Summary
In Haynes v. United States, 50 F. Supp. 238, 100 Ct.Cl. 43, we considered a problem substantially identical with the instant one and concluded that the receipts there involved were capital gains and not ordinary income.
Summary of this case from Tuttle v. United States, (1951)Opinion
No. 45724.
June 7, 1943.
W.W. Spalding, of Washington, D.C. (S.L. Herold and Pike Hall, both of Shreveport, La., on the brief), for plaintiff.
Daniel F. Hickey, of Washington, D.C., and Samuel O. Clark, Jr., Asst. Atty. Gen. (Robert N. Anderson and Fred K. Dyar, both of Washington, D.C., on the brief), for defendant.
Before WHALEY, Chief Justice, and LITTLETON, WHITAKER, JONES, and MADDEN, Judges.
Action by W.A. Haynes against the United States to recover amount paid under protest as income taxes.
Judgment for plaintiff.
This case having been heard by the Court of Claims, the court, upon the stipulation of the parties, makes the following special findings of fact:
1. Plaintiff is a citizen of the United States and resides at Shreveport in the State of Louisiana.
2. April 17, 1936, plaintiff sold and transferred to the Standard Oil Company of Louisiana (hereinafter referred to as the "purchaser") 567½ shares of the capital stock of the Haynes Production Company, Inc., a corporation organized under the laws of the State of Louisiana. These 567½ shares were part of 1,750 shares, the total number of shares of stock of the Haynes Production Company, Inc. outstanding, all of which shares were sold by the stockholders of that company (hereinafter referred to as the "sellers") to the same purchaser on the same day, April 17, 1936. Attached to the petition in this case as Exhibit A, and now made a part hereof, is a true and correct copy of the written contract under which the sale was made. For the entire 1,750 shares of said stock, a cash consideration of $3,663,141.04 was paid immediately upon the consummation of the sale on April 17, 1936 by the purchaser to the sellers, which amount was divided among the stockholders proportionately to their stockholdings.
The contract further provided that:
"Vendee further agrees to pay Vendors the sum of Ten Million ($10,000,000.00) Dollars or such part thereof as may become due under the following terms, conditions and stipulations:
"It is understood and agreed that the Haynes Production Company, Inc., is the owner of valid and subsisting oil and gas leases bearing upon certain properties situated in the Rodessa field in the Parish of Caddo, State of Louisiana, particularly described on the list hereto attached and made a part thereof, marked Schedule "A", and the Ten Million Dollar Payment above provided for shall be paid in monthly installments, on or before the 20th day of each month, in an amount equal to the sum of the value of the oil and gas, as, if and when produced from said properties, during the preceding month, as herein below set out:
"Three-sixteenths (3/16) of Seven-eighths (7/8) of the value of all the oil produced and saved from flowing wells on said properties, and Two-sixteenths (2/16) of Seven-eighths (7/8) of the value of all the oil produced and saved from wells where mechanical or other methods, except acidizing, must be used in order to bring or assist in bringing the oil to the surface."
The foregoing provision is hereinafter referred to as the deferred payment provision.
3. Pursuant to the terms of the deferred payment provision, plaintiff was paid by the purchaser in 1936 the sum of $142,432.94, representing his fractional part of the income received from oil and gas produced on the property. In his income tax return for that year, plaintiff included in gross income his share of the cash consideration paid by the purchaser to him as one of the sellers, and also this amount of $142,432.94. In the return, plaintiff treated the sale of the stock of Haynes Production Company, Inc. to the purchaser as a transaction that fell within Section 117 of the Revenue Act of 1936, 26 U.S.C.A. Int. Rev. Acts, page 873, and the amount just mentioned ($142,432.94) plus plaintiff's share of the cash consideration received at the time of the sale, less the basis of the stock (567½ shares) in plaintiff's hands, was returned by him in his income tax return as gross income that was properly to be reduced to 40 percent thereof under Section 117(a) of the Revenue Act of 1936. The shares were an asset that had been held by plaintiff for more than five years. All income taxes shown due on that return were paid by plaintiff in 1937.
