Old Harbor Native Corp. v. Comm'r of Internal Revenue

• Decision Date: 31 January 1995
• Docket Number: No. 8653–93.,8653–93.
• Citation: 104 T.C. No. 7,104 T.C. 191
• Parties: OLD HARBOR NATIVE CORPORATION, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Tax Court

104 T.C. 191

104 T.C. No. 7

OLD HARBOR NATIVE CORPORATION, Petitioner,

v.COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 8653–93.

United States Tax Court.

Jan. 31, 1995.

J. Roger Mentz, Linda E. Carlisle, and Kurt C. Swainston, for petitioner.

Kay Hill and James R. Robb, for respondent.

P is an Alaska native village corporation organized under the Alaska Native Claims Settlement Act (ANCSA), Pub.L. 92–203, 85 Stat. 688 (1971) (current version at 43 U.S.C. secs. 1601–1629e (1988)). ANCSA, which was enacted by the Congress to extinguish aboriginal land claims of the Alaskan natives, required the Government to transfer some of its land in Alaska to P. In order to reacquire much of this land, the Government negotiated an agreement with P under which P would transfer the land back to the Government in exchange for the subsurface rights in other Government-owned land in Alaska. The agreement was primarily contingent on congressional approval and the passage of certain legislation. Before finalizing its agreement with the Government, P granted T the privilege to elect to lease the subsurface rights that P might obtain from the Government under the agreement. T's ability to exercise this privilege was primarily contingent on the passage of the aforementioned legislation. T paid P $5,050,000 and $270,000 during 1987 and 1988, respectively, for this privilege. P paid unreimbursed expenses of $123,986 in 1987 to lobby the Congress to pass the legislation. In addition to the above, P received payments of $58,070 and $28,681 during 1987 and 1988, respectively, under a revenue-sharing system in 43 U.S.C. sec. 1606(i) and (j).

Held: The payments of $5,050,000 and $270,000 are not “option payments”, and are includable in P's 1987 and 1988 gross income, respectively. Held, further, the expenses of $123,986 are ordinary and necessary business expenses that are deductible from P's gross income under 43 U.S.C. sec. 1620(h)(2). Held, further, the payments of $58,070 and $28,681 are includable in P's 1987 and 1988 gross income, respectively.

OPINION

LARO, Judge:

This case is before the Court fully stipulated under Rule 122(a). Old Harbor Native Corp. (petitioner) petitioned the Court to redetermine respondent's determination of deficiencies of $1,506,888 and $196,563 in its 1987 and 1988 Federal income taxes, respectively. Respondent reflected her determination in a notice of deficiency issued to petitioner on February 10, 1993. Unless otherwise indicated, section references are to the Internal Revenue Code in effect for the years in issue. Rule references are to the Tax Court Rules of Practice and Procedure.

Following concessions, we must decide:

1. Whether payments of $5,050,000 and $270,000 received by petitioner from Texaco, Inc. (Texaco), during 1987 and 1988, respectively, are “option payments” that are excludable from petitioner's gross income for those years. We hold that they are not.

2. Whether unreimbursed expenses of $123,986 incurred by petitioner during 1987 in connection with its proposed exchange of surface rights for subsurface rights are ordinary and necessary business expenses that are deductible from its gross income under section 21(h)(2) of the Alaska Native Claims Settlement Act (ANCSA), Pub.L. 92–203, 85 Stat. 688 (1971) (current version at 43 U.S.C. secs. 1601–1629e (1988)). We hold that they are.

3. Whether payments of $58,070 and $28,681 received by petitioner from Koniag Regional Native Corp. (Koniag) during 1987 and 1988, respectively, are includable in petitioner's gross income for those years. We hold that they are.

The record consists primarily of the pleadings and the facts recited in a joint stipulation with accompanying exhibits. The stipulated facts and exhibits are incorporated herein by this reference. Petitioner is an Alaskan native village corporation organized under ANCSA. When the petition was filed, petitioner's place of business was Old Harbor, Alaska.

The Congress enacted ANCSA on December 18, 1971, to extinguish aboriginal land claims of the Alaskan natives. To accomplish a fair and just settlement of these claims, the Congress created an Alaska Native Fund (ANF) of $962.5 million, see 43 U.S.C. sec. 1605, and provided the Alaskan natives with the fee title to over 40 million acres of Alaskan land. The Congress also provided that the subsurface title to this land would be held by 12 Alaskan native regional corporations (regional corporations), the surface title to approximately 22 million of these acres would be held by over 200 Alaskan native village corporations (village corporations), and the surface title to the remaining acres would be held by the regional corporations. 43 U.S.C. secs. 1611, 1613.

