application of section 613A(c) to 65 percent of the taxable income computed without regard to any depletion deduction subject to the provisions of section 613A(c) and certain other deductions not here relevant.

ANALYSIS

Section 613A(d) of the Code contains a limitation based upon taxable income computed, in part, by taking into account the dividends received deduction under section 243 as limited by section 246(b). Conversely the limitation contained in section 246(b) is based upon taxable income computed, in part, by taking into account the depletion deduction under section 613A(c) as limited by section 613A(d)(1). This interrelationship may be expressed in two linear equations:

                          x = .65 (G - y) and

From the given equations the unknowns are resolved as follows:

                          x = .65G - .65y

      (1) Solving for x--

The taxpayer's net taxable income is computed as follows:

                                                          x Dollars

The computation of the dividends received deduction under section 243(a)(1) of the Code as limited by section 246(b)(1) and the computation of the percentage depletion deduction under section 613A(c) as limited by section 613A(d) may be made simultaneously by the use of the equations set forth above (x = .65 (G - y) and y = .85 (G - x)). However, the first step is to determine if the taxpayer would have a net operating loss because the section 246(b)(1) limitation does not apply if the taxpayer has a net operating loss. If either the limitation on the section 243(a)(1) deduction or the limitation on the section 613A(c) deduction exceeds the amount of the deduction actually available, then the lesser amount (the actual deduction) must be used in calculating the limitation upon the other item.