Collecting Oil Lease Payment Income on behalf of others

[Bonny]

Not quite sure how to handle this.

I'm in the process of negotiating a small oil royalty lease wherein we are the largest % owner with 37.5% interest. There are a total of 10 other parties. Total one-time payment for lease (not the royalty %) is $5000 for 5 years for our 1 acre interest. We have incurred a couple hundred dollars of attorney's fees which were disclosed up front.

I think I should probably collect the payment from the lessee, deduct the attorney's fees and write checks to the other parties in order to ensure we get paid.

We all receive payments from the lessee for other royalty payments so I know we'll get a 1099 for what is sent to us. How would I document the payments to the other parties? Would I have to issue 1099s to each of them? The largest check will be $417.

Thanks for your help,

Bonny

[taxref]

I am not sure that I'm following your message correctly, but I believe you are forming an oil and gas partnership.  Such entities are often formed as limited partnerships.  

The partnership would file Form 1065 at tax time, and the business activity would flow through to the partners. As part of the 1065, a K-1 would be issued to each partner, rather than a 1099.  If you have not already done so, I would strongly advise that you make an appointment with a local accountant right away (before the end of the year).  

[Bonny]

Dec 15, 2013 21:22:47 GMT -5 taxref said:

I am not sure that I'm following your message correctly, but I believe you are forming an oil and gas partnership.  Such entities are often formed as limited partnerships.  

The partnership would file Form 1065 at tax time, and the business activity would flow through to the partners. As part of the 1065, a K-1 would be issued to each partner, rather than a 1099.  If you have not already done so, I would strongly advise that you make an appointment with a local accountant right away (before the end of the year).  

Hi Tax ref,

No formal partnership. These are successor interests to grand or great grandparents mineral and gas ownerships. I don't know if you've ever dealt with them before but each one of the 11 interests signs their own lease for their percentage interest and the oil company typically sends a separate check for each party. If they do sink a well and can get a marketable amount of oil (and they likely will) each of the royalty interests will get a separate check.

It's really not economically feasible to form a limited partnership for this small of an interest. Our 37.5% interest is only going to generate a $1875 gross rental payment. The two smallest interests are 3.125%.

[mwcpa]

While the dollars are small, if the underlying property is owned by multiple people, for tax purposes, more than likely an association has been created.  I would suggest setting up a general partnership (not much cost with that) or, if one did not want to do that and if the income was collected by one party for all, issue a 1099 misc for the payments made to the others.  The 1099 for a royalty is issued at a lower threshold than non employee compensation.

[Bonny]

MWCPA thanks for your response.

I clarified the title of my post. The payment that I would collect on behalf of the others is for a lease of our royalty interests. Note that this is a little different than a regular land lease as we do not have surface rights; only the mineral interests so the payment is almost like a 5 year option.

I think it's a little different would probably follow 1099 rules for an option or land lease. Not sure how they work. Would you mind directing me to an IRS publication? Also silly follow up question. Where do I find 1099 forms and would we be listing DH's SSN as the payer's ID?

And just to be clear if the company drills and gets enough marketable oil they will pay all of us a % of what they extract. This would be a separate payment paid by the company to each party separately.

[TheOtherMe]

Go here for Tips on Reporting Natural Resource Income.

www.irs.gov/uac/Newsroom/Tips-on-Reporting-Natural-Resource-Income

Forms 1099-MISC, 1096 (transmittal to IRS) and instructions can be ordered from the IRS.  I've ordered the 1099s etc. for the small church where I do the bookkeeping.  

If the checks are coming to DH, the payer would be your DH on the 1099.  

[Bonny]

Thanks TheOtherMe for the link!

I think turning around and issuing all these 1099s are going to be more hassle than not getting paid back by DH's relatives. We're not talking about a lot of money and I'd rather have the Oil Company deal with the bookkeeping.

[TheOtherMe]

Makes sense to me.

[mwcpa]

if you "pay" others and the $ are below the requirement for a 1099 that does not mean you cannot claim the offsetting deduction... the others should be reporting their share of income in any event (1099 or not).

I would suggest getting a w-9 from each person that is being paid, even if a 1099 is not due to them, and keep a copy of the "canceled" check paying them.  If you get audited you are safe... you did what is required....

[taxref]

Dec 18, 2013 21:51:38 GMT -5 TheOtherMe said:

Makes sense to me.

Not to me.  

One can buy a W-2/1099 program for between $25 and $40, and red copies of 1099 & 1096 for about another $10.  Just enter the data for the payer once and for each payee, and print them out.  The black copies print out on plain paper.  Buy the same program in future years, and all the information can be carried over.  

I've found that the one person who gets penalized for ignoring IRS and/or state (if ones state requires 1099s) rules on such matters are going to pay far more, and be involved in far more hassle, than if they had simply done things right the first time.  

[TheOtherMe]

I was under the impression Bon Bon was going to let the oil company do the bookkeeping.  I would never suggest that somebody not file or issue required forms.  

Yes, penalties generally will exceed the cost of doing things correctly.

At the small church where I work, we have no money.  We order the red forms from the IRS for free and write them out by hand.  We do our 1 W-2 the same way.  Can't afford the program or the red copies.

