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Significant recent developments in estate planning.

Cases and Rulings on Valuation; Charitable Giving; Marital Deduction; Generation-Skipping Transfer Tax; Chapter 14; and Miscellaneous Estate and Gift Tax Matters

Part I of this article, published in November, contained "headlines" (important or controversial events) and significant developments in gift taxation; disclaimers; debts, claims and administration expenses; powers of appointment and retained interests; and S corporation issues. Part II, below, covers developments in valuation; charitable giving; marital deduction; generation skipping; Chapter 14; and miscellaneous estate and gift tax matters. The summaries of developments will be supplemented by editorial comments and planning hints.

Valuation

Recent developments in the area of valuation included:

[] Stock revalued due to disallowed buy-sell agreement resulted in increased marital deduction.

[] Discounts determined for various real estate and stock holdings. ri Marketable stock value not reduced for hypothetical or assumed brokerage costs.

[] Preferred stock liquidation value was not a cap on fair market value (FMV).

[] Estate failed to meet the increased burden of proof required for a contamination refund claim.

[] Tax Court reconfirmed that a minority interest discount (MID) and special use valuation do not mix.

* "Disallowed" agreement increased stock value and marital deduction

In 1992, the Tax Court ruled in Est. of Lauder(63) that a buy-sell agreement was a device to transfer property to the natural objects of the decedent's bounty and would be ignored in determining the estate tax value of transferred stock. in a subsequent decision,(64) the court calculated the stock's value, in part,'by allowing a 40% lack of marketability discount (LOMD).

The corporation had redeemed the stock at the below-FMV buy-sell agreement price, thereby indirectly benefiting the remaining shareholders. The surviving spouse, one of the shareholders, benefited through the increased value of her stock. The IRS contended that no marital deduction should be allowed for the increased value because the transfer was not directly to her. The estate countered that various authorities in the gift tax arena conclude that transfers to corporations are treated as transfers to the shareholders(65); a gift tax marital deduction has been allowed under similar circumstances.(66)

The IRS also asserted that the passed interest was a terminable interest, because the surviving spouse's estate would later be forced to sell the stock at below FMV under the buy-sell agreement. The court disagreed, because the agreement would not be respected for subsequent transfer tax purposes and the surviving spouse would be subject to gift or estate tax on her stock's FMV when transferred. The marital deduction was therefore allowed.

* Valuation discounts determined

The type and magnitude of valuation discounts continued to be a significant point of contention. In Cervin,(67) the decedent owned undivided 50% community property interests in a 657-acre farm and a homestead. The Tax Court noted that it would be difficult to partition the farmland due to its varied soil compositions, layout and limited access to the main road; thus, a discount was appropriate, because a partition would involve substantial legal costs, appraisal fees and delay. However, a fractional interest owner could petition for a forced sale of the homestead. A prospective buyer would require a sizable discount because, under applicable state [Texas] law, he would incur the costs of such sale. The Tax Court thus allowed a 20% discount to the agreed FMV of the decedent's interests.

In Luton,(68) the decedent owned 78% of the stock of an S corporation (A Corporation), which owned a large ranch in California. The ranch land was subject to substantial local use restrictions. The decedent also owned one-third of the stock of a second S corporation (B Corporation), which owned real estate primarily comprised of a duck hunting reserve.

Because A Corporation stock had been held in the family for many years, the Tax Court disallowed valuation reductions for costs of sale or liquidation, finding that no such transaction was contemplated.(69)

Further, based on pre-tax Reform Act of 1986 (TRA) cases,(70) the court declined to allow a discount for capital gain that might be recognized on the corporation's sale of the underlying property. The court noted that it has consistently held that a discount for potential capital gains tax at the corporate level is unwarranted where there is no evidence that (1) a liquidation of the corporation was planned, or (2) the liquidation could not have been accomplished without incurring a capital gains tax at the corporate level. Query why the court apparently assumed that the "hypothetical buyer" would be a qualified S shareholder who could avoid that tax. The IRS indicates that built-in capital gains tax may be relevant in valuation.(71)

The Tax Court allowed a 20% LOMD on A Corporation's stock due to the general illiquidity of the underlying assets and the land-use restrictions. As to the one-third stock interest in B Corporation, the court allowed a 15% LOMD and a 20% lack of control discount (LOCD).

