Opinion
Docket No. 7805.
1946-03-21
WABASH OIL AND GAS ASSOCIATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Edmund A. Whitman, Esq., for the petitioner. A. J. McDowell, Esq., for the respondent.
1. Held, that in the taxable year petitioner was an association taxable as a corporation.
2. A delinquent capital stock tax return filed by petitioner is effective in declaring a capital stock value to be used in computing its tax liabilities. Edmund A. Whitman, Esq., for the petitioner. A. J. McDowell, Esq., for the respondent.
Respondent, having decided that petitioner was an association taxable as a corporation, determined the following tax deficiencies for the calendar year 1941: Income tax, $5,321.22; declared value excess profits tax, $4,910.90; and excess profits tax, $9,007.99.
The issues are, first, whether petitioner during the period involved was an association taxable as a corporation and, second, whether a delinquent capital stock tax return filed by petitioner is effective in declaring a value to be used in computing its tax liabilities. A third issue raised by an assignment of error has apparently been abandoned by the petitioner.
Most of the facts have been stipulated and, although not set out in toto, are hereby adopted as a part of our findings.
FINDINGS OF FACT.
Petitioner, in the taxable year, consisted of some 54 or 55 individuals who subscribed different amounts to a fund for the purpose of obtaining an oil and gas lease covering certain lands in Grayville, Illinois, and operating and developing the lease. A partnership return of income for the period involved was timely filed with the collector for the eighth district of Illinois.
Prior to the taxable year an oil-bearing area was discovered in Grayville, Illinois. In the summer of 1940 Abner B. Carey of Grayville and Herbert W. Patton of Newton, Massachusetts, who had long been associated in the lumber-milling business, solicited subscriptions totaling approximately $19,000 from their relatives and friends to secure an oil lease and engage in a venture of producing and selling oil. An oil and gas lease, dated October 30, 1940, was obtained in the name of Patton, as lessee, covering a tract of 60 acres, and the initial payment of $1,000 thereon was paid from the subscriptions. The lease was for the term of one year and thereafter only so long as oil was produced, and was conditioned upon the commencement of drilling operations within 45 days. It provided for an additional payment of $750 upon the bringing in of the first commercial well, a one-eighth royalty out of all gas and oil produced, and an oil payment of $4,500 out of the first oil sold. The lessee was given the right to assign in whole or in part and to remove at any time all machinery and fixtures, including well casings.
Neither Patton nor Carey had had previous experience in the oil business. Carey, with Patton's consent, employed an experienced oil operator, who took over the operation of the property and drilled a well thereon. The first oil was produced in December 1940. Carey purchased the necessary supplies and equipment with money sent him by Patton and arranged for the sale of the entire oil production to a pipe-line operator. Five additional wells were drilled in 1941. Carey reported to Patton on the progress of the work and the decision to drill other wells advised by the operator.
Before the first well was brought in, there was no written plan of organization. Thereafter, however, ‘Articles of Agreement,‘ dated December 23, 1940, were prepared and executed by all of the subscribers. The articles of agreement read as follows:
ARTICLES OF AGREEMENT
Whereas Herbert W. Patton of Newton, Massachusetts, is the lessee named in a certain oil and gas lease of lands in Grayville, White County, Illinois, from Norman A. Bretz and others dated October 30, 1940 and recorded on November 27, 1940 in Book 158, Page 278, at Carmi, White County, Illinois, and
Whereas the consideration for said lease and payments for development thereunder have been paid by the following persons as parties hereto in the amounts set against their respective names:
(Here follows a list of names of all the subscribers, together with the amounts of their contributions.)
and whereas the said Patton is, and has been, the agent of said persons in negotiating and securing said lease, and in the development thereunder, the said Patton as witnessed by his signature hereto acknowledges and agrees that he holds said lease as agent of, and for the benefit of, the foregoing persons and will execute such assignments and agreements and do such acts in connection with said lease and the developments thereunder as may be directed by two-thirds in interest of the subscribers hereto. The said lease is incorporated herein by reference.
