Pawnee Petroleums Limited, Maraval Resources Limited and Nassau Petroleums Limited v. Minister of National Revenue, [1972] CTC 2303, 72 DTC 1273

W O Davis:—These appeals were heard at Calgary, Alberta on November 9 and 10, 1971 by the Tax Appeal Board as it was then constituted.

The appellant Pawnee Petroleums Limited (hereinafter referred to as “Pawnee”) has appealed from assessments to income tax dated July 13, 1970 in respect of its 1966, 1967, 1968 and 1969 taxation years ended June 30 of each year.

The appellant Maraval Resources Limited (hereinafter referred to as “Maraval”) has appealed from assessments to income tax dated July 13, 1970 in respect of its 1966 and 1968 taxation years ended August 31 of each year.

The appellant Nassau Petroleums Limited (hereinafter referred to as “Nassau”) has appealed from assessments dated July 10, 1970 in respect of its 1965, 1966, 1967 and 1968 taxation years ended December 31 of each year.

Because of the interrelationship of the three appellants and the fact that much of the evidence was common to all three appeals it was agreed by the parties that the three appeals would be heard together and that the evidence and submissions. would be common to al! three appeals.

From the evidence in general it would appear that the entire issue herein revolves substantially around the appellant Pawnee. In the year 1957 a Mr Ross A Laycock (to be referred to hereafter as ‘‘Laycock’’) left his employment with the California Standard Company in Calgary, to venture forth on his own. For the next two years Laycock worked in conjunction with a friend of his, a Mr Irving, who had also been employed by California Standard in matters involved in the oil and gas industry. Following this interval of some two years Laycock consulted a Mr D W Hilland, a barrister and solicitor practicing in Calgary, following which a private company was incorporated under the name of Articana Petroleums Limited, later renamed Pawnee Petroleums Limited, one of the appellants herein, through which Laycock was to operate. Mr Hilland had at an earlier stage in his career been an employee of the California Standard Company. In its initial stages Mr Hilland and his legal secretary, a Mrs Bitz, were the original directors and only shareholders, each owning a single share of the corporation. During the month of April 1960 Laycock became president and his wife Georgina Laycock became secretary-treasurer, the Original shareholders having retired. The shareholders then were Laycock who held 50 shares; his wife who held 49 shares and a business associate Brendon O Starkey who held one share. By 1964 the directors were Laycock, his wife and Hilland who had replaced Starkey and held one share as nominee of Laycock. Mr Laycock appears to have acquired considerable skill in titles and drawing agreements related to the oil and gas industry.

The scheme of operation was that Pawnee, because of special information available to Laycock, sought out persons, whose oil and mineral rights had been forfeited to the government of Alberta because of non-payment of a provincial tax thereon. Pawnee would thereupon enter into agreements with them whereby it would acquire the right of redemption of such oil and mineral rights and agree that if production was ever undertaken from such rights the original owners would be paid a royalty of 6 /4%, being one-half of what they normally would get under a lease. This scheme worked with a substantial degree of success and the large number of mineral titles thus acquired formed the basis or substrata of Pawnee’s activities. Pawnee then endeavoured to lease those mineral rights to oil and gas companies for exploration hopefully to receive a royalty from any production.

The original objects of Articana Petroleums ‘Limited are extremely extensive and are contained in no less than 19 lengthy paragraphs of the memorandum of association. Paragraph 20 purports to consolidate the various objects as stated and includes the statement “and generally to carry on any business, either organized or otherwise, which may seem to the Company capable of being conveniently or profitably carried on in connection. with the above, or calculated directly or indirectly to enhance the value and render profitable any of the properties or rights of the company . . .”.

lt is the contention of the appellant that it endeavoured to develop into an oil and gas exploration and development company as soon as it or Laycock (who appears to have been synonymous) has sufficient assets to form a basis for it and particularly in the area of Medicine Hat where there was believed to be a large reservoir of gas. It was suggested that in late 1963 or early 1964 Laycock attempted to put together a very large gas project in this general area of Medicine Hat which would have called for acquisition of a substantial number of mineral rights.

