Opine Timber Co. v. Comm'r of Internal Revenue

• Decision Date: 30 July 1975
• Docket Number: Docket No. 1358-73.
• Citation: 64 T.C. 700
• Parties: OPINE TIMBER COMPANY, INC., PETITIONER v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT
• Court: U.S. Tax Court

64 T.C. 700

OPINE TIMBER COMPANY, INC., PETITIONER

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT

Docket No. 1358-73.

United States Tax Court

Filed July 30, 1975.

Charles B. Bailey, Jr., for the petitioner.

Robert W. West, for the respondent.

Held: 1. ‘Delay rentals' paid under a standard oil, gas, and mineral lease are ‘rents' within the meaning of sec. 1372(e)(5), I.R.C. 1954, and petitioner's election to be taxed as a small business corporation terminated under that section in its fiscal year ending Sept. 30, 1963, when over 20 percent of its gross receipts was from ‘delay rentals.’

2. Petitioner's election filed on Form 2553 on May 31, 1974, to be taxed under sec. 1372(a) which stated that the election was retroactive to Oct. 1, 1968, was not effective for its fiscal years ending Sept. 30, 1969, 1970, and 1971, even though respondent did not by a deficiency notice inform petitioner of the termination of its previously filed election until Nov. 27, 1972.

3. The fact that respondent sent a letter to petitioner on Jan. 19, 1972, stating that there was no change in petitioner's tax return as filed for its taxable year ending Sept. 30, 1969, did not preclude respondent from determining a deficiency in petitioner's tax for that year on Nov. 27, 1972.

OPINION

SCOTT, Judge:

Respondent determined deficiencies in petitioner's Federal corporate income tax for its fiscal years ending September 30, 1969, 1970, and 1971 in the amounts of $70,057.43, $53,814.85, and $20,644.72, respectively.

The issues for our decision are (1) whether petitioner's election in 1958 to be taxed as a small business corporation under section 1372, I.R.C. 1954, ¹ was terminated and, if so, the year for which the termination was effective; (2) whether petitioner's election in 1974 to be taxed as a small business corporation was valid and, if so, was this election retroactive to the years here in issue; and (3) whether respondent improperly made a second audit of petitioner's tax liability for the year 1969.

All of the facts have been stipulated and are found accordingly.

Opine Timber Co., Inc. (petitioner), an Alabama corporation, had its principal offices in Jackson, Ala., at the time of the filing of its petition in this case. Petitioner's principal business is the sale of standing timber. Petitioner filed tax returns for a fiscal year ending September 30. It filed United States small business corporation tax returns (Form 1120-S) for its years ending September 30, 1959 through 1971.

On November 5, 1958, petitioner filed with the District Director of Internal Revenue, Birmingham, Ala., a Form 2553 properly executed to be taxed as a small business corporation. The parties have stipulated and respondent in his answer admitted that this election was valid.²

On and after November 5, 1958, petitioner has not had more than 10 stockholders at any one time; has not had as a stockholder a person other than an estate who was not an individual or who was a nonresident alien; has not had more than one class of stock; and has not been a member of an affiliated group of corporations under section 1504.

In April 1961, petitioner executed a standard form of oil, gas, and mineral lease to John M. Gray, Jr. (Gray), covering approximately 2,960 1/2 acres of land in Clarke County, Ala. This lease (the agreement) provided in part as follows:

1. Lessor * * * hereby grants, leases and lets exclusively unto Lessee for the purpose of investigating, exploring, prospecting, drilling and mining for and producing oil, gas and all other minerals, laying pipe lines, building roads, tanks, power stations, telephone lines and other structures thereon to produce, save, take care of, treat, transport and own said products, and housing its employees, the following described land in Clarke County, Alabama, to-wit:

2. Subject to the other provisions herein contained, this lease shall be for a term of ten years from this date (called ‘primary term’) and as long thereafter as oil, gas or other mineral is produced from said land or land with which said land is pooled hereunder.