In Simpson,(72) the decedent's wholly owned corporation held one of the largest ranches in Arizona. The IRS and the decedent claimed combined LOMDs and LOCDs of 20% and 30%, respectively. The Tax Court disallowed the LOCD, because the decedent owned all of the corporation's stock. A 30% LOMD was allowed for the size and uniqueness of the ranch.

In Scull,(73) a 5% discount was allowed for a decedent's undivided 65% interest in a contemporary art collection, much of which was sold prior to the filing of the estate tax return. The court approved use of actual sale prices discounted to the date of death. Under an agreement, the decedent and his ex-spouse had held alternating rights to select artworks at agreed values until the ex-spouse had selected works totaling 35% of the collection's agreed value. The court determined that these rights created only minor uncertainties to a potential buyer of the 65% interest, resulting in only a 5% discount.

* Marketable stock value not reduced for underwriting fees and expenses

In Gillespie, III,(74) although a blockage discount was appropriate for a 6.54% stock interest in The Washington Post, hypothetical secondary offering costs for underwriting could not be used to further reduce the estate tax value. The Second Circuit accepted the IRS's position, as expressed in Rev. Rul. 84-30,(75) and concluded that, because such expenses are deductible as administration expenses, they cannot also be considered as a reduction to the stock's value; rather, the value must be based on the price the public would pay to the underwriter, not what the underwriter would pay to the estate. Accordingly, underwriting fees were not considered in determining the blockage discount.

* Liquidation value stated in corporate documents rejected

In Letter Ruling (TAM) 9419001,(76) in 1984, prior to death, the decedent exchanged publicly traded common stock for preferred stock in a closely held investment corporation. The preferred stock contained voting control, a $15 noncumulative dividend per share and $100 per share liquidation value.;-noting simply that the decedent was not required to liquidate the company on his death, the IRS concluded that the stated liquidation value was not a ceiling for estate tax valuation purposes. Interestingly, if the IRS agent on audit were to assert that the relatively high dividend rate added substantial value, that position would be contrary to the IRS's arguments leading to the enactment of Sec. 2701, that noncumulative dividends add little value.

* Estate failed to meet burden of proof on contamination claim

In Necastro,(77) the decedent owned an automobile salvage yard, including underground storage tanks and an area to dump fill material. An adjacent site was under investigation as a possible "superfund" site. The estate tax return reported the property's FMV without reduction for the possible contamination. Subsequently, the executor filed a refund claim, asserting that the property was virtually worthless.

The Tax Court denied the claim. According to the court, the value stated on the Federal estate tax return was an admission by the estate; further, a lower value cannot be substituted without cogent proof that the reported value was erroneous.(78) The Tax Court allowed estimated costs to clean the contaminated soil, remove the storage tanks and conduct ground water studies; however, no reduction was allowed for the costs of more speculative environmental concerns, because the estate could not prove that the contamination occurred before the valuation date or that a potential buyer would have perceived an environmental problem as of the date of death.

Executors would be well advised to carefully consider and properly report the effects of environmental issues in the estate tax return, rather than subjecting the estate to the increased burden of proof required for a refund claim.

* Special use value cannot be combined with a MID

In Hoover,(79) the decedent owned a 26% interest in a ranching limited partnership. The executor claimed a 30% MID relating to such interest and a further reduction under Sec. 2032A. Following Maddox,(80) the Tax Court denied use of the MID in conjunction with special use valuation. Therefore, executors must choose which of the two discounts will result in the greater benefit.

Charitable Planning

The following developments occurred in the area of charitable gift planning:

[] Contribution of option to acquire encumbered property violated charitable remainder unitrust (CRUT).

[] Unusual powers did not violate CRUT qualification.

[] A charitable conservation easement deduction was based on relative credibility of the experts.

[] The IRS permitted a limited partnership to create a CRUT.

[] A residuary charitable bequest was reduced by prorated estate taxes.

[] A charitable bequest subject to the executor's discretion did not qualify for deduction.

