Southwest Royalties, Inc. v. Glenn Hegar, Comptroller of Public Accounts of the State of Texas, and Ken Paxton, Attorney General of the State of Texas
500 S.W.3d 400
| Tex. | 2016Background
- Southwest Royalties, an oil and gas exploration and production company, paid sales taxes on casing, tubing, pumps, and related services for purchases from 1997–2001 and filed a refund claim in 2009 asserting a Tax Code manufacturing/processing exemption (Tex. Tax Code §151.318).
- Southwest argued the equipment was used in "processing" because hydrocarbons undergo physical phase changes (liquid↔gas) as they are brought from the reservoir into casing/tubing and to the surface, thus qualifying as tangible personal property that was processed.
- The Comptroller denied the refund, taking the position that bringing oil and gas to the surface is not ‘‘processing’’ within the meaning of the exemption unless additional affirmative actions (e.g., using CO2 to change oil gravity) physically alter the hydrocarbons.
- At bench trial the court found (unchallenged by Southwest) that hydrocarbons experience physical changes due to natural pressure and temperature differences as they move to the surface, and that Southwest’s equipment was at most an indirect cause (a conduit) rather than the direct cause of those changes.
- The trial court concluded Southwest failed to prove the equipment directly caused physical changes necessary to qualify as "actual manufacturing, processing, or fabrication;" the court rendered judgment for the State, affirmed by the court of appeals, and the Texas Supreme Court affirmed.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether "processing" in §151.318 includes the physical changes hydrocarbons undergo when brought to surface | Hydrocarbons become tangible personal property once severed into casing and the casing/tubing system effectuates separation into components, so equipment is used in "processing" | Exemption must be construed narrowly; extracting/severing and bringing hydrocarbons to surface is not "processing" or "manufacturing" absent property directly causing the change | Court held "processing" means application of materials/labor that directly modifies characteristics; statutory language unambiguous in context and does not cover mere conveyance to surface |
| Whether the equipment directly caused the physical changes (necessary to qualify for exemption) | Equipment is necessary to recovery and thus is used in actual processing that causes separation | Phase changes are directly caused by natural pressure/temperature; equipment only indirectly enables movement to surface | Court held evidence showed pressure/temperature directly caused changes and equipment was only an indirect cause, so exemption not proved |
| Whether the statute is ambiguous such that agency deference is warranted | Southwest: statute can cover processing distinct from manufacturing; agency deference appropriate if ambiguous | State: statute should be narrowly construed; agency interpretation consistent but court should apply plain meaning | Court held the statutory term "processing" is not ambiguous in context and means application of materials and labor to modify characteristics, so no deference to agency interpretation needed to alter plain meaning |
| Applicability of pollution-control / public-health subsections (§151.318(a)(5),(10)) | Equipment is essential to pollution control and compliance, so those subsections apply | Equipment did not perform pollution-control or regulatory-compliance actions that directly changed product characteristics | Court did not reach these alternative arguments because Southwest failed to show equipment used in "actual processing" under the primary provisions; exemption denied |
Key Cases Cited
- First Am. Title Ins. Co. v. Combs, 258 S.W.3d 627 (Tex. 2008) (de novo statutory construction and agency-deference principles)
- R.R. Comm’n of Tex. v. Tex. Citizens for a Safe Future & Clean Water, 336 S.W.3d 619 (Tex. 2011) (agency deference appropriate only if statute ambiguous)
- Combs v. Roark Amusement & Vending, L.P., 422 S.W.3d 632 (Tex. 2013) (ambiguity requires courts to consider multiple reasonable interpretations)
- Thompson v. Tex. Dep’t Licensing & Regulation, 455 S.W.3d 569 (Tex. 2014) (undefined statutory terms given ordinary meaning consistent with context)
- Bullock v. Nat’l Bancshares Corp., 584 S.W.2d 268 (Tex. 1979) (tax exemptions must be narrowly construed and taxpayer bears burden to clearly show exemption)
- $1,760.00 in U.S. Currency v. State, 406 S.W.3d 177 (Tex. 2013) (use of ordinary meaning for undefined statutory terms)
- Rylander v. Haber Fabrics Corp., 13 S.W.3d 845 (Tex. App.—Austin 2000) (processing requires applying materials and labor to change characteristics)
- Firestone Tire & Rubber Co. v. Bullock, 573 S.W.2d 498 (Tex. 1978) (agency definitions and aids considered but cannot expand statute)