4. In the audit of plaintiff's 1936 return, the representatives of the Bureau of Internal Revenue rejected plaintiff's theory of the transaction and treated the amount of $142,432.94 as ordinary income not subject to the provisions of Section 117 of the Revenue Act of 1936. Those representatives held that the entire amount of $142,432.94, rather than 40 percent thereof, was subject to income taxation to plaintiff, which had the effect of increasing plaintiff's taxable income in the amount of $85,459.76 less a deduction of $39,169.06 for depletion. A letter from the Bureau of Internal Revenue was sent to plaintiff stating that conclusion. March 18, 1938, plaintiff filed with such representatives of the Bureau of Internal Revenue his formal protest against the inclusion of the amount of $85,459.76 in his taxable income of 1936. Thereafter, a hearing was had on that protest before the representatives of the Bureau of Internal Revenue, with the result that they adhered to their previous ruling with respect of the proper classification of the $142,432.94.
Thereafter, on July 20, 1938 and October 12, 1938, upon receipt of notices and demands from the Collector of Internal Revenue, plaintiff paid under protest $35,300.60 with interest of $3,290.51, total $38,591.11, as a deficiency of income taxes for 1936, of which amount $34,255.13 with interest of $3,206.84, total $37,461.97, was attributable to the classification of the amount of $142,432.94 by the representatives of the Bureau of Internal Revenue.
5. Within less than two years after the payment by plaintiff of the deficiency of income taxes for 1936, he filed with the Bureau of Internal Revenue his refund claim for $34,255.13 with interest, based on the same grounds for recovery as are set forth in the petition in this case. October 26, 1940, the Commissioner of Internal Revenue formally rejected and denied the refund claim in full.
6. In his income-tax return for 1937, plaintiff included in gross income his share of the amounts paid by the purchaser, pursuant to the deferred payment provision of the contract of April 17, 1936. The amount of this item for 1937 was $149,753.27. In his return for 1937, plaintiff treated the amount of $149,753.27 as a part of the consideration for the sale of a capital asset within the meaning of Section 117 of the Revenue Act of 1936, and returned it as gross income that was properly to be reduced to 40 percent thereof under Section 117(a) of the Revenue Act of 1936. All income taxes shown due on that return were paid by plaintiff in 1938.
7. In the audit of plaintiff's 1937 return, the representatives of the Bureau of Internal Revenue treated the amount of $149,753.27 as ordinary income not subject to the provisions of Section 117 of the Revenue Act of 1936. They accordingly held that the entire amount of $149,753.27, rather than 40 percent thereof, was subject to income taxation to plaintiff, which had the effect of increasing his taxable income in the amount of $89,851.96 less a deduction of $41,182.15 for depletion. A letter was written to plaintiff to that effect.
Thereafter, to-wit, on the 2nd of May, 1939, upon receipt of notice and demand from the Collector of Internal Revenue, plaintiff paid under protest to that officer $28,270.17 with interest of $1,921.21, total $30,191.38, less a refund of $4.65, making a total net deficiency so paid of $30,186.73, for 1937, all of which amount was attributable to the classification of the $149,753.27 by the representatives of the Bureau of Internal Revenue.
8. Within less than two years after the payment by plaintiff of the deficiency for 1937, plaintiff filed with the Bureau of Internal Revenue his refund claim for $28,270.17 with interest, based on the same grounds for recovery as are set forth in the petition in this case. On December 30, 1941, the Commissioner of Internal Revenue formally rejected and denied that refund claim in full.
9. Plaintiff has at all times borne true allegiance to the United States. He is the true and lawful owner of the claim sued on herein, which has not been assigned. No claim for the amount involved in this proceeding has been made except as herein stated.