* Use of option barred CRUT qualification

Letter Ruling 9501004(81) highlights the problems in attempting to transfer encumbered property to CRUTs through the use of options. In the ruling, the taxpayer funded a CRUT with cash and unencumbered real estate. The taxpayer subsequently proposed entering into a fixed-price option, agreement with the trustee, allowing the trust the right, but not the obligation, to acquire a fee interest in contiguous encumbered real estate. The option was granted gratuitously. The CRUT was not expected to exercise the option, but to assign it to an unrelated party for consideration approximating the difference between the property's FMV and the option's exercise price.

The IRS concluded that the transfer of property pursuant to the option would terminate the CRUT, because it would circumvent restrictions on transferring encumbered assets. Because the option would not be enforceable under local law and could constitute a partial interest not qualifying for a charitable deduction, its use violated CRUT requirements.(82) The trust would then be a grantor trust, having violated CRUT requirements and given the taxpayer's retained interest; thus, the taxpayer would be taxable on the trust's income, gains and losses.(83) This ruling deters transferring debt-financed property or S stock to a CRUT via an option.

* CRUT powers approved

Letter Ruling 9423020(84)held that the following powers would not violate CRUT status: (1) the grant,ors' power to remove trustees, as long as the instrument prohibited the grantors (and related or subordinate parties) from being named as trustees,(85) (2) the trustee's discretion to allocate payments of the unitrust amount among the grantors and the charitable beneficiaries and 13) the grantors' retained power to terminate all or part of the CRUT at any time by directing the trustee to distribute CRUT property to the charitable beneficiary. The latter two rulings were conditioned on the instrument's requirement that the adjusted basis of any distributed property be fairly representative of the adjusted basis of all property available for distribution.

* Conservation easement valued

In Schwab,(86) a partnership purchased various fishing, game, water and other rights with respect to a 1,558-acre tract of land in California. The agreement also gave the partnership the right to restrict development activities. The purchase agreement allocated the $1,075,000 purchase price among the various rights. The partnership then granted an agricultural open-space conservation easement to a charity. The IRS disallowed the charitable easement deduction based on its expert's conclusion that the property's highest and best use of hunting remained unchanged. The Tax Court rejected this assertion, finding that a buyer clearly would pay more for a similar parcel without the easement. The taxpayer's experts had valued the easement by comparing the value of the partnership's rights before and after the easement. This case demonstrates the courts' willingness to weigh and ultimately reject an expert's opinion if it lacks reasonableness, rather than splitting the difference between various experts' views.

* Limited partnership could create a CRUT

In Letter Ruling 9419021,(87) a limited partnership created a CRUT for a term not exceeding 20 years. The unitrust amount was payable to the partnership. The IRS concluded that the trust qualified as a CRUT because neither the Code nor the regulations bar a partnership from being a donor to an otherwise qualified CRUT, as long as the partners are permissible donors. The advantage of using a partnership is the flexibility to allocate among the partners both the income tax deduction for the initial contribution and the unitrust payments received.

* Residuary charitable bequest reduced by taxes

In McKay,(88) a will provided for both charitable and noncharitable residuary bequests. Under the state law proration statute (California), charitable transfers do not bear the burden of estate taxes, because Such transfers do not contribute to the tax. However, the will required estate taxes to be charged against the residuary bequests without adjustment among the beneficiaries. A state court ruled that the taxes were to be borne solely by the noncharitable beneficiary. The Tax Court reviewed state law and determined that the will overrode it. Notwithstanding the state court's decision, which was not binding on the Federal tax determination, the taxes had to be prorated, reducing the charitable deduction. The document's drafter should have allowed state law to control or specifically excluded proration to the charitable bequest.

* No deduction for charitable bequest subject to executor's discretion

In Letter Ruling (TAM) 9443001,(89) a will directed property interests to be conveyed to the government or other charitable organization solely for a botanical garden or other described uses. The personal representative could determine whether the accepting organization would preserve the property in accordance with the testator's wishes. Within nine months from the date of the decedent's death, the representative could declare the bequest null and void if the property was not properly accepted subject to the usage requirements. The IRS concluded that there was more than a remote possibility that the interest would pass to an entity not qualifying under Sec. 2055[a). Even though the interest eventually might pass to a charity, it would be due to the personal representative's exercise of discretion, not as a result of the operation of a mandatory provision in the will. Therefore, the charitable deduction was disallowed.

