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SPRINGFIELD OIL DRILLING CORPORATION v. WEISS

August 26, 2003

SPRINGFIELD OIL DRILLING CORPORATION, PLAINTIFF
v.
RED WEISS, DEFENDANT



The opinion of the court was delivered by: Rebecca Pallmeyer, District Judge

MEMORANDUM OPINION AND ORDER

Plaintiff Springfield Oil and Drilling Corporation ("Springfield") brings this action against Defendant Fred Weiss ("Weiss") to enforce three subscription notes that Weiss executed for purchase of a half share in a limited partnership, Haskell Associates ("Haskell"), nearly twenty years ago.*fn1 Weiss claims that he has no obligation to pay the notes or, in the alternative, that he is entitled to set-offs in the amount of some or all of the indebtedness. Both sides have moved for summary judgment. For the reasons explained here, Plaintiff's motion is granted. Defendant's is denied, and Defendant is ordered to pay the notes in full.

FACTUAL BACKGROUND

On or about December 21, 1984, the Defendant entered into a subscription agreement with Haskell, a limited partnership formed under Delaware law. (Plaintiffs Rule 56.1 Statement of Undisputed Material Facts ¶ 5) (hereinafter "Pl.'s 56.1").) Under the terms of the agreement, Defendant purchased a one-half unit interest in the limited partnership at a price of $144,500. (Pl.'s 56.1 ¶ 5.) Haskell's stated purpose was to acquire working interests in oil wells to be drilled across the United States during 1984, 1985, and 1986; however, both parties admit that Haskell was [ Page 2]

established as a "tax shelter," under which limited partners could take the losses from the partnership's business and trade activities as deductions on their federal income tax forms. (Defendant's Rule 56.1 Statement of Undisputed Material Facts ¶ 8) (hereinafter "Def.'s 56.1").) Weiss himself admits participating in the limited partnership not because of an interest in the oil and gas industry, but solely to shield his personal income from taxes, (id.)

Weiss paid $12,500 of the $144,500 towards the cost of his one-half interest at the time of purchase, and executed interest-bearing subscription notes for the remaining amount, three of which remain unpaid. (Pl.'s 56, 1 ¶ 6, 7.) On or about December 21, 1984, Weiss signed the three notes, requiring him to pay to Haskell; (1) $48,500 by December 21, 1999; (2) $17,750 by December 31, 2000; and (3) $40,750 by December 31, 2001. (Pl.'s 56.1 ¶ 8.) Each of the Subscription Notes stated that "the undersigned shall be personally liable for payment of the principal balance of the Note, plus all interest." (Subscription Notes 1-3.) Language in Note 3 provided that, under certain circumstances, Weiss would be authorized to declare that particular note unenforceable. These two circumstances identified were: (1) if the Internal Revenue Code changed such that Weiss would be unable to claim the losses generated by Haskell during 1986, or (2) if there were a decrease of more than 10 percent of the income tax brackets at which Weiss's income would be taxed.*fn2 (Def.'s 56.1 ¶ 11.)

On the same day he signed the notes, Weiss executed a "Receipt for Private Placement Memorandum and Representations," acknowledging that he had received a Private Placement Memorandum from Haskell's General Partner, Richard Gersham. (Defendant's Reply to Plaintiff's Rule 56, 1 Statement of Undisputed Material Facts U 14) (hereinafter "Def.'s Reply".) Weiss also signed an "Offeree Representative Letter," which confirmed that he had reviewed, and understood [ Page 3]

the Private Placement Memorandum. All investors in the Haskell limited partnership received the Private Placement Memorandum, which stated that each limited partner would be personally liable for the amounts of the subscription notes. (Pl.'s 56.1 ¶ 13.) Additionally, if the partnership proved unable to generate revenue from its ventures in the drilling of oil wells, each limited partner would still be responsible for a cash repayment of the principal on the notes. (Id.)

According to Springfield's Vice-President, Jerry Karlik, Haskell sent to Weiss IRS Schedule K-1 forms for every year between 1984 and 1997 that reflected his share of the income, or losses, that were allotted to him under the limited partnership agreement each year.*fn3 (Pl.'s 56.1 ¶ 15.) The function of the annual K-1 form was to confirm the losses or gains Weiss received from Haskell for income tax purposes.*fn4 The Haskell limited partnership was ultimately unsuccessful, and dissolved in 1997. On December 31, 1997, Haskell assigned its interest in the subscription notes to Springfield Oil and Drilling Corporation. (PL.'s 56.1 U 16.) Springfield had been involved in the limited partnership since its inception, having been paid by Haskell to drill a series of wells in the mid-1980s pursuant to the partnership's stated purpose. (Affidavit of Jerry Karlik ¶ 5) (hereinafter "Karlik Aff.").)