On December 31, 1963 Pawnee over the signature of Laycock directed a letter to California Standard expressing an interest in purchasing gas-in-place in the Dunsmore area, Townships 10 and 11, Ranges 4 and 5, West of the 4th Meridian. On January 30, 1964 Pawnee wrote to the Pacific Petroleums offering to supply fuel gas to the plant at Empress, Alberta. A letter from Canadian Delhi Oil Ltd to Pawnee, dated February 13, 1964, appears to reflect an arrangement whereby Pawnee was to purchase natural gas reserves underlying Canadian Delhi leases in Townships 11 and 12, Ranges 6 and 7, W4, in the Medicine Hat area. On February 17, 1964 Pawnee again wrote to California Standard offering to purchase the latter’s oil and gas rights for $875,000 and on February 26 California Standard replied declaring both offers of December 31, 1963 and February 17, 1964 of no interest.

In his search for available mineral rights Laycock entered into negotiations with a Mr Renke with respect to a parcel of land which the latter owned. Investigation disclosed to Laycock that a well had already been drilled on the property and then capped. Further investigation disclosed that a lease on the Renke land had already been granted to the California Standard Company in 1947. Laycock, it seems, entertained some apprehension as to the validity of this earlier lease, nevertheless, he took a second lease or top lease, as it is called, from Renke and registered the same on the title to the land together with a caveat which served to give notice to all and sundry that Pawnee claimed a superior lease to that registered in the name of California Standard Company.

In due course California Standard, proceeding under the provisions of The Land Titles Act (Alberta), called upon Pawnee to commence proceedings in court to establish the validity of the interest it claimed under its caveat. In these proceedings California Standard claimed $150,000 as damages. Pleadings were served and examinations for discovery were had and eventually the issue. went to trial sometime in June 1965. However, before written arguments had been submitted as had been requested by the trial judge, the parties composed their differences and settled the court proceedings. Pawnee assigned its lease to California Standard for a consideration of $1 and California Standard released Pawnee from all claims made, also for $1 and in return for a payment of $50,000 by California Standard to Pawnee the latter released California Standard from all claims.

A proportion of the funds received by Pawnee was distributed to Maraval and to Nassau, in due course, and the receipt thereof was disclosed in the respective returns of the appellants but was treated as a non-taxable receipt.

In 1970 the Minister reassessed each of the appellants in respect of its share of the settlement moneys and the appellants now take issue with the Minister in that respect.

Regrettably Mr Laycock died in December 1969 and as a result the only witness heard was Mr Douglas W Hilland whom Laycock had consulted in 1957 upon the incorporation of Articana Petroleums Limited, later to be known as Pawnee Petroleums Limited.

The Minister has taken the position that the taking of the Renke lease was done with a full foreknowledge of all the problems that would ensue with California Standard but nonetheless with the object in mind of eventually selling Pawnee’s interest in the oil and gas rights to California Standard.

There is little if indeed any disagreement between the parties with respect to the basic facts. It is clear that in 1947 California Standard had secured a lease of oil and gas rights for large tracts of property in Alberta including a lease from one E Renke with respect to section 5, 11, 4, W4, and there is no reason to doubt that a successful gas well was drilled on this property in 1948 by California Standard and then capped and held in reserve.

It appears that in the course of investigating titles to various leases in the area referred to, Laycock concluded that the lease entered into between California Standard and Renke was irregular in some technical aspect and further that California Standard was under agreement with Pembina Pipe Line Limited that the said gas well be placed in production.

With this knowledge, on February 19, 1964 Pawnee obtained the oil and gas lease from Frederick Renke (a successor in title to the original E Renke) covering the whole of section 5, 11, 4, W4, for a consideration of $1,259 and on the same day signed a further agreement (Exhibit R-4) whereunder $640 of the total consideration was payable forthwith and a 40-day option was granted to Pawnee to either pay a balance of $1,259 or withdraw from the lease agreement. Pawnee on the same day entered into an agreement with Frederick Renke to indemnify Renke in respect of any claims arising out of the granting of the said lease of February 19, 1964, and on February 21, 1964 filed a caveat in respect of its lease of February 19, 1964.