However, in Letter Ruling (TAM) 9443004,(90) a decedent bequeathed $50,000 to a school to establish scholarships for needy students. If the school ceased to exist as an accredited institution, any remaining funds would revert to noncharitable beneficiaries. Citing Regs. Sec. 20.2055-2(b)(2), Example (2), the IRS concluded that the possibility of reversion was sufficiently remote; thus, a charitable deduction was allowed, reduced by the present value of the potential reversion.

Drafters must exercise caution in placing restrictions on charitable bequests. If such restrictions create more than a remote possibility that the property will fail to pass to charity, the deduction may be lost.(91)

Marital Deduction

Recent developments relating to the marital deduction included the following:

[] Marital bequests were affected by debts and expenses.

[] IRS granted relief for late qualified terminable interest property (QTIP) elections.

[] A marital deduction was allowed despite alternate beneficiaries for NON-QTIP property.

[] The IRS was whipsawed on QTIP property excluded from surviving spouse's estate due to final income distribution provision.

* Drafting determined whether marital bequests affected by debts and expenses

In Tessmer,(92) a will directed all debts and expenses to be paid from the residuary estate. The spouse was entitled to " . . . one-third (1/3) of all ... property, real, personal or mixed, which sum shall be in addition to any statutory set-off or other allowances to a surviving spouse, to be hers absolutely." The taxable estate was sufficient to pay debts and expenses, thus, the surviving spouse's one-third share was not reduced to pay them.

The Tax Court determined that the decedent intended to give his spouse one-third of his estate before reduction for debts and expenses, rather than one-third of the residuary amount. Because the residuary estate was sufficient to pay debts and expenses,,the marital deduction did not need to be reduced.

However, in Letter Ruling (TAM) 9434004,(93) a will required taxes to be borne by the residuary estate without reimbursement. A credit shelter trust was created from the residuary estate, with the balance,.,passing to a marital trust. The IRS interpreted applicable state law (Florida) to require estate taxes to be paid out of the residuary probate estate before funding any residuary clause bequests; thus, the amount passing to the surviving spouse had to be reduced for taxes.

State law must be considered when drafting marital bequests. If taxes or expenses are payable from the marital share, the marital deduction must be reduced, potentially through a circular calculation.(94)

* Extensions to make QTIP elections granted

Experienced estate tax return preparers know that QTIP elections must be properly shown on the return. Fortunately, the IRS frequently grants relief under Regs. Sec. 301.9100-1(a) and permits an extension to make the election when the return is filed without it.(95)

* QTIP election accepted despite alternate beneficiary for unelected portion

In Spencer,(96) the decedent's will provided that his surviving spouse, as executrix, could determine the amount passing to a QTIP trust via her QTIP election on the estate tax return; any unelected property passed to other beneficiaries. The IRS argued that the ability to "wait and see" caused the marital deduction to fail because the surviving spouse's post-death action could defeat the marital bequest. Arguably, the ability not to make the election was an impermissible power under Sec. 2056(b)(7)(b)(ii)(ii) to appoint property away from the surviving spouse from the date of the testator's death until the date of the QTIP election.

The Sixth Circuit overruled the Tax Court and allowed the marital deduction for property passing to the QTIP trust under the election. Following two other circuits,(97) the Sixth Circuit noted that all QTIP elections are made or not made after death, thereby potentially affecting the deduction's availability. It declined to find that any valid policy arguments supported the IRS's interpretation that the marital deduction should be unavailable if failure to make the election causes the property to pass to someone other than the surviving spouse. To the extent it passes elsewhere, the government will collect tax. To the extent QTIP is elected, the tax is deferred (as intended by Congress) and tax will be collected at the surviving spouse's death.

* Invalid QTIP not taxed in surviving spouse's estate

In Shelfer,(98) a surviving spouse received quarterly income distributions from her deceased husband's QTIP trust. The decedent's will provided that, at the surviving spouse's death, any income not distributed between the last distribution date and her date of death would be paid to the QTIP's residuary beneficiaries. The IRS had allowed a marital deduction for the QTIP on the decedent's death; however, on the surviving spouse's death, the executor did not include the QTIP in her taxable estate, contending that the spouse did not have a qualifying income interest for life because she was not entitled to income from the last distribution date until death.