And whereas it is desirable that some arrangement be made by the parties hereto for the further development and operation of the properties covered by said lease,
Now, therefore, it is agreed by and between the parties as follows:
Herbert W. Patton of said Newton, Abner B. Carey of Grayville, Illinois, and Stanley E. Hall of Wellesley, Massachusetts are hereby selected and appointed as agents and managers of the business of developing the property and marketing the oil, gas and other incidental products to be conducted under said lease under the trade name of the Wabash Oil and Gas Association. They shall serve until their successors are appointed as hereinafter set forth. They shall receive such compensation as they may unanimously agree upon.
They shall have the following powers and duties:
The said Patton shall act as a treasurer and attend to the finances of the business.
The said Carey shall act as superintendent of the active operations of the business to be conducted.
The said Hall shall act in an advisory capacity consulting with the others when desirable, and should there be any difference of opinion between the other two, his decision shall be final.
These three shall have full power to conduct the business with all the powers that we should have if personally present and active, and, without limiting the foregoing powers, they shall include the right to borrow money when needed for the development and prosecution of the business and pledge or mortgage said lease or other assets of the business as security therefor; to sell, and make contracts for the sale of, the oil, gas and other products of the business; to make contracts and expend money for the further development of the business by drilling new wells or otherwise; to purchase all needed supplies; to employ and fix the compensation of all persons needed in the prosecution of the business; and in general to do all such acts and things as may be necessary and proper in the business of extracting and selling oil, gas and incidental products.
Said agents in conducting the business may act by a majority thereof.
They shall keep books of account which shall be open at any reasonable time to inspection by any party hereto.
They shall quarterly distribute the net earnings of the business to the parties hereto in proportion to their respective interests as witnessed by their contributions as above set forth, reserving as working capital such portion of the net earnings as may in their judgment be needed for the further development of the business and for contingencies. They shall render a full account of the business at the time of each distribution of earnings.
They shall at the request of any five of the parties hereto holding interests amounting to three thousand dollars as above set forth employ a certified public accountant to audit their accounts and report to the parties hereto.
They shall have power to employ counsel and institute and defend suits or proceedings, and compromise or submit to arbitration all matters of dispute which may arise in the prosecution of the business whenever, and in such manner as, they may deem necessary and proper.
Should said Patton as lessee die, resign or become for any reason unable to continue to act, he agrees for himself and his personal representatives to assign said lease to such other person as may be selected by the other two agents, who shall hold said lease subject to the same duties and responsibilities as the said Patton is under. In case of the death, resignation or inability to serve of any one of the agents, the vacancy occurring may be filed by a writing signed by a majority in interest of the parties hereto filed with the other two agents and indorsed hereon by them. Any one of the agents may be removed and his successor appointed in a similar manner. Any newly appointed agent shall have all the powers and duties of the person whose place he fills.
In case an offer is made at any time to purchase said leasehold interest, and/or the equipment, which in the opinion of said agents it is desirable to accept, then such proposition shall be submitted to the parties hereto, and if agreed to in writing by two-thirds in interest, said Patton as lessee, or his successor, shall be authorized and empowered to make such sale, the net proceeds thereof to be ratably distributed according to the interests as they appear herein
In every written order, contract or obligation which said agents shall authorize or enter into, it shall be stipulated that neither they nor any of the parties hereto shall be held to any personal liability under or by reason of such order, contract or obligation, and every person or corporation so contracting with the agents shall look only to the leasehold and property used in said business for payment under such contract or for payment of any debt, mortgage, judgment or decree or the payment of any money which may otherwise become due or payable on account of the business conducted hereunder, and neither said agents, present or future, or parties hereto or their successors shall be personally liable therefor.
