                     109 T.C. No.19



                 UNITED STATES TAX COURT



  DUKE ENERGY NATURAL GAS CORPORATION, Petitioner v.
     COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket No.   12720-96.            Filed December 16, 1997.



     P owns and operates various systems of
interconnected subterranean natural gas gathering
pipelines and related compression facilities (the
gathering systems). P argues that the modified
accelerated cost recovery system allows P to depreciate
the gathering systems over 7 years because P is a
producer of natural gas within the meaning of Class
13.2 of Rev. Proc. 87-56, 1987-2 C.B. 674. R argues
that P must depreciate the gathering systems over 15
years because P transports gas, which brings P within
Class 46.0 of Rev. Proc. 87-56, supra.
     Held: P transports, and does not produce, gas;
thus, P must depreciate the gathering systems over 15
years.
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     Thomas P. Marinis, Jr., Sarah A. Duckers, and Charles T.

Fenn, for petitioner.


     Emron M. Pratt, Jr. and Todd A. Ludeke, for respondent.

                                  OPINION


     LARO, Judge:    The parties submitted this case to the Court

without trial.    See Rule 122.    Petitioner petitioned the Court to

redetermine respondent's determination of income tax deficiencies

of $399,369 and $753,089 for its taxable years ended

September 30, 1991, and September 30, 1992, respectively.

     We must decide the cost recovery period of certain natural

gas recovery systems under the modified accelerated cost recovery

system (MACRS).   Petitioner argues for a 7-year recovery period.

Respondent argues for a 15-year recovery period.     We hold for

respondent.   Unless otherwise noted, section references are to

the Internal Revenue Code in effect for the years in issue.     Rule

references are to the Tax Court Rules of Practice and Procedure.

References to "asset class" are to the asset classes set forth in

Rev. Proc. 87-56, 1987-2 C.B. 674.

                             Background

     All facts are stipulated.      The stipulated facts and exhibits

submitted therewith are incorporated herein by this reference.

Petitioner is the common parent of an affiliated group of

corporations which file consolidated Federal income tax returns.
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Petitioner's principal place of business was in Denver, Colorado,

when it petitioned the Court.

     Petitioner's wholly owned subsidiary owns and operates the

subject assets.   These assets, which are depreciated under MACRS,

consist of various systems of interconnected subterranean natural

gas gathering pipelines and related compression facilities (the

gathering systems).   The main gathering systems are known as:

(1) The Weld County system, which is located north of Denver,

Colorado, (2) the Milfay/Keystone system, which is located in

eastern Oklahoma, and (3) the Minden system, which is located in

northern Louisiana and southern Arkansas.

     The gathering systems' pipelines are laid out like a "spider

web", with small diameter pipelines connecting a well to larger

diameter pipelines that mainly deliver "raw" gas to a processing

plant in or near the oil and gas fields served by the pipelines.

Petitioner does not own an interest in the oil and gas wells that

produce the gas collected by the gathering systems.

     A gathering system may be owned or operated by a producer or

by an independent gatherer like petitioner.   In either case, the

system serves the same function.   Some of petitioner's systems

were once owned by producers, and those systems continue to serve

the same wells that they served before petitioner acquired them.

Those systems continue to perform the same functions as they did

before acquisition.
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     Generally, natural gas emerges from a well as a mixture of

gas and liquids, and the gas is separated from the liquids by

passing through a separator near the well or at a central

gathering point.   After separation, the gas continues to contain

entrained natural gas liquids (NGL's) which interfere with

domestic or commercial use of the gas as an energy source.    A

processing plant is needed to remove the NGL's from the gas and

to condition the gas in order to produce processed (dry) gas.

Approximately 81 percent of the gathering systems deliver raw gas

directly to petitioner's processing plants or to processing

plants owned by unrelated third parties.    The other gathering

systems dehydrate raw gas and deliver it directly to intrastate

and interstate transmission pipelines without processing.

Regardless of whether or not the gas is processed before

delivery, title to the gas usually transfers to petitioner at the

point where petitioner's gathering system connects with a

producer's separation facilities.   Title to the gas also passes

to petitioner in some cases at a common field point where raw gas

from two or more wells has been gathered.

     The majority of the natural gas that flows through

petitioner's systems is purchased by petitioner under long-term

contracts with producers.   Most of these contracts are

"percentage of proceeds" contracts under which the parties

thereto share revenues from sales of dry gas and NGL's that occur
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after the gas and NGL's leave the processing plants.   A second

type of contract is a "keep whole" contract that provides for the

redelivery to the producer of a volume of dry gas; in this case,

the producer receives 100 percent of the dry gas and petitioner

receives 100 percent of the proceeds from the sale of the NGL's

(and sometimes a processing fee).   A third type of contract is a

"wellhead purchase" contract under which the producer receives a

stated price for the gas that is delivered, and petitioner

receives payment when the gas or NGL's are sold.