Despite a Ninth Circuit ruling(99) to the contrary, the Tax Court held that the trust failed to qualify as a QTIP trust on the decedent's death, because the surviving spouse was not entitled to all the income"; thus, the trust was not properly includible in the surviving spouse's taxable estate. The IRS was whipsawed because the statute of limitations had expired on the decedent's estate tax return.

For decedents dying after Mar. 1, 1994, Regs. Sec. 20.2056(b)-7(d)(4) provides that QTIP provisions are not violated by a provision requiring that such "stub" period income be distributed to the QTIP's residuary beneficiaries.

Generation Skipping

Developments relating to the generation-skipping transfer (GST) tax included the following:

[] IRS granted extensions for late reverse QTIP elections.

[] A grandfathered trust's term was extended by exercise of a limited power of appointment.

[] Trust's division did not affect its grandfathered status, despite non-pro rata division of assets.

[] A challenge to the constructive addition regulation was rejected for a pre-1985 marital general power of appointment trust.

[] A surviving spouse's taxable gift did not negate a reverse QTIP election.

* Extensions granted for late reverse QTIP elections

The IRS continues to exercise its authority under Regs. Sec. 301.9100-1(a) to grant taxpa-yers extensions of time to make reverse QTIP elections under Sec. 2652(A)(3).(100)

* Exercise of power of appointment will not trigger GST tax

In Letter Ruling 9429014,(101) the decedent died in 1960. Testamentary trusts established in her will for each of her two daughters were to terminate at the later of their deaths or her grandchildren attaining age 21. However, the independent trustee was provided a special power of appointment under which termination could be delayed until 21 years after the death of certain individuals living at the decedent's death. The IRS ruled that the exercise of the power would not cause loss of grandfathered GST status. Under limited circumstances, Regs. Sec. 26.2601-1(al permits powers to be exercised to extend the duration of a grandfathered trust (i.e., a trust irrevocable on Sept. 25, 19851 beyond the period contemplated by the instrument's primary terms. Given the potential to shelter such trusts from additional transfer taxes, advisers should consider this opportunity.

* Non-pro rata division would not affect grandfathered status

In Letter Ruling 9429012,(102) a grandfathered trust provided substantially separate shares for the families of the grantor's two children. The trustee proposed to petition the local court to divide the assets into two separate trusts. The asset division would,-be non-pro rata, although it would be adjusted to reflect liabilities, including potential income taxes on unrealized appreciation. The IRS concluded that the proposed division would not affect the beneficiaries' interests or grandfathered status. However, the non-pro rata asset division would constitute a taxable exchange between the two new trusts under Sec. 1001, as neither the trust instrument nor local law explicitly authorized such a division. Authority to make non-pro rata divisions and distributions provides substantial flexibility and, in this instance, may have prevented the triggering of gain. Accordingly, drafters should consider granting such authority in virtually all trust instruments.

* Tax Court rejected constitutional challenges to constructive addition regulations

In Peterson,(103) the decedent's spouse had died in 19 74, and had created a marital trust that granted the decedent a testamentary general power of appointment. The decedent did not exercise the power of appointment and, on her death in 1987, the assets passed to the predeceased spouse's grandchildren under the trust's terms. The Tax Court ruled that the GST tax applied to the transfer to the grandchildren as a direct skip. The court rejected the estate's argument that TRA Section 1433[b)(2)(a) and Regs. Sec. 26.2601-1(b)(1)(v)(a) protected the trust from the GST. The court also held that application of the GST tax did not violate due process, even though the GST tax was not in existence at the predeceased spouse's death. The court allowed the taxpayer to reduce the GST tax base by the interest on the resulting GST tax deficiency.

* Taxable gift of spouse's interest did not negate reverse QTIP election

In Letter Ruling 9440018,(104) a Sec. 2652 reverse QTIP election was made with respect to a QTIP trust created in 1992. Sufficient exemption was allocated to give the trust an inclusion ratio of zero. The surviving spouse then transferred the life interest to the children in a transaction subject to gift tax. The IRS ruled that the decedent remained the transferor for GST purposes because of the reverse QTIP election, despite the taxable gift by the spouse. Therefore, the trust's inclusion ratio remained zero and no allocation of the surviving spouse's exemption was necessary.