The Secretary of the Interior divided Alaska into 12 geographic regions reflecting the common heritage of the Alaskan natives within each area. See 43 U.S.C. sec. 1606(a). ANCSA required the natives within each of these regions to form a regional corporation under the corporate laws of Alaska to conduct business for profit.¹ 43 U.S.C. sec. 1606(d). Each regional corporation was required to issue 100 shares of stock to every eligible native within its region. 43 U.S.C. sec. 1606(g). The stock entitled the natives/shareholders to all the rights of stockholders in an Alaskan corporation, except that their right to alienate the stock was restricted until December 18, 1991. 43 U.S.C. sec. 1606(h)(1).

The natives in the villages of each region that were eligible for benefits under ANCSA were required to organize a profit or nonprofit village corporation prior to receiving their benefits. 43 U.S.C. sec. 1607. A village was generally eligible for benefits if at least 50 percent of the community's population consisted of more than 24 natives. 43 U.S.C. sec. 1610(b)(2). Over 200 village corporations were formed under ANCSA. 43 U.S.C. sec. 1610(b). The village corporations were neither shareholders nor subsidiaries of the regional corporations.

The Congress included a revenue-sharing system within ANCSA to achieve a rough equality in assets among all Alaskan natives covered by ANCSA. This revenue-sharing system required that 70 percent of the total timber and subsurface revenues received by all of the regional corporations must be shared among the 12 regional corporations. Numerous disputes between the regional corporations arose in the late 1970s concerning the operation of this system. The regional corporations brought a lawsuit in the U.S. District Court for the District of Alaska to resolve their disputes. See Aleut Corp. v. Arctic Slope Regional Corp., A75–53 Civil (D.Alaska). The regional corporations settled their disputes in June 1982 through a court-approved agreement (Settlement Agreement). The Settlement Agreement contained a complex set of provisions detailing the obligations of the regional corporations under the revenue sharing system.²

The revenue sharing system requires that the natives who were shareholders in a regional corporation receive payments of at least 10 percent of certain funds received by the regional corporation for the first 5 years following enactment of ANCSA. These funds are from the following sources: (1) The ANF, (2) timber resources and subsurface estates, and (3) all other net income. 43 U.S.C. sec. 1606(j). The regional corporations also must distribute not less than 45 percent of these funds during the first 5 years after enactment of ANCSA to: (1) The village corporations in its region and (2) the shareholders of the regional corporations who were not residents of villages.³ 43 U.S.C. sec. 1606(j). The 45–percent rate increased to 50 percent for all years after the first 5 years (hereinafter, these required payments under section 7(j) of ANCSA, 43 U.S.C. sec. 1606(j), are referred to as section 7(j) payments). Id. The section 7(j) payments must be divided among the village corporations according to a specified ratio. 43 U.S.C. sec. 1606(k); see also 43 U.S.C. sec. 1606(i).

Petitioner received $58,070 and $28,681 in 1987 and 1988, respectively, from Koniag as petitioner's share of section 7(j) payments. None of these payments were from the ANF. Petitioner did not provide any services, perform any act, sell or license any property interest, or provide any other form of consideration to Koniag in order to receive the section 7(j) payments.

Petitioner did not include the section 7(j) payment of $28,681 in its 1988 income. Petitioner reported the section 7(j) payment of $58,070 as income on its 1987 Federal income tax return, but amended this return in order to exclude the section 7(j) payment from its income. Petitioner also increased its net operating loss deduction for 1987 by $53,010 to reflect an exclusion of section 7(j) payments from its 1985 and 1986 income.⁴ Respondent determined that all of these section 7(j) payments constituted taxable income to petitioner at the times of receipt.

The United States conveyed various surface estates to petitioner under ANCSA. These surface estates included approximately 35,000 acres within the Kodiak National Wildlife Refuge (KNWR) and approximately 65,000 acres on Sitkalidak Island within the Alaska Maritime National Wildlife Refuge (AMNWR). The Department of the Interior (DOI) desired to reacquire the surface rights that had been conveyed to petitioner. Petitioner commenced discussions with the DOI in 1985 to consider exchanging the surface rights owned by petitioner in the KNWR and the AMNWR, for Government-owned subsurface rights in oil and gas located in the Arctic National Wildlife Refuge on the North Slope of Alaska (ANWR). Petitioner and the DOI negotiated the terms of a proposed exchange agreement (Proposed DOI Agreement) that included such an exchange.⁵

The Proposed DOI Agreement was contingent upon the occurrence of the following three events: (1) Ratification of the Proposed DOI Agreement by petitioner's shareholders; (2) enactment by the Congress of legislation opening the ANWR...