Di Portanova v. United States

• Decision Date: 22 September 1982
• Docket Number: No. 404-80T.,404-80T.
• Parties: Enrico DI PORTANOVA v. The UNITED STATES.
• Court: U.S. Claims Court

690 F.2d 169

Enrico DI PORTANOVA v. The UNITED STATES.

No. 404-80T.

United States Court of Claims.

September 22, 1982.

COPYRIGHT MATERIAL OMITTED

Stanford G. Ross, Washington, D. C., attorney of record, for plaintiff. Alice Armitage Colburn, Califano, Ross & Heineman and Jeffrey M. Glosser, Washington, D. C., of counsel.

Bruce W. Reynolds, Washington, D. C., with whom was Asst. Atty. Gen. Glenn L. Archer, Jr., Washington, D. C., for defendant. Theodore D. Peyser, Jr., Washington, D. C., of counsel.

Before FRIEDMAN, Chief Judge, and KASHIWA and BENNETT, Judges.

ON PLAINTIFF'S MOTION FOR SUMMARY JUDGMENT AND DEFENDANT'S MOTION FOR PARTIAL SUMMARY JUDGMENT

FRIEDMAN, Chief Judge:

The ultimate question in this case is whether the plaintiff, a dual United States-Italian citizen by birth who renounced his United States citizenship in 1972, was entitled to be taxed upon income he received in 1973 from trusts, at the flat rate of 30 percent that section 871(a) of the Internal Revenue Code of 1954, 26 U.S.C. § 871(a) (1976), imposes upon United States source income of a nonresident alien who is not engaged in a trade or business in the United States. The answer depends upon two other issues: (1) whether the plaintiff, through the trusts, was "engaged in trade or business within the United States," I.R.C. § 871(b); and (2) if not, whether his expatriation had as "one of its principal purposes the avoidance of taxes." I.R.C. § 877(a).

The plaintiff has moved for summary judgment on all issues. The defendant has moved for summary judgment on the trade or business issue. We hold for the plaintiff on the trade or business issue. We hold for the defendant on various aspects of the expatriation issue and remand to the Trial Division to determine the purpose question under that issue.

I.

A. The plaintiff's grandfather was H. R. Cullen, a wealthy Texas oilman. Cullen was one of the principal oil developers in Texas and Louisiana and secured many oil and gas leases there. An oil and gas lease gives the leaseholder the exclusive right to extract the minerals from the land for as long as the land will produce. Generally, a bonus and a one-eighth royalty are given to the landowner in exchange for the lease. These leases are called "working interests" because the leaseholder has the right to extract the oil and gas. The landowner could keep the working interest for himself, but landowners usually transfer the working interests to persons with expertise in the oil and gas business.

In order to finance the development of these leases, Cullen transferred an undivided 50 percent interest in the leases to Humble Oil & Refining Company, to which Exxon Corporation is the successor. Cullen operated the oil fields through a management company, Quintana Petroleum Corporation ("Quintana"). Quintana entered into agreements with the leaseholders to operate the fields. The leaseholders' working interests then became nonoperating working interests because Quintana had the operating responsibility.

Toward the end of Cullen's life, he and his wife endowed several trusts with fractional oil and gas interests in favor of their descendants. The plaintiff is a beneficiary of five of these trusts. His mother subsequently created a sixth trust for him. He also has a net profits interest in certain leases.

In order to maintain efficient, centralized management of the oil and gas interests, the trusts entered into operating agreements with Quintana, giving it extensive control over the operations. The various trusts, Exxon, and Quintana also have entered into unit operating agreements with non-Cullen working interest owners.

The plaintiff's relations with other descendants of Cullen have never been good. In 1967, the plaintiff sued for an accounting of the trusts, but the case was settled in 1968. As part of the settlement, independent trustees were appointed, the plaintiff's income was increased, and the plaintiff agreed not to challenge Quintana's operations of the leases or to try to terminate the operating agreements without a showing of fraud or gross negligence in Quintana's operations.

In 1980, the plaintiff instituted another suit for an accounting of the trusts and Quintana's assets and operations. That case is pending in the Texas courts.

B. The plaintiff's mother married an Italian citizen. The plaintiff was born in the United States, which gave him dual United States-Italian citizenship.

In 1972, the plaintiff, by a written sworn statement executed in Rome, formally renounced his United States citizenship pursuant to section 349(a)(6) of the Immigration and Nationality Act, 8 U.S.C. § 1481(a)(6) (1970) (now at 8 U.S.C. § 1481(a)(5) (Supp. IV 1980)). In 1973, the plaintiff resided in Italy.