                            Discussion

     In a case of first impression in this Court, we must

determine the appropriate class life over which petitioner may

depreciate its gathering systems.   The issue is purely one of

timing in that the parties agree that petitioner may depreciate

the assets, but disagree over the period of time that the

depreciation must be taken into account for Federal income tax

purposes.   Respondent determined that petitioner must depreciate

the assets over 15 years because the assets are within asset

class 46.0, and respondent's primary position in this proceeding

is the same.   Petitioner argues primarily for a 7-year recovery

period, asserting that the assets are within asset class 13.2.

Petitioner argues alternatively that the assets are either within

asset class 49.23, or not within any class; either classification

would let petitioner depreciate the assets over 7 years.
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Respondent argues, alternatively, that, if the assets are not

within asset class 46.0, they are within asset class 00.3.      Asset

class 00.3 provides for a 15-year recovery period.

     We agree with respondent's primary position.    The Code lets

taxpayers deduct depreciation for the exhaustion, wear and tear,

or obsolescence of property used in a trade or business.     Sec.

167(a); see also Simon v. Commissioner, 103 T.C. 247 (1994),

affd. 68 F.3d 41 (2d Cir. 1995).   For tangible property, such a

deduction is computed by reference to the applicable depreciation

method, recovery period, and convention.   Sec. 168(a).    Under

MACRS, which generally applies to tangible property placed in

service after December 31, 1986, the recovery period depends on

the asset's class life, sec. 168(e), which, for purposes of this

case, is found by reference to Rev. Proc. 87-56, 1987-2 C.B. 674.

See sec. 168(i); see also sec. 167(m)(before repeal).     The

classes at issue are as follows:

          Asset Class 00.3--Land Improvements: Includes
     improvements directly to or added to land, whether such
     improvements are section 1245 property or section 1250
     property, provided such improvements are depreciable.
     Examples of such assets might include sidewalks, roads,
     canals, waterways, drainage facilities, sewers * * *.
     Does not include land improvements that are explicitly
     included in any other class * * *. * * *

          Asset Class 13.2--Exploration for and Production
     of Petroleum and Natural Gas Deposits: Includes assets
     used by petroleum and natural gas producers for
     drilling of wells and production of petroleum and
     natural gas, including gathering pipelines and related
     storage facilities. Also includes petroleum and
     natural gas offshore transportation facilities used by
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     producers and others consisting of platforms * * *,
     compression or pumping equipment, and gathering and
     transmission lines to the first onshore transshipment
     facility * * *. * * *

          Asset Class 46.0--Pipeline Transportation:
     Includes assets used in the private, commercial, and
     contract carrying of petroleum, gas and other products
     by means of pipes and conveyors. The trunk lines and
     related storage facilities of integrated petroleum and
     natural gas producers are included in this class. * * *

          Asset Class 49.23--Natural Gas Production Plant:
     [No description given].

Rev. Proc. 87-56, supra, 1987-2 C.B. at 677, 678, 684, 686.       A

15-year recovery period is assigned to property within either

asset class 46.0 or asset class 00.3.    A 7-year recovery period

is assigned to property within either asset class 13.2 or asset

class 49.23.    Sec. 168(c), (e)(1); see also Rev. Proc. 87-56,

supra, 1987-2 C.B. at 677, 678, 684, 686.    Property without a

class life generally has a 7-year recovery period.    Sec.

168(e)(3)(C).

     Asset class 13.2 and asset class 46.0, when read together,

refer to assets used in the process that starts with the drilling

and removal from the ground of petroleum and natural gas

(production) and ends with the transportation of the gas to its

end use.   The question, therefore, is whether petitioner's

gathering systems produce or transport gas.    We conclude that

they transport gas.    The gathering systems are primarily

pipelines that are used by a nonproducer privately, commercially,

and/or contractually to carry gas; they are not used by a
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producer to drill wells or produce gas.      See Williams & Meyers,

Manual of Oil & Gas Terms, 866 (9th ed. 1994)("production of gas"

means "bringing forth gas from the earth"); see also sec.

1.167(a)-11(b)(4)(iii)(b), Income Tax Regs.      Given this

conclusion, the gathering systems fall squarely within the

language of asset class 46.0.    Although asset class 13.2 includes

"gathering pipelines and related storage facilities", those

pipelines and facilities must be used by a producer to fall

within that class.