Chapter 14, (Special Valuation Rules)

Developments relating to Chapter 14 included:

[] Transfer of family limited partnership interests were not subject to Sec. 2701.

[] A slight difference in stock classes' liquidation preferences did not trigger Sec. 2701.

[] An installment note was not a retained interest under Sec. 2701.

[] The IRS illustrated the Sec. 2701 subtraction method, including use of a MID.

[] A 10-acre land parcel and vacation home were eligible for qualified personal residence trust (QPRT) treatment under Sec. 2702.

[] Retained rental and first refusal rights were ruled acceptable for QPRTs.

* Family limited partnership not subject to Sec. 2701

In Letter Ruling 9415007,(105) a limited partnership was comprised of a transferor, his wife and trusts for the benefit of other family members. The transferor served as general partner and held a majority of the limited partnership interests. No partner had a liquidation right, but each could sell his or her own interest, subject to a right of first refusal held by the other partners. As general partner, the transferor controlled the timing and amount of distributions, which had to be proportional to the partners' respective capital accounts. The IRS ruled that proposed transfers of limited partnership interests to family members and trusts would not be subject to Sec. 2701, because the donor's distributive rights were of the same class as the transferred interests. The IRS also ruled that the transfers would be eligible for the gift tax annual exclusion and that the transferor's retained controls in his role as general partner would not cause the transferred interests to be included in his gross estate under Sec. 2036 or 2038.

* Slight difference in stock rights did not trigger Sec. 2701

In Letter Ruling 9451051,(106) a taxpayer proposed to exchange promissory notes of a corporation for noncumulative convertible preferred stock. Family members held the common stock. The preferred stock's terms were substantially identical to those of the common stock. Dividends could be paid on the preferred only if and when declared on the common. The dividend amount was the same as would be paid if the preferred stock was converted. The only apparent difference was that the preferred stock had a preferential liquidation right. After satisfying that preferential right, any residual assets would be distributed to all shareholders, except that the preferred shares' residual distribution would be reduced by their preferential distribution.

The IRS noted that such a contribution to capital can be subject to Sec. 2701. However, because the terms of the preferred and common stock were nearly identical, the IRS ruled that Sec. 2701 would not apply to the proposed transaction.

* Installment sale not subject to Sec. 2701

In Letter Ruling 9436006,(107) the taxpayer funded a trust for his descendants and their spouses with publicly traded stock valued at $1.2 million. He intended to sell additional stock and closely held partnership units to the trust in exchange for a 25-year term note bearing interest at the long-term applicable Federal rate. Interest was to be paid quarterly and principal would be paid at the end of the term (in a balloon payment). The IRS concluded that the note was not a retained interest subject to Sec. 2701. Consequently, Sec. 2701 did not apply to the sale of stock in exchange for debt.

* Subtraction method demonstrated

In Letter Ruling (TAM) 9447004,(108) a donor gave common stock of a controlled corporation to his children, retaining noncumulative convertible preferred stock. The IRS illustrated Regs. Sec. 25.2701-3(b), the subtraction method used to determine the amount of the gift. From the FMV of all the family-held interests in the corporation, the IRS subtracted the value of the preferred stock (the only senior equity interest). Three rights were then analyzed and determined to be worthless. First, the noncumulative dividend right had no value because it was not a "qualified payment" under Regs. Sec. 25.2701-2(a)(2). Second, the conversion right was expressed on a share-for-share basis, subject to adjustments for changes in equity ownership. Finally, the mandatory redemption right had no value because the purportedly fixed redemption date could be altered by the board of directors.

The IRS then assumed that the preferred stock had a nominal ($10) value, which was subtracted from the overall corporate value. That value was then allocated among the common shares. Finally, a 20% LOMD and LOCD was then applied to the resulting per-share common stock value.

