Krause v. Commissioner

Beginning in the mid-1970s, war in the Middle East and other factors caused a worldwide oil crisis. The federal government introduced a range of programs aimed at achieving energy independence in the United States, including incentives for companies that invested in enhanced oil recovery (EOR) technology. In 1979, the government launched a program that allowed qualifying oil companies to sell oil at market prices, a boon compared to the controlled prices for crude oil, in order to make up for their expenses related to EOR projects. Oil generated through the use of EOR technology also qualified for favorable tax treatment. Thus, many limited partnerships were formed for purposes of obtaining and deploying EOR technology to drill for oil and natural gas. R.A. Hildebrand and Dorothy A. Hildebrand Wahl (the Hildebrands) (plaintiffs) invested in one such partnership, Technology-1980. Gary E. Krause (plaintiff) invested in another, known as Barton. The commissioner of internal revenue (defendant) determined that losses claimed by the Hildebrands and Krause associated with the partnerships were not allowable. The Hildebrands and Krause sought relief from the tax court, and a 15-week trial ensued. Evidence at trial included the following: EOR technology was not fully tested or developed, which rendered oil-recovery projections unreliable; economic projections were based on a series of faulty assumptions; and the partnerships agreed to pay license fees and royalties for the EOR technology that were not competitive and did so on a fixed basis, which exposed them to excessive risk. The partnerships also based projections on the theory that oil prices would rise, which was contrary to government reports.