3. The royalties to be paid by Lessee are: (a) on oil, one-eighth of that produced and saved from said land, the same to be delivered at the wells or to the credit of Lessor into the pipe line to which the wells may be connected; Lessee may from time to time purchase any royalty oil in its possession paying the market price therefor prevailing for the field where produced on the date of purchase; (b) on gas, including casinghead gas or other gaseous substances, produced from said land and sold or used off the premises or in the manufacture of gasoline or other product therefrom, the market value at the well of one-eighth of the gas so sold or used, provided that on gas sold at the wells the royalty shall be one-eighth of the amount realized from such sale; where gas from a gas well is not sold or used, Lessee may pay as royalty $100.00 per well per year and if such payment is made it will be considered that gas is being produced within the meaning of Paragraph 2 hereof, and (c) on all other minerals mined and marketed, one-tenth either in kind or value at the well or mine, at Lessee's election, except that on sulphur mined and marketed, the royalty shall be fifty cents (50 cents) per long ton. Lessee shall have free use of oil, gas, coal, wood and water from said land, except water from Lessor's wells, for all operations hereunder, and the royalty on oil, gas and coal shall be computed after deducting any so used. Lessor shall have the privilege at his risk and expense of using gas from any gas well on said land for stoves and inside lights in the principal dwelling thereon out of any surplus gas not needed for operations hereunder.

5. If operations for drilling are not commenced on said land or on acreage pooled therewith as provided on or before one year from this date the lease shall then terminate as to both parties, unless on or before such anniversary date Lessee shall pay or tender to Lessor or to the credit of Lessor in First Bank of Grove Hill Bank at Grove Hill, Alabama (which bank and its successors are Lessor's agent and shall continue as the depository for all rentals payable hereunder regardless of changes in ownership of said land or the rentals) the sum of Two Thousand Nine Hundred Sixty and 50/100 Dollars ($2960.50), (herein called rental), which shall cover the privilege of deferring commencement of drilling operations for a period of twelve (12) months. In like manner and upon like payments or tenders annually the commencement of drilling operations may be further deferred for successive periods of twelve (12) months each during the primary term. The payment or tender or rental may be made by the check or draft of Lessee mailed or delivered to Lessor or to said bank on or before such date of payment. If such bank (or any successor bank) should fail, liquidate or be succeeded by another bank, or for any reason fail or refuse to accept rental, Lessee shall not be held in default for failure to make such payment or tender of rental until thirty (30) days after Lessor shall deliver to Lessee a proper recordable instrument, naming another bank as agent to receive such payments or tenders. The down cash payment is consideration for this lease according to its terms and shall not be allocated as mere rental for a period. Lessee may at any time or times execute and deliver to Lessor or to the depository above named or place of record a release or releases covering any portion or portions of the above described premises and thereby surrender this lease as to such portion or portions and be relieved of all obligations as to the acreage surrendered, and thereafter the rentals payable hereunder shall be reduced in the proportion that the acreage covered hereby is reduced by said release or releases.

8. The rights of either party hereunder may be assigned in whole or in part, and the provisions hereof shall extend to their heirs, successors and assigns: but no change or division in ownership of the land, rentals or royalties, however accomplished, shall operate to enlarge the obligations or diminish the rights of Lessee; and no change or division in such ownership shall be binding on Lessee until thirty (30) days after Lessee shall have been furnished by registered U.S. mail at Lessee's principal place of business with a certified copy of recorded instrument or instruments evidencing same. In the event of assignment hereof in whole or in part liability for breach of any obligation hereunder shall rest exclusively upon the owner of this lease or of a portion thereof who commits such breach. In the event of the death of any person entitled to rentals hereunder, Lessee may pay or tender such rentals to the credit of the deceased or the estate of the deceased until such time as Lessee is furnished with proper evidence of the appointment and qualification of an executor or administrator of the estate, or if there be none, then until Lessee is furnished with evidence satisfactory to it as to the heirs or devisees of the deceased, and that all debts of the estate have been paid. If at any time two or more persons be entitled to participate in the rental payable hereunder, Lessee may pay or tender said rental jointly to such persons or to their joint credit in the depository named herein; or, at Lessee's election, the proportionate part of said rental to which each participant is entitled may be paid or tendered to him separately or to his separate credit in said depository; and payment or tender to any participant of his portion of the rentals hereunder shall maintain this lease as to such participant. In event of assignment of this lease as to a segregated portion of said land, the rentals payable hereunder shall be apportionable as between the several leasehold owners ratable according to the surface area of each, and default in rental payment by one shall not affect the rights of...