C. In 1973, the plaintiff received $901,448 from the trusts. He paid on this income the flat tax of 30 percent that section 871(a) of the Code imposes on the United States source income of a nonresident alien who is not engaged in a trade or business in the United States. In 1980, the Internal Revenue Service assessed a deficiency on the ground that the trust income was taxable at the higher rates for income "effectively connected with the conduct of a trade or business." I.R.C. § 871(b).

The plaintiff paid the deficiency and filed a timely claim for refund. After the Internal Revenue Service denied the refund, the plaintiff filed the present suit. He contends that in 1973 he was not engaged in a trade or business or, if he was so engaged, the income is exempt from tax under the Convention on Double Taxation, March 30, 1955, United States-Italy, art. III, para. 1, 7 U.S.T. 2999, 3004, T.I.A.S. No. 3679. The government has conceded that, under some of the operating agreements, the trusts are not engaged in a trade or business. It asserts that, under other operating agreements, the trusts are engaged in the oil business. It seeks additional discovery about operations under still other agreements.

The government argues further that one of the principal purposes of the plaintiff's renunciation of his United States citizenship was the avoidance of taxes — a fact that under section 877(a) of the Code would bar him from obtaining the 30 percent tax rate and would subject his trust income to the regular graduated rates. The government seeks a trial on the tax avoidance issue. The government also seeks offsets reflecting (1) the late filing of the plaintiff's return, I.R.C. §§ 6072(c), 6651(a)(1), and (2) the disallowance of some deductions the plaintiff took for the oil and gas business. The plaintiff argues that as a matter of law section 877 does not apply to him, disputes the first offset, and is willing to concede the second if he prevails on the trade or business issue.

II.

Under section 871(a), a nonresident alien is taxed at a flat rate of 30 percent of his United States income that is not effectively connected with the conduct of a trade or business. Under section 871(b), a nonresident alien engaged in trade or business within the United States is taxed at ordinary graduated rates on the income effectively connected with the conduct of the trade or business. A beneficiary of a trust is deemed to be engaged in a trade or business if the trust is so engaged. I.R.C. § 875(2). Therefore, the first inquiry is whether the plaintiff's trusts were engaged in a trade or business. See I.R.C. § 864(c)(1)(B).

Each trust owns several leases, and it is easier to discuss this issue by leases than by trusts. There are five categories of leases involved in this case: (A) Texas leases subject to a general operating agreement with Quintana, (B) Texas leases subject to a unit operating agreement with Quintana, (C) Louisiana leases subject to a general operating agreement with Quintana, (D) Louisiana leases subject to a unit operating agreement with Quintana, and (E) Texas leases not subject to an agreement with Quintana. The plaintiff also has a net profits interest. The government has conceded that the trusts are not engaged in a trade or business with respect to the first set of leases, but we discuss that category to explain our decision on the other categories.

A. 1. In 1953, the owners of the Cullen working interests in Texas, Humble Oil, and Quintana entered into an operating agreement. Quintana was given

exclusive charge, control and supervision of all operations of every kind to be conducted upon the property covered by the leases ..., or any of them, for the development, production, treating and handling of oil, gas and other minerals ..., as well as the payment of royalties and taxes ..., and other charges which may arise or become due.

The lease owners were to be consulted on matters of general policy, which, in practice, has been such things as a new gas contract and the unit agreement. The expenses of the operations Quintana conducts are charged proportionately to the lease owners. The lease owners, in turn, are entitled to receive their share of oil and gas in kind. In practice, Quintana negotiates the sale of these items, but it is not done under the operating agreement. See generally I.R.C. § 761; Treas.Reg. § 1.7612(a)(3).

A lease owner who is dissatisfied with an action of Quintana may submit the dispute to arbitration by a panel of three arbitrators, one of whom will be appointed by Quintana and one by Exxon. The most the arbitrators may do is remove the operator, but only Quintana or Exxon can be the new operator. If at least 50 percent of the leaseholders wish to remove the operator, they can do so, but again, only Quintana or Exxon can be the new operator. The plaintiff's trusts own a minor portion of the leases.

The operating agreement is contained in a covenant running with the land which does not provide for a leaseholder to withdraw from the agreement.

A new agreement was signed in 1965 and amended in 1967. It applies to all the leases the 1953 agreement covers and to some new land, but does not include Exxon. The new...