* Ten-acre dwelling site qualified for QPRT

In Letter Ruling 9442019,(109) a taxpayer proposed to contribute a vacation home and its 10-acre tract of land to a QPRT. Although assessed as one unit for property tax purposes, the tract was shown as three lots on the development map approved by the town. The house was situated on the largest lot, which comprised about 70% of the acreage, and the house's well was located on the second lot. All three lots had been used as a single homestead since 195 1. The IRS concluded that the entire parcel was reasonably appropriate for the residence's purpose, considering the house size and location. Therefore, the entire property could be contributed to the QPRT without violating Regs. Sec. 25.2702-5(c).

* Retained rights acceptable for QPRTs

Potential grantors of QPRTS often are concerned about their loss of direct control over the property; the IRS has ruled favorably on this issue in two ways. In Letter Ruling 9433016,(110) the IRS held that the transfer of a beneficial interest in shares of stock in a cooperative apartment, while retaining legal title as a nominee of the trust, qualifies as a conveyance of the grantor's personal residence under Sec. 2702. Thirteen years after the transfer, when the trust terminates, the grantors intend to continue leasing the property from the remainder interest holders at FMV. The IRS ruled that, despite the retained usage right, the apartment would not be includible in the grantors' estates under Sec. 2036, provided that the rent paid actually was equivalent to then FMV rent.

In Letter Ruling 9441039,(111) under the terms of a proposed trust agreement, the grantor had a right of first refusal with respect to any proposed sale of the property by the trustee. The purchase price was FMV as determined by an independent appraisal. The IRS concluded that such a right would not disqualify QPRT treatment.

Miscellaneous issues

Miscellaneous developments included:

[] Three-year gift and GST tax statute of limitations effectively extended to four years by transferee liability assessment.

[] Circuits disagreed over whether transferee liability for tax and interest is limited to date-of-death value.

* Donees were liable even though IRS did not timely pursue donor

In O'neal, II,(112) the donors gave family business stock to their grandchildren and filed gift and GST tax returns in April 1988. In 1992, the IRS examined the gift tax returns, but the statute of limitations applicable to the donors had expired on Apr. 15, 1991. In February 1992, an IRS valuation expert significantly increased the value of the transferred shares. In April 1992, the IRS sent the grandchildren notices of transferee liability with respect to the donors' alleged gift and GST tax deficiencies.

The Tax Court upheld the assessments, agreeing that Sec. 6324 applied to the grandchildren. The court concluded that transferee liability exists whether or not the IRS first asserts a deficiency or takes any steps to collect from the donor. Sec. 6901(c) applied, extending the threeyear statute of limitations to four years; thus, the assessments were valid, because the gift tax returns were filed on Apr. 15, 1988, and the notices to the grandchildren were issued on Apr. 13, 1992.

* Circuits disagreed on extent of transferee liability for interest

In Baptiste,(113) a son received $50,000 in insurance proceeds on his father's death. The executor of the father's estate failed to pay estate tax and the IRS instituted transferee liability proceedings against the son to recover $50,000 of the tax deficiency, plus interest,

Agreeing with the Tax Court, the Eighth Circuit concluded that Sec. 6324(a)(2) limits a transferee's personal liability to the date-of-death value of property inherited. It disagreed, however, that the transferee was liable for accrued interest on the liability, relying on Poinier.(114) In Poinier, the Third Circuit had placed a similar limitation on transferee liability for unpaid gift taxes and interest.

However, in a parallel case(115) involving the decedent's other son, the Eleventh Circuit affirmed the Tax Court as to liability and interest. That court concluded that interest is an independent, personal obligation that can be collected pursuant to Sec. 6901, beyond the liability imposed by Sec. 6324(a)(2). This issue's ultimate resolution obviously remains uncertain, at least in circuits other than the Eighth and Eleventh.