On April 17, 1936, plaintiff sold his 567½ shares of the stock of the Haynes Production Company to the Standard Oil Company of Louisiana. On the same day all the other stockholders in the Haynes Co. also sold their shares, to Standard, the total number of all the shares, including plaintiff's being 1,750. For all the shares, Standard paid in cash $3,663,141.04, which was divided ratably among the sellers, and promised to pay $10,000,000 more, in monthly deferred payments but only to the extent of the value of three-sixteenths of seven-eighths of the oil and gas produced from the properties of the Haynes Production Company. When the properties had ceased to produce, the $10,000,000 was to be regarded as having been paid.
In 1936 plaintiff received his pro rata share of the lump sum payment of cash, and in addition, monthly payments amounting in all to $142,432.94 under the deferred payment promise of Standard. In 1937 plaintiff received monthly deferred payments totaling $149,753.27. In making his income tax return for 1936 plaintiff treated the cash payment and the monthly deferred payments received by him that year as consideration paid him for the conveyance of a capital asset, the shares in the Haynes Production Co., held by him for more than five years, and treated the profit on the transaction as being, therefore, not fully taxable but only taxable to the extent of 40%. In his 1937 return he treated the monthly deferred payments received by him during that year, in the same way.
Section 117 of the Revenue Act of 1936, 26 U.S.C.A. Int.Rev. Acts, page 873.
The Commissioner of Internal Revenue, however, assessed a tax on plaintiff on the basis that all of these deferred monthly payments should be regarded as current income of plaintiff, and not as a part of the sale price of a capital asset. He therefore treated the full amount of the monthly payments as income, rather than only 40% of them, but allowed plaintiff a deduction for depletion, at the usual rate applicable to oil and gas properties, and taxed plaintiff accordingly. Plaintiff paid the taxes as assessed and filed claims for refund. He sues here to recover the alleged overpayment.
The Government concedes that the transfer by plaintiff of his stock was a sale of a capital asset; that the cash payment received by plaintiff was a part of the consideration for the sale, and that the arrangement for further payments was a further consideration for the sale. It contends that the value, on April 17, 1936, of the conditional promise for the deferred payments should have been capitalized and added to the cash payment, and if the sum amounted to more than plaintiff had paid for the stock, 40% of that excess should have been taxed to plaintiff as a capital gain. Plaintiff was not assessed on that basis. But, the Government contends, even if he had been, his monthly payments received under the promise of the purchaser to make deferred payments would have been taxable as current income, as the Commissioner in fact taxed them.
The stated basis for the Government's position is that plaintiff, when he sold his stock received cash and an interest in oil and gas properties to the extent of three-sixteenths of seven-eighths of their production, until they had produced plaintiff's pro rata share of the $10,000,000; that the value of that interest, at the time plaintiff received it, was a part of the price received by plaintiff for the sale of his capital asset; but that the income which plaintiff later received, as the product of that interest, was current income from an interest owned by plaintiff rather than payment for the stock.
We think that the Government's analysis of the transaction is fallacious. In the first place, plaintiff was given no interest in the oil and gas producing property or in any other property, within any legal meaning of the word interest. He became a mere general creditor of the Standard Company, the amount of his claim to be measured by the production of certain properties in which he had no ownership nor lien. Plaintiff's "interest" in the production properties was the human interest which one has in his debtor's sources of income from which to pay the debt, sharpened by the conditional nature of the promise to pay, which was to be satisfied not only by payment, but also by the failure of the properties to produce further oil and gas. But plaintiff owned nothing as the proceeds of the sale except the cash received and the Standard Company's promise. See Helvering v. O'Donnell, 303 U.S. 370, 58 S.Ct. 619, 82 L.Ed. 903.
Even if plaintiff had been given a lien upon the property, or upon the proceeds of the production, to secure the payment of the promised money, still the payments received in discharge of the promise would have been payments made for plaintiff's capital asset, the stock, rather than current income. The payments would not have been the product of the lien, but rather the agreed consideration for the sale, secured by the lien.