Weiss has to date made no payments on any of the three subscription notes. (Pl.'s 56, 1 ¶ 17,) Springfield informed Weiss by mail that he was in arrears on his obligation, but Weiss has refused to comply, claiming he is under no obligation to pay the notes. (PL.'s 56.1 ¶ 18-19.) In this lawsuit, Springfield seeks recovery of the principal amount owed, plus interest and an additional [ Page 4]

15 percent penalty in attorneys' fees, authorized under the Subscription Agreement. (Pl.'s 56.1 ¶ 21.) As of December 31, 2002, Springfield claims that Weiss owes $74,988 on Note 1, $27,761 on Note 2, and $63,733 on Note 3, for a total amount of $166,482. (Pl.'s 56.1 ¶ 22-24.) Weiss denies this assertion, and further informed Springfield's attorneys on December 12, 2002 that he had elected to declare Note 3 unenforceable due to changes in the Internal Revenue Code.*fn5

DISCUSSION

On these cross-motions for summary judgment, Defendant Weiss raises two major sets of defenses to Plaintiff Springfield's claim for payment on the notes: First, Weiss claims that Springfield, as a transferee of a negotiable instrument, is not a holder in due course and is therefore subject to standard contract defenses, including the following: (1) the notes were executed in connection with an oral agreement that Weiss would never have to repay them, and therefore are not enforceable due to a lack of consideration; (2) the notes, which were executed in furtherance of Weiss's intention to be a part of a tax shelter, no longer served that purpose after the passage of the Tax Reform Act of 1986, and thus are not enforceable due to the doctrine of frustration of purpose; and (3) the notes are not enforceable because, as a public offering not registered with the Securities and Exchange Commission (SEC), they violate the Securities Act of 1933.

The Defendant further argues, in the alternative, that if the court finds the notes enforceable, he is entitled to set-offs that reduce significantly the amount he owes. Weiss claims that; (1) he exercised his option to rescind Note 3 because changes in the Internal Revenue Code due to the Tax Reform Act of 1986 ended Haskell's effectiveness as a "tax shelter," and (2) he did [ Page 5]

not receive a distribution of $69,152 in 1997 to which he was entitled, and that amount must now be applied to reduce the principal and interest he owes.

A motion for summary judgment will be granted only if no genuine issue of material fact exists and the moving party is entitled to judgment as a matter of law. FED. R. Civ. P. 5G(c); Celotex Corp. v. Catrett, 477 U.S. 317, 322-23 (1986). In determining whether a genuine issue of material fact exists, the court should consider the evidence in the light most favorable to the non-movant. Adickes v. S.H. Kress & Co., 398 U.S. 144, 157 (1970). These standards apply even W here, as here, both parties have moved for summary judgment. The court will consider the merits of each motion separately and draw reasonable inferences in favor of the non-movant on each motion; this "Janus-like perspective . . . sometimes forces the denial of both motions," but only where there are material facts in dispute. Buttitta v. City of Chicago, 803 F. Supp. 213, 217 (N.D. Ill. 1992). The Seventh Circuit has observed that cases involving contract interpretation are particularly well-suited to disposition upon summary judgment. Neuma, Inc. v. AMP, Inc., 259 F.3d 864, 871 (7th Cir. 2001); Grun v. Pneumo Abex Corp., 163 F.3d 411, 419 (7th Cir. 1998), cert, denied, 526 U.S. 1087 (1999).

A. Choice of Law

Both Plaintiff and Defendant raise the issue of choice of law in their respective motions. Defendant claims that Illinois law must apply, while Plaintiff claims that either Delaware or Illinois law may apply, and cites cases from both jurisdictions in its briefs. Plaintiff further avers that this court need not settle the issue of which state's law applies because Illinois and Delaware do not differ on the legal issues raised by this motion. The court recognizes, however, that "even in the absence of a `true conflict,'" it is "obliged to choose the applicable law." Hystro Prods., Inc. v. MNP Corp., 18 F.3d 1384, 1387 (7th Cir. 1994). Plaintiff correctly notes that the Haskell Limited Partnership Agreement contains an express provision stating that Delaware law controls the [ Page 6]

"Agreement, the application or interpretation thereof and the liability of the parties hereto," (Agreement of Limited Partnership (hereinafter "Lim. Part. Agreement"), Haskeil Associates ¶ 11.4.) The subscription notes themselves, in contrast, do not contain a choice of law provision.

A federal court sitting in diversity looks to the conflict-of-laws rules in the state in which it sits to choose the substantive state law applicable to the case. Klaxon Co, v. Stentor Elec, Mfg. Co., 313 U.S. 487 (1941). In dealing with choice-of-law issues in the area of contract law, the Illinois Supreme Court has applied the "most significant contacts" test from the Second Restatement of Conflicts. GATXLeasing Corp. v. Nat'l Union Fire Ins. Co., 64 F.3d 1112, 1115 (7th Cir. 1995). Under this test, the factors relevant to a choice-of-law decision include "the place of contracting, negotiation, performance, location of the subject matter of the contract, and the domiciI[e], residen[ce], place of incorporation, and business of the parties." Id., quoting Palmer v. Beverly Enters., 823 F.2d 1105, 1109-10 (7th Cir. 1987). Here, the Defendant and maker of the subscription notes is ...


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