On March 2, 1964 Pawnee notified California Standard that the former then held a valid lease covering mines and minerals underlying section 5, 11, 4, W4 and on March 7, 1964 California Standard called upon Pawnee to take proceedings under its caveat in order to establish its titles. Litigation followed and California Standard claimed damages of $150,000 against Renke for having granted a lease to Pawnee and $150,000 against Pawnee for its actions in the matter.

It appears significant that following the commencement of Court proceedings Pawnee assigned a 25% interest in its lease in question to Nassau for a consideration of $1 and an undertaking that Nassau would assume the entire liability for all legal fees incurred by Pawnee and a proportional share of the legal costs and disbursements. It was not disputed that the principal shareholder of Nassau was a lawyer with extensive experience in the oil and gas industry and that the business of said companies and individuals consisted to a substantial degree of trading and dealing in titles to mineral and petroleum and natural gas rights.

A further 3772% of its remaining interest was assigned to Maraval and A G Donaldson. These assignments were never disclosed to California Standard nor were Nassau and Maraval made parties to the litigation.

As already stated, the litigation was eventually settled prior to a judgment being delivered. On July 20, 1965 Pawnee, for the purpose of implementing the terms of settlement and for a consideration of $1 and other good and valuable consideration assigned its Renke lease of February 19, 1964 to California Standard and California Standard, on its part in consideration of the nominal consideration of $1 paid by Frederick Renke and Pawnee respectively, released the said Renke and Pawnee from all claims for damages arising out of the legal proceedings between the parties. By a further release also dated July 20, 1965 Pawnee in turn and in consideration of $50,000 paid to it by California Standard released California Standard “of and from all actions, causes of action, claims, demands, damages, costs and expenses known or unknown, against the California Standard Company which Pawnee ever had, now has or can, shall or may hereafter have, relating to anything which has occurred prior to the date hereof in reference to the mines and minerals underlying Section 5, 11, 4, W4 in the Province of Alberta and in particular and without restricting the generality of the foregoing, of and from any actions, causes of actions, claims, demands, damages, costs and expenses, known or unknown by reason of or in any way prior to the date thereof arising out of or relating to. . . .” (then follows reference to)

(a) the original lease of July 9,1947;

(b) lease of February 24, 1964;

(c) matters alleged or set forth in pleading etc in litigation.

The $50,000 which California Standard agreed to pay to Pawnee was paid to and received by Pawnee’s lawyers, Messrs Prothroe, Gibbs, McCruden and Hilland, as well as an amount of $1,000 which was paid to Mr Renke to cover his court costs. The trust account ledger sheet of Messrs Prothroe, Gibbs, McCruden and Hilland, in the name of Pawnee Petroleums re California Standard records the receipt and disbursement of these funds as follows:

It is a matter of record that Nassau was incorporated on December 20, 1962 by memorandum of association. The witness Douglas W Hil- land and his secretary Aileen J Collins were the only shareholders; Mr Hilland holding 9 shares and Miss Collins having 1 share. it was designed as a shelf company readily available to any client who required a corporate entity in a hurry. The prime object of the company was: to acquire, explore for and produce petroleum, natural gas and all related substances and minerals.

Mr Hilland, who in 1965 was the president of Nassau, said that company had taken a passive interest or put in another way, “had followed along with whatever Pawnee elected to do in the matter of settlement of the litigation with California Standard”. lt is to be remembered that Nassau acquired its 25% interest in the Renke lease from Pawnee on March 31, 1965, that is something more than one year after the litigation had been commenced and some two or three months before the action went to trial. In further explanation for this passivity Mr Hilland said it was his personal opinion that there was considerable risk attached to the lawsuit in relation to the well. A letter dated March 31, 1965 (the date of the assignments to Maraval, Donaldson and Nassau) and written by the witness Hilland as president of Nassau to Pawnee, Maraval and A G Donaldson, and agreed to by all parties, is not without interest. It reads:

Re: P & N G Lease; Frederick Renke to Pawnee Petroleums Ltd, dated February 19, 1964

This will confirm our agreement with respect to the legal proceedings now being pursued with respect to establishing our title to the above lease. In consideration of the covenants contained herein, it is agreed between us as follows:

1. Nassau will assume the entire liability for all legal fees billed by Messrs Prothroe, Gibbs, McCruden and Hilland and any counsel retained by such firm during the course of any and all legal proceedings with respect to the aforesaid lease, up to and including the Supreme Court of Canada.

