Court Opinion

ID: 4626208
Source: CourtListenerOpinion
Date Created: 2020-11-21 02:58:45.497293+00
Date Added: 2024-06-11T07:56:50.528255
License: Public Domain

BLACK DIAMOND OIL TRUST NO. 513, G. S. WILLHOITE, TRUSTEE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Black Diamond Oil Trust v. CommissionerDocket No. 38523.United States Board of Tax Appeals25 B.T.A. 142; 1932 BTA LEXIS 1570; January 12, 1932, Promulgated *1570  Where a trust is formed for a term of years for the purpose of conducting a business enterprise for profit it is taxable as an association.  Louis E. Spiegler, Esq., Moe A. Lesser, Esq., and Harvey S. Stevenson, C.P.A., for the petitioner.  Byron M. Coon, Esq., for the respondent.  LANSDON *142  The respondent asserts deficiencies in income tax for the years 1923, 1924 and 1925 in the respective amounts of $10,700.87, $9,901.71 and $84.51, and a penalty for the year 1923 in the amount of $2,675.22 for failure to file any return for that year.  As its causes of action the petitioner alleges that the respondent has erroneously determined that in each of the taxable years it was an association taxable as a corporation and that the penalty for 1923 should not be collected.  FINDINGS OF FACT.  The petitioner is a trust under the laws of California.  Its principal place of business is at Long Beach, where it drilled and throughout the taxable years operated a producing oil well on land in which it had an interest in the mineral rights under a sublease.  Prior to the taxable years W. B. Hollingsworth, H. H. Dickens, A. G. McCoy and G. S. Willhoite*1571  had been associated as partners in the business of exploring for oil, and just prior to 1923 they completed a nonproducing well.  As they had all the necessary drilling equipment ready for use, together with casings and other supplies needed for an oil well, they immediately began to look for a location for another well.  Eventually they selected the south half of lots 9 and 10 of Stoval's addition to Burnett in Los Angeles County.  The fee of this property was owned by E. R. Murchinson and Helen Murchinson, his wife, hereinafter called lessors, who had previously executed a mineral lease thereon in the usual form to Ed. R. Herwick and Arial N. Herwick, his wife, hereinafter called lessees.  After some negotiations the lessees executed a sublease to Hollingsworth, Dickens, McCoy and Willhoite, hereinafter referred to collectively as the sublessees.  The sublessees installed their drilling equipment on the property acquired as above set out and began to drill a well thereon.  In the preliminary stage of the operation they furnished the necessary *143  funds in equal proportions.  Very shortly it became evident that more money must be raised if the well was to be completed.  They*1572  decided to do this by selling percentages of interest in the operation to the public for cash and, upon the advice of their bankers, they executed an agreement and declaration of trust which established beneficial interest in whole property in the following proportions: (1) Twenty-five (25) per cent thereof to the Lessors, such percent being the share of the Lessors in all oil, asphaltum, or other hydrocarbon substances which may be saved and sold from said leased premises, payable according to the terms of said Lease.  (2) Twelve and one-half (12 1/2) per cent thereof to the Lessees, such percent being the share of the Lessees in all such oil, asphaltum or other hydrocarbon substances under the terms of the agreement for the assignment of Lease heretofore made by the Lessees to the Sub-Lessees.  (3) Sixteen and one-half (16 1/2) per cent thereof to those certain persons and in the proportions specified in a statement to be filed with the Depositary by the Sub-Lessees.  (4) Forty-six (46) per cent thereof among those persons who may become parties hereto pursuant and subject to the terms of Article V hereof, provided, however, that all portions of such fractional beneficial*1573  interest hereunder which may not be sold, as provided in said Article V, which shall be vested in the Sub-Lessees, share and share alike.  Under the terms of the agreement W. B. Hollingsworth was appointed trustee and all the interests of the sublessees were transferred to him.  The sublessees were constituted a committee to sell 46 per cent of the property to the public.  Such interest was divided into 613 1/2 units, which were sold to approximately 225 individuals.  The interest of each unit holder was evidenced by a copy of the trust agreement and by registration in books kept by a depositary bank and were transferable by indorsement and entries in certain books.  The powers of the trustee were defined in Article VII of the trust agreement as follows: That until the closing of the trust hereby created, the Trustee may exercise all of the rights and powers of the Lessees under the above mentioned lease subject, however, to the terms of this Agreement and Declaration of Trust, provided, however, that the burdens and undertakings of the Lessees under the above mentioned Lease shall be borne equally by the Sub-Lessees until an oil well shall have been brought into paying production*1574  on the leased property, as the term "paying production" is generally used in the Long Beach Oil Fields, and, provided further, that the Trustee, in all his actions relating to questions and matters pertaining to the drilling for the production and disposal of oil and other hydro-carbon substances from said land shall be governed by the decision of a majority of the Sub-Lessees.  The agreement also provided for the distribution of the proceeds from the operation of the property as follows: That all proceeds from operations under the said oil lease and upon the leased premises, from whatsoever source they may be due, shall be paid to *144  the Depositary direct, without the intervention of the Trustee, and shall be by the Depositary distributed as follows: (A) Twenty-five (25) per cent of the gross production receipts from the said leased land to the Lessors.  (B) Twelve and one-half (12 1/2) per cent of the gross production receipts from the said leased land to the Lessees.  (C) The remainder, first, to the payment of the costs, fees and expenses of the Depositary incident to this trust; second, to the payment of taxes and charges against the trust property; third, to*1575  the maintenance and operations of the trust and of the Oil Lease property after, but not before, an oil well has been brought into production on the leased premises, and the remainder to the holders of the parts or units mentioned under Clause 3 and 4 of Article IV, pro rata, according to the percentage which each holder has of the entire beneficial interests hereunder; Provided, however, that notwithstanding anything herein said, the sum of Thirty Thousand Dollars shall be first paid by the Depositary to the Sub-Lessees, sharing equally, out of such remainder before any distribution shall be made to such unit-holders.  