     Petitioner argues that its gathering systems are outside

asset class 46.0 because they do not carry gas within the meaning

of that class.   According to petitioner, asset class 46.0

includes only pipelines that move natural gas from a production

plant to an end user such as a distribution facility.      Petitioner

asserts that its gathering systems do not transport gas, but

gather and/or process it.    We disagree.    We decline to conclude

that a pipeline company is carrying gas within the meaning of

asset class 46.0 when it pipes the gas from a production plant to

an end user, but not when it pipes the gas from the well to the

production plant.    Although petitioner invites us to draw a

distinction in this case, arguing that its pipelines are

fundamentally different from the transmission systems of other

nonproducers, we decline to do so.      Any difference between

petitioner's pipelines and the transmission pipelines of other
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nonproducers is a mere distinction without a difference and does

not merit a different result herein.   Nor do we find dispositive

petitioner's reliance on the practice of the Federal Energy

Regulatory Commission (FERC), with respect to gas transmission

systems, on the one hand, and gas production and/or gathering

facilities on the other.   We find no evidence that FERC's

practice on this subject has been adopted by either the Congress

or the Commissioner of Internal Revenue (the Commissioner) in

their promulgation of the laws, rules, and regulations which make

up our Federal income tax regime.

     Petitioner argues that its gathering systems are included in

asset class 13.2 because the systems are used by petroleum and

natural gas producers to produce natural gas in that the systems

are essential to the production and sale of gas in the market.

We disagree with petitioner's conclusion.   The mere fact that the

gathering systems may have helped producers produce and sell

their gas in the market does not mean that the systems are

exploration or production assets within the realm of asset class

13.2.   Nor is it dispositive here that some producers own their

own gathering systems, which, in those cases, place the systems

within asset class 13.2.   The critical fact is that petitioner's

gathering systems are not used by producers to produce gas.    They

are used primarily by a pipeline company to carry gas to a
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production facility, which, as such, brings them within asset

class 46.0.   See sec. 1.167(a)-11(b)(4)(iii)(b), Income Tax Regs.

     Our conclusions herein are supported by our understanding of

the evolution of asset class 13.2.       In Rev. Proc. 62-21, 1962-2

C.B. 418, the Commissioner began grouping assets into broad

industry classes for depreciation purposes.      Group Three,

Guideline Class 17(b), entitled "Exploration, Drilling and

Production" states:   "Includes the exploration, drilling,

maintenance and production activities of petroleum and natural

gas producers.   Includes gathering pipelines and related storage

facilities of such producers.    Excludes gathering pipelines and

related storage facilities of pipeline companies."       Id. at 424.

Under this description, petitioner's gathering systems clearly

would not have been included in this class because the pipelines

are owned by a pipeline company and not a producer.

     Later, when the Commissioner prescribed the asset classes

and guideline lives for purposes of the asset depreciation range

system, the Commissioner carried forward a similar limitation.

Rev. Proc. 71-25, 1971-2 C.B. 553, 556, provides that asset class

13.2 "Includes assets used for drilling of wells and production

of petroleum and natural gas, including gathering pipelines and

related storage facilities, when these are related activities

undertaken by petroleum and natural gas producers."      After

restating this description without change, see Rev. Proc. 72-10,
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1972-1 C.B. 721, the Commissioner changed this language to read

exactly as the first sentence of asset class 13.2 reads today.

See Rev. Proc. 77-10, 1977-1 C.B. 548.    In making the latest

change, the Commissioner noted explicitly that the change was

"not intended to modify the composition of the existing classes

of Rev. Proc. 72-10."    Sec. 1.04 of Rev. Proc. 77-10, supra at

548.

       We conclude that the gathering systems are included in asset

class 46.0, and we so hold.    In so holding, we have considered

the recent opinion of the U.S. District Court for the District of

Wyoming, which reaches a contrary holding in a setting that is

similar to the one at hand.    See True v. United States, No.

96-CV-1050-J (D. Wyo. Nov. 3, 1997)(order granting motion for

partial summary judgment).    Although we agree with the District

Court that the classification of assets for depreciation purposes

rests on each asset's primary use, we do not agree that pipeline

companies such as petitioner use gathering lines primarily to

produce petroleum.    The District Court did not consider the

evolution of the language in asset class 13.2, which we find to

be most helpful to our inquiry.    The court also did not consider

the industry definition of the word "production".

       We have carefully considered all arguments made by

petitioner for a contrary holding and, to the extent not

discussed above, find them to be irrelevant or without merit.
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To reflect the foregoing,


                                  Decision will be entered

                             for respondent.