In case one of the parties hereto desires to sell his proportional interest herein, he shall first offer it to said agents at a price to be agreed upon: in case of an inability to agree, by some person who shall be selected as an arbiter. When such price has been fixed, the agents shall then have ninety days in which to determine whether they can and will pay said price. In case they do pay it, such interest shall be held for the benefit of the remaining parties hereto ratably. In case they do not desire to buy at such price, the party so desiring to sell may make such disposition as he may be able to.
This agreement shall continue during the term of said lease and no one of the parties hereto shall be entitled to any dissolution or termination of this agreement, but on the death or bankruptcy of any one of them, the personal representatives or the trustee in bankruptcy, as the case may be, shall succeed to the interest.
On December 31, 1941, the above instrument was amended by striking out the paragraph relating to limitation of liability of the subscribers and agents, all but four of the subscribers assenting to the amendment. During the taxable year the agents and managers did not, in entering into contracts, orders, and obligations, insert any clause limiting liability. Most of the purchases were made on a cash basis.
Other than a copy of the agreement, no certificate or evidence of ownership was given to any of the subscribers in the period here involved. Some time during the year one of the subscribers disposed of his interest to the agents in consideration for $900 paid him by Patton from funds in the treasury.
Petitioner had no office. Patton kept the financial records in his own house at Newton. No meetings or conferences of the three agents were held, and Hall was never called upon for any services. Patton, as treasurer, negotiated loans from a bank in Evansville, Indiana, in return for his personal notes. On one occasion a note was signed ‘Wabash Oil & Gas Association, H. W. Patton, Treasurer.‘ The notes were secured by assignment of the lease and a chattel mortgage on the personal property of petitioner. He also negotiated loans from a number of individuals, in each case giving a promissory note signed ‘Wabash Oil & Gas Association, H. W. Patton, Treasurer.‘ The notes were subsequently paid.
The pipe-line operator paid directly to the lessors the royalties reserved in the lease and remitted the balance to the bank in Evansville from which Patton had obtained the loans. The bank deducted stipulated amounts in reduction of the loans and placed the balance to the credit of the Wabash Oil & Gas Association, H. W. Patton, Treasurer. From this account Patton from time to time sent checks to Carey as requested and received from Carey detailed statements of the expenditures and payments made by him, which Patton recorded in a cash book. On January 3, 1941, Patton bought a combined journal and cash book and a ledger, which he thereafter used to record the financial transactions of petitioner. He made reports to the contributors as provided in the agreement. No distribution of profits was made during the taxable year. Patton made only four trips to Grayville in 1941, three of the trips being in connection with the loans from the Evansville bank.
In computing the tax deficiencies against petitioner, respondent used a declared value of ‘None‘ for the capital stock. In the petition, the following alternative assignment of error was made:
4. The determination of tax set forth in the said notice of deficiency is based upon the following errors:
(3) The commissioner erred in ruling that the petitioner was subject to corporation excise (excess) profits taxes, the commissioner having established a declared value from the return instead of establishing what would have been the amount shown in a capital stock return if the petitioner had been a corporation and the petitioner here and now elects to declare a capital stock tax value of ten times the net income.
This proceeding was called for hearing on October 29, 1945, at which time a stipulation of facts was submitted. No capital stock tax return had then been filed by or on behalf of petitioner, and it was the belief of counsel for petitioner that its right to file such a return was dependent upon a ruling of this Court. The suggestion was made that petitioner should file a return. On November 2, 1945, petitioner submitted an informal motion, accompanied by argument, requesting the Court to enter an interim order that petitioner be permitted to file a capital stock tax return within ten days, and that the case stand for further hearing. No action was taken on this motion, since the parties advised the Court that a return would be filed and that they would subsequently enter into a stipulation that the fact of its filing might be made a part of the record. Thereafter, on November 13, 1945, petitioner filed with the collector a capital stock tax return for the year ended June 30, 1941. It showed a declared value of $372,999, with a tax of $465 due thereon. On November 19, 1945, the parties lodged with this Court a supplemental stipulation to the effect that the return had been filed and that a copy thereof might be made a part of the record. Respondent, however, refused to concede the efficacy of the return in establishing a declared value for purposes of this proceeding.