2. Court costs and disbursements arising out of the aforesaid legal proceedings shall be borne as follows:

Pawnee	371/2 %
Nassau	25%
Donaldson	18 /4%
Maraval	18 /

If the above correctly sets forth our understanding herein would you please execute and return a copy of this letter thereby concluding our agreement in this matter.”

Because of the close and involved relationship between all three appellants the evidence led was lengthy and at first glance complicated but after careful review there appears to be little if any disagreement between the parties from the factual standpoint. It is somewhat of a coincidence that Mr Laycock, the witness Hilland and his law partners Gibbs and McCruden were all former employees of California Standard and all to a greater or lesser degree were involved in the litigation commenced by Pawnee which came to haunt California Standard. It seems that the practice of top leasing a major oil company is not too common for reasons which are well understood but in the present circumstances did not deter Pawnee from embarking on the course it did.

After a thorough consideration of all the evidence I have reached the conclusion that Pawnee was clearly in the business of trading in mineral and oil titles and leases. The financial statements of the appellant Pawnee for the years 1964 to 1968 clearly establish in my mind that most of its revenue in the years with which we are concerned came from the sales of mineral titles and oil leases. Its inventory consisted of mineral and oil titles and leases and if that inventory was disposed of, and it matters not how, it was an act in the carrying on of a business. Vide: MNR v Pine Ridge Property Ltd, [1971] CTC 752; 71 DTC 5392.

When Pawnee registered its lease from Renke it was well aware of the earlier lease to California Standard and when it gave Renke the agreement of indemnity it well knew it was heading for a contest which was invited by the caveat and the notification to California Standard that Pawnee claimed to have a valid lease. Pawnee had a 40-day period in which to withdraw from the whole matter but it decided to see the matter through. There appears every indication. that Pawnee was fully aware it was buying a lawsuit when it leased from Renke. Its attempt to buy gas from California Standard had been rejected and this may well have been one reason why Pawnee elected to proceed as it did.

There were only two possible results which might arise from its litigation; it might result in Pawnee being offered a settlement on a nuisance basis to withdraw its claim to a lease or it might be fortunate enough to end up with a lease as inventory to the company. It was the sort of situation where Pawnee could not lose. When Pawnee notified California Standard on March 2, 1964 that it then held a valid lease it in fact only held a right to acquire a valid lease sometime during the 40-day period during which it had to pay an additional amount of $1,239 or in the alternative to withdraw. It was in the face of these circumstances that Pawnee instituted its litigation. Without delay Pawnee then assigned an interest in its so-called lease to Nassau and Maraval.

The latter two companies can hardly be said not to have known what the true circumstances were. Messrs Prothroe, Gibbs, McCruden and Hilland were all partners of the same law firm and were well aware what was involved in this game of top-leasing a major oil company. At the appropriate time in the course of the litigation settlement ‘was suggested. There appears to have been no particular difficulty in agreeing on acceptable terms. Mr Hilland, whose client Laycock was, was in favour of a settlement as he said he was aware of certain weaknesses and uncertainty in Pawnee’s position. Mr Hilland was also the leading force in the two companies Nassau and Maraval and would therefore have more than a casual interest in the outcome of this litigation. It is to be remembered that the assignments by Pawnee to these two companies were never made known to California Standard nor were the two companies ever made parties to the court action. In my mind this course of conduct disposes of any question of Pawnee ‘being an investor.