The duration of the trust and method of its revocation are set out in Article XI of the agreement as follows: That the trust hereby created may be revoked at any time by all of the Lessees, the Sub-Lessees, and the Unit-Holders, but no such revocation shall be effective until all expenses and charges against this trust shall have been fully paid; that in any event, this trust shall terminate twenty-five years from date hereof; and that a majority in number of the Sub-Lessees may, at any time, in writing duly filed with the Depositary, remove the Trustee hereinbefore*1576  named and appoint a successor trustee, who shall thereafter exercise all of the rights and powers of the trustee under this Declaration.  The property trusteed was that interest in the venture or operation which was owned by the sublessees, who had assumed all the obligations of the lessees.  The sublessees employed agents on commission to sell the units, into which 46 per cent of the beneficial interests of the property had been divided.  The proceeds of such sales were paid to the sublessees, kept in their own bank account, and by them checked out and used to defray the cost of completing the oil well.  After the completion of the oil well the proceeds of its operation were deposited in a bank designated in the agreement as the depositary.  As money accumulated from the sale of oil the depositary, first setting up reserves for taxes and maintenance, distributed the same monthly in conformity with Article VIII of the agreement.  The parties to the agreement are the trustee, the sublessees and the unit holders.  The trustee made no fiduciary or other return of the income of the trust for the year 1923.  On July 26, 1928, he filed in the office of the Collector of Internal Revenue*1577  at Los Angeles a notice of election that the income of the trust should be taxed to the beneficiaries, together with statement and affidavit as required by section 704(b) of the Revenue Act of 1928.  *145  OPINION.  LANSDON: The only question here is whether this petitioner, by reason of the nature of its organization and the purpose of its operations, is taxable as a trust or as an association.  The facts are well established.  Hollingsworth, Dickens, McCoy and Wilhoite associated themselves for the purpose of acquiring, developing and operating an oil-producing property.  As sublessees they acquired the right to occupy and explore a certain tract of land for oil and gas and assumed all the obligations of the lessees.  Lacking the means to complete an oil well on the land, they trusteed their interest therein and brought some 225 additional persons into the enterprise as unit holders and parties to the trust.  The agreement designated one of the lessees as trustee, defined the powers of such trustee, and provided that "in all his actions relating to questions and matters pertaining to the drilling for and production and disposal of oil and other hydrocarbon substances from*1578  said land shall be governed by the decision of a majority of the sub-lessees," and that a majority of the sublessees, by a writing filed with the depositary, might remove a trustee and name his successor.  Ownership of units of beneficial interest was evidenced by signed copies of the agreement and by prescribed entries in books of the depositary and transfer of such units by assignment was authorized and in many instances effect during the operation of the petitioner.  Clearly, this petitioner was formed by individuals entering into an association with each other.  That association was organized by the execution of an agreement.  Like the charter of a corporation, that agreement defined the rights of all the parties in interest and specifically provided for the operation of the enterprise for a definite term of years.  It is not too much to say that such agreement designated the sublessees as directors of the enterprise in which all the unit holders were parties in interest.  One of the sublessees was manager, with his powers strictly defined, and subject to removal by a majority of his fellow directors, the sublessees.  Papers evidencing the percentages of ownership were issued*1579  to the unit holders.  In our opinion, these facts established sufficient similarity to the association to bring it within the provisions of section 2(2) of the Revenue Act of 1921.  Very many similar controversies have been decided by this Board, the inferior Federal courts, and the Supreme Court of the United States.  The leading case is . The court said: We conclude, therefore, that when the nature of the three trusts here involved is considered, as the petitioners are not merely trustees for collecting funds and paying them over, but are associated together in much the same manner as the directors in a corporation for the purpose of carrying on business enterprises, *146  the trusts are to be deemed associations within the meaning of the Act of 1918; this being true independently of the large measure of control exercised by the beneficiaries in the Hecht and Haymarket cases, which much exceeds that exercised by the beneficiaries under the Wachusett Trust.  * * *" Following *1580 , this Board and the courts have since almost uniformly held that the true tests to be applied in all their trust controversies is whether the association was formed for the purposes of conserving or liquidating property already owned by the beneficiaries or for conducting a business and earning profits for distribution among the parties in interest.  Applying this test to the circumstances of this petitioner, we think it must be taxed as an association.  There was a voluntary association, the creation of a business entity to operate for many years, and the production and sale of oil for the sole purpose of realizing profits for the associates. ,; ; . Pursuant to section 704(b) of the Revenue Act of 1928, trustees for organizations taxable as trusts prior to 1926 might elect whether to be taxed as associations or trusts.  Such an election was filed by the trustee of this petitioner, but since it was not taxable as a trust*1581  in 1923 or 1925, it has no bearing on the issues of this proceeding.  The petitioner filed no return for the year 1923 and, so far as this record discloses, has never filed a return for that year.  Even if the explanation of failure to file is reasonable, it is of no avail here, since, under section 3176 of the Revised Statutes, the penalty can be lifted only upon proper explanation and later filing of a return.  ; . Decision will be entered for the respondent.