OPINION.
ARUNDELL, Judge:
The main issue in this case is whether petitioner, in 1941, was an association taxable as a corporation. Applying to the facts before us the now well settled criteria laid down by the Supreme Court in Morrissey v. Commissioner, 296 U.S. 344, and companion cases,
we find that some 55 persons associated themselves together to engage in the business of developing certain oil-producing property and marketing the oil, gas, and other products derived therefrom. In the first instance they secured centralized control and management by appointing Patton, Carey, and Hall as ‘agents and managers of the business‘ and giving them full power to conduct the business, including the right to borrow money, to pledge or mortgage the business assets, to sell the products, to drill wells, to purchase supplies, to employ and fix the compensation of all persons needed in the protection of the business, to employ counsel and sue or defend suits, and to compromise all matters of dispute relating to the business. The associates retained the power, by a majority in interest, to remove any agent or manager and appoint his successor, and to appoint the successor of any deceased agent. These agents and managers thus had powers and duties similar to those of a board of directors and officers of a corporation.
Swanson v. Commissioner, 296 U.S. 362; Helvering v. Combs, 296 U.S. 365; Helvering v. Coleman-Gilbert Association, 296 U.S. 369.
Title to the property of the business was held in the name of Patton, and provision was made whereby he agreed for himself and his personal representatives that in the event he should die, resign, or become unable to act, title should be assigned to the nominee of the other two ‘agents.‘ No one of the associates was entitled to a dissolution or termination, but on his death or bankruptcy his personal representatives or trustee in bankruptcy were to succeed to his interest. The only limitation upon the right of any party to transfer his interest was that he should first submit it to the agents at a price to be agreed upon, in which case the agents were to have a 90-day option to purchase it. Otherwise, the interest could be transferred to anyone the holder thereof might choose. One associate did dispose of his interest during the taxable year to the agents. By these provisions continuity of the enterprise was preserved without interruption by the death either of the agents and managers or of any subscriber, or by the transfer of any subscriber's interest.
Finally, provision was made in the agreement for the limitation of personal liability of the subscribers to the amount of their several subscriptions. It is true that in the period involved the limited liability clause was not inserted in contracts made by the managers, since most of the supplies and materials were purchased on a cash basis. However, the members, by providing in the agreement for the limitation of personal liability, sought to obtain one of the characteristic advantages of corporate organizations.
Considering all these factors collectively, we conclude that petitioner more closely resembled a corporation than a partnership or joint venture and that it was an association properly taxable as a corporation. Respondent is therefore sustained on this issue.
The remaining question is whether the capital stock tax return filed by petitioner on November 13, 1945, is to be given effect as a declaration of value for the capital stock. We think this question is settled in petitioner's favor by the decision in Del Mar Addition v. Commissioner, 113 Fed.(2d) 410; Huron River Syndicate, 44 B.T.A. 859; and Jordan Creek Placers, 43 B.T.A. 131. Respondent concedes that these cases support the proposition that a taxpayer which is in the process of litigation to determine whether or not it is a corporation may file a delinquent capital stock tax return. He attempts to distinguish them, however, by stating that there the returns were filed before the hearings, but that here the return was filed ‘after the hearing.‘ We think it improper to say that the return was not filed until ‘after the hearing,‘ for, upon the advice of the parties that a return would be filed and a subsequent stipulation entered into, no action was taken upon the motion that the case stand for further hearing. The return was filed, the stipulation entered into, and the fact made a part of the record. The distinction suggested is therefore without a difference. On this issue the petitioner is sustained.
It appears that the value declared in the capital stock tax return may be sufficient to eliminate petitioner's declared value excess profits tax liability. Since we have held that the value declared in the return is to be given effect, a recomputation will be required. Accordingly,
Decision will be entered under Rule 50.