The question of how to treat, for income tax purposes, persons who stand in various economic relations to oil and gas producing properties, has been much litigated. Many of the cases reaching the Supreme Court have involved the depletion problem, whether the taxpayer stood in such a relation to the property as to be entitled to claim a depletion allowance. The cases are cited and many of them summarized in the opinion of the court in Anderson v. Helvering, 310 U.S. 404, 60 S. Ct. 952, 954, 84 L.Ed. 1277. The court there said "It is settled that the same basic issue determines both to whom income derived from the production of oil and gas is taxable and to whom a deduction for depletion is allowable. That issue is, who has a capital investment in the oil and gas in place and what is the extent of his interest."
Even with the aid of this generalization, the solution of particular cases is not easy. In Thomas v. Perkins, 301 U.S. 655, 57 S. Ct. 911, 912, 81 L.Ed. 1324, Hammonds and Branson, owners of oil and gas leases, assigned "all our rights, title, and interest in and to said leases and rights thereunder" to Perkins, the instrument of assignment providing that it was made in consideration of a cash payment, and of the further sum of $395,000 to be paid out of one-fourth of the oil produced from the leases "which payments shall be made by the pipe line company or other purchaser of said oil." It further provided that the $395,000 was payable only out of the oil produced, and was not to be a personal obligation of Perkins. The instrument did not purport to reserve a lien. Perkins, the assignee, drilled producing wells on the leases. The pipe line companies which purchased the oil required division orders to be made showing the shares of all parties in the oil, and they paid Hammonds and Branson, the assignors, directly for their one-fourth share.
The Commissioner of Internal Revenue taxed Perkins, the assignee, upon the whole income from the leases, including the money paid to the assignors by the purchasers of the oil. The Supreme Court held that this was wrong. It held that, in spite of the unqualified language of the assignment, the instrument as a whole, including the lack of any personal obligation to pay the money, or the taking of any security for its payment, and the conduct of the parties with reference to the division orders, showed that the assignors "intended to withhold from the operation of the grant one-fourth of the oil to be produced and saved up to an amount sufficient when sold to yield $395,000." The payments made to the assignors, Hammonds and Branson, should therefore have been taxed to them, and were not taxable to Perkins, the assignee.
In our case, as in the Perkins case, the sale by plaintiff and the other stockholders to Standard was on its face unqualified, there was no personal obligation upon Standard to pay the $10,000,000 except as the wells produced oil enough to pay it, and there was no lien or other security reserved or taken by plaintiff. In the Perkins case, in the presence of these same factors, the court was at pains to spell out a reservation of ownership by the assignors in the one-fourth of the oil, the sale price of which the assignors were to receive. Thus the assignors were given a property interest in the leases, and the assignee was exempted from taxation upon the proceeds of that interest.
While in our case plaintiff had exactly the same kind of financial interest in the oil leases and their production that the assignors had in the Perkins case, yet it is not possible in our case to call that interest an ownership. Plaintiff could not have, technically, reserved by implication an interest in the leases and their production, for he had never owned them. To be sure, he and the other stockholders had owned the Haynes Production Company, which had owned the leases. But even if we were to treat the corporate organization as only a fiction, we think there is no indication of any intent here that plaintiff and the other sellers of the stock were to keep, or get, any property interest in the leases or wells after the sale of the stock to Standard. The financial dependability of Standard probably made them willing to become its unsecured creditors for so much money. In any event, we think that was their position and that, as we said above, the monthly payments were the fulfillment of Standard's promise, rather than the product of property which plaintiff and the other stockholders owned. See Helvering v. O'Donnell, supra; Helvering v. Elbe Oil Land Development Co., 303 U.S. 372, 58 S.Ct. 621, 82 L.Ed. 904; Helvering v. Bankline Oil Co., 303 U.S. 362, 58 S.Ct. 616, 82 L.Ed. 897.
The sums received by plaintiff in 1936 and 1937 under the deferred payments provision of the sale to Standard were, therefore, profits on the sale of a capital asset held more than five years, and not income. Plaintiff was overtaxed and may recover the excess with interest. The determination of the amount of plaintiff's judgment may await the filing of a stipulation by the parties. It is so ordered.
WHALEY, Chief Justice, and WHITAKER, Judge, concur.
LITTLETON and JONES, Judges, took no part in the decision of this case.