[tallguy]

I am a bit confused here.  I also am one who has oil and mineral rights passed down through the generations.  In the last few years I have signed leases on two parcels.  In both cases, every owner signed their own lease and received a check for the bonus payment.  There has been a well completed and we are currently awaiting a division order to start receiving royalties.  We will each receive our own checks there as well.  Given that you apparently have the same setup, as evidenced by:

No formal partnership. These are successor interests to grand or great grandparents mineral and gas ownerships. I don't know if you've ever dealt with them before but each one of the 11 interests signs their own lease for their percentage interest and the oil company typically sends a separate check for each party. If they do sink a well and can get a marketable amount of oil (and they likely will) each of the royalty interests will get a separate check.

Why are you under the impression that you should be in charge (or even have the option) of collecting and redistributing the funds?  Just to recoup the attorney fees?  If the other parties involved on your end are actually listed as owners of a certain number of net mineral acres the drilling company will pay each of you your proper percentage based on the NMA each owns.  If I am understanding your question correctly it appears you will have to ask each to reimburse you for the fees.  The drilling company won't be involved at all.  My understanding is that they are required to pay based on ownership interest. 

I actually have that same situation.  As executor I am accruing fees for probating the remaining rights into the names of myself and a sibling.  I provided an estimate of the costs and they agreed to reimburse me for half.  But that is outside the responsibility of the drilling company.

[Bonny]

Dec 24, 2013 23:54:58 GMT -5 tallguy said:

I am a bit confused here.  I also am one who has oil and mineral rights passed down through the generations.  In the last few years I have signed leases on two parcels.  In both cases, every owner signed their own lease and received a check for the bonus payment.  There has been a well completed and we are currently awaiting a division order to start receiving royalties.  We will each receive our own checks there as well.  Given that you apparently have the same setup, as evidenced by:

No formal partnership. These are successor interests to grand or great grandparents mineral and gas ownerships. I don't know if you've ever dealt with them before but each one of the 11 interests signs their own lease for their percentage interest and the oil company typically sends a separate check for each party. If they do sink a well and can get a marketable amount of oil (and they likely will) each of the royalty interests will get a separate check.

Why are you under the impression that you should be in charge (or even have the option) of collecting and redistributing the funds?  Just to recoup the attorney fees?  If the other parties involved on your end are actually listed as owners of a certain number of net mineral acres the drilling company will pay each of you your proper percentage based on the NMA each owns.  If I am understanding your question correctly it appears you will have to ask each to reimburse you for the fees.  The drilling company won't be involved at all.  My understanding is that they are required to pay based on ownership interest. 

I actually have that same situation.  As executor I am accruing fees for probating the remaining rights into the names of myself and a sibling.  I provided an estimate of the costs and they agreed to reimburse me for half.  But that is outside the responsibility of the drilling company.

Tall guy,

I just saw your post. We have the largest interest at 37.5% and have the most experience with the agreements. With everyone's permission, I've been doing all of the negotiations for the lease. Once we sign, everyone else will get their respective lease to sign. It's a one-time payment for 5 years so one way to approach it is to get the $5k payment (only 1 mineral acre), deduct the proportional share of the attorneys fees and distribute the remainder.

Frankly I doubt that DH's 1st cousins will reimburse us. Most of them are really ungrateful brats. His more distant cousins have been really wonderful and appreciative.

But the attorneys fees for this matter have been relatively minor. The probability of getting stiffed seems like less of an annoyance than getting linked with them in a tax situation.

[tallguy]

With everyone's permission, I've been doing all of the negotiations for the lease.

I understand that, but again, I don't think you have the option of collecting everyone's checks and then deducting the pro-rated fees before redistributing the funds.  The drilling company I believe is required to pay everyone directly absent any legal agreement otherwise, which you not only do not have but are unlikely to even want to do much less be able to get agreement from other leaseholders.

You can certainly ask either the attorney, the drilling company representative if you have their contact information, or the landman you were originally approached by.  I found mine to be very helpful in explaining some of the details.  But I don't think you are able to do what you are thinking about doing.  I am certainly not an expert, but I highly doubt the drilling company writing the checks will get involved in that type of situation.  It would seem to open them up to liability as far as mishandling the proceeds. 

[Bonny]

Dec 29, 2013 20:58:00 GMT -5 tallguy said:

With everyone's permission, I've been doing all of the negotiations for the lease.

I understand that, but again, I don't think you have the option of collecting everyone's checks and then deducting the pro-rated fees before redistributing the funds.  The drilling company I believe is required to pay everyone directly absent any legal agreement otherwise, which you not only do not have but are unlikely to even want to do much less be able to get agreement from other leaseholders.

You can certainly ask either the attorney, the drilling company representative if you have their contact information, or the landman you were originally approached by.  I found mine to be very helpful in explaining some of the details.  But I don't think you are able to do what you are thinking about doing.  I am certainly not an expert, but I highly doubt the drilling company writing the checks will get involved in that type of situation.  It would seem to open them up to liability as far as mishandling the proceeds. 

Actually they offered to pay me directly since I was the contact person. I think the payment situation would have just been incorporated into the payment section of their lease.

And FWIW I don't think anyone would have had a problem with me accepting the money and deducting the fees but at this point I don't want to get mixed up with them tax-wise. I think a couple of them have some serious financial issues despite getting a decent inheritance in the last year.