In my view the evidence taken as a whole clearly establishes that Pawnee in the circumstances related herein was engaged in an adventure in the nature of trade in respect of its lease from Renke and the share of the settlement which Pawnee received upon the disposition of the litigation and which amounted to $20,625 was income from that business or adventure, call it what one will, and was therefore subject to be taxed under the provisions of sections 3 and 4 of the Act.

After due consideration of all the many facets of the evidence adduced I am unable to detect any error on the part of the Minister in assessing the appellant Pawnee as he did.

For the reasons given the appeal of Pawnee Petroleums Limited will be dismissed.

Turning next to the appeal of Maraval Resources Limited I have concluded from all the evidence adduced that the share of the settlement of the California Standard litigation which Maraval received in the amount of $8,272 was in respect of the disposition of its interest in the Renke lease which of course was assigned to California Standard in the final settlement, and constituted income from an adventure or concern in the nature of trade under the provisions of sections 3 and 4 of the Act and was subject to tax.

In its 1966 tax return the appellant Maraval reported a loss for tax purposes of $748.38. When the proceeds from the disposal of its interest was taken into account by the Minister the net taxable income amounted to $7,523.62. When the Minister reassessed the appellant Maraval on July 13, 1970, he then had before him that taxpayer’s return for 1967 which reported a loss of $483.54. This loss the Minister carried back to the 1966 assessment thereby reopening his earlier assessment for that year and reducing the taxable income from $7,523.62 to $7,040.03.

For the reasons already indicated the appeal of Maraval Resources Limited in respect of the years 1966 and 1968 must be dismissed and the Minister’s reassessments in respect of those years left undisturbed.

And finally with respect to Nassau Petroleums Limited my conclu- sion is that it is in the same position in this matter as Maraval, in so far as the years 1966 and 1968 are concerned. It was a party, albeit an undisclosed party, involved in the California Standard litigation and ultimate settlement. My finding is that the proportion or share of the proceeds of settlement of the California Standard litigation which accrued to Nassau Petroleums Limited is a part of its income from its business and must be taxed as such.

Finally with respect to Nassau Petroleums Limited whose fiscal period ended on December 31 of each year, I have concluded that its participating share of the proceeds of settlement from the California Standard litigation amounting to $11,028 was taxable income arising from an adventure or concern in the nature of trade and therefore was subject to be taxed as such under the provisions of sections 3 and 4 of the Act. This share of the proceeds was paid out by Pawnee to Nassau on August 3, 1965 and taken into account as an item of earned surplus in its statement of income and expenses appended to its income tax return for the year 1965. This taxpayer reported a business loss of $906.87 for the year 1965 but on reassessment on July 10, 1970 the Minister added to taxable income the said amount of $11,028 and after deducting an item of $10,121.13 representing additional exploration expenses arrived at a taxable income of NIL, and leaving a balance of $38,682.14 as drilling and exploration costs yet to be written off.

For the year 1966 additional drilling and exploration expenses of $22,535.35 were incurred bringing the outstanding total to $61,217.49 which was written off in full against a revenue of $71,974.88 thereby leaving a balance of $10,757.39 as taxable income.

For the year 1967 the Minister set off additional exploration expenses of $270.61 against a loss of the same amount which had previously been deducted and concluded with NIL taxable income.

For the year 1968 the Minister in reassessing Nassau added to reported taxable income of $20,743.07 exploration expenses of $270.61 thereby establishing a revised taxable income figure of $21,013.68 which he then taxed.

The appeals for the years 1965 and 1967 have been based on assessments notifying the taxpayer that no tax was payable for those years. It is well established that no appeal lies from an assessment which notifies the taxpayer that no tax is payable. (See: Newfoundland Minerals Limited v MNR, [1969] CTC 639; 23 DTC 331.) The appeal of Nassau Petroleums Limited with respect to its 1965 and 1967 taxation years is therefore quashed.

With respect to the years 1966 and 1968 no error has been established on the part of the Minister in assessing as he did and the appeal of Nassau Petroleums Limited in respect of those years must be dismissed.

All in all these appeals for the reasons stated cannot succeed and must be dismissed as stated and the Minister’s assessments are confirmed.

Appeals dismissed.