(63) Est. of Joseph H. Lauder, TC Memo 1992-736. (64) Est. of Joseph H. Lauder, TC Memo 1994-527. (65) See, e.g., Adaline Kincaid, 682 F2d 1220 (5th Cir. 1982)(50 AFTR2D 82-6175, 82-2 USTC [paragraph] 13,484); Georgia Ketteman Trust, 86 TC 91 (1986); Rev. Rul. 71-443, 1971-2 CB 338. (66) See Est. of McCamant C. Higgins, TC Memo 1991-47; Rev. Rul. 71-443, id. (67) Est. of Alto B. Cervin, TC Memo 1994-550. (68) Est. of William F. Luton, TC Memo 1994-539. (69) See Est. of William T Piper, Sr., 72 TC 1062, 1087 (1979); Est. of Frank A. Cruikshank, 9 TC 162, 165 (1947); Est. of Mark W. Munroe, P-H TC Memo. Dec., [paragraph] 46,050; Est. of Wilfred W. Campbell, 114 F Supp 780 (E.D. Mich. 1953)(44 AFTR 448, 53-2 USTC [paragraph] 10,928). (70) Est. of Piper, id., p. 1087; Est. of Cruikshank, id., p. 165; Est. of Frederick J. McTighe, TC Memo 1977-410; Edwin A. Gallun, TC Memo 1974-284; Est. of Alvin Thalheimer, TC Memo 1974-203, aff'd on this issue and rem'd, 532 F2d 751 (4th Cir. 1976)(37 AFTR2D 76-1601, 76-1 USTC [paragraph] 13,139). (71) See IRS Valuation Guide for Income, Estate and Gift Taxes (Commerce Clearing House, Inc., Jan. 1994), pp. 9-15, -16. (72) Est. of Star C. Simpson, TC Memo 1994-207. (73) Est. of Robert C. Scull, TC Memo 1994-211. (74) George J Gillespie, III, 23 F3d 36 (2d Cir. 1994)(73 AFTR2D 94-23 74, 94-1 USTC [paragraph] 60,166). (75) Rev. Rul. 84-30, 1983-1 CB 224. (76) IRS Letter Ruling (TAM) 9419001 (1/5/94). (77) Est. of Dominick A. Necastro, TC Memo 1994-352. (78) See Est. of Joyce C. Hall, 92 TC 312, 337-338 (1989):' Est. of Nancy N. Mooneyhom, TC Memo 1991-178. (79) Est. of Clara K. Hoover, 102 TC 777 (1994). (80) Est. of Frances E. Wherry Maddox, 93 TC 228 (1989). (81) IRS Letter Ruling 9501004 (9/29/94). (82) See Regs. Sec. 1.664-1(a)(1)(iii)(a); Rev. Ruls. 82-197, 1982-2 CB 72, and 80-186, 1980-2 CB 280. (83) See Rev. Rul. 85-13, 1985-1 CB 184. (84) IRS Letter Ruling 9423020 (3/14/94). (85) Rev. Rul. 77-285, 1977-2 CB 213. (86) Charles R. Schwa b, TC Memo 1994-232. (87) IRS Letter Ruling 9419021 (2/10/94). (88) Est. of Miriam G. McKay, TC Memo 1994-362. (89) IRS Letter Ruling (TAM) 9443001 (4/14/93). (90) IRS Letter Ruling (TAM) 9443004 (1/7/94). (91) See, e.g., Rev. Rul. 55-335, 1955-1 CB 455; First Trust Co. of St. Paul State Bank v. Reynolds, 137 F2d 518 (8th Cir. 1943)(31 AFTR 432, 43-2 USTC [paragraph] 10,058); Est. of John C. Polster, 274 F2d 358 (4th cir. 1960)(5 AFTR2D 1868, 60-1 USTC [paragraph] 11,927); William H. Churchill, Jr., 68 F Supp 267 (DC Wisc. 1946)(35 AFTR 462, 46-2 USTC [paragraph] 10,516). (92) Est. of Henry L. Tessmer, TC Memo 1994-401. (93) IRS Letter Ruling (TAM) 9434004 (5/4/94). (94) See, e.g., Est. of Gordon P. Street, 974 F2d 723 (6th Cir. 1992)(70 AFTR2D 92-6220, 92-2 USTC [paragraph] 60,112), aff'g, rev'g and rem'g TC Memo 1988-553; but see Est. of Frances Blow Allen, 101 TC 351 (1993). (95) See IRS Letter Rulings 9427034 (4/14/94), 9429006 (4/18/94), 9430040 (5/4/94), 9430037 (5/4/94), 9430024 (5/2/94), 9436016 (6/6/94), 9452010 (9/20/94), 9402015 (10/15/93), 9422037 (3/3/94), 9429006 (4/18/94), 9430037 (5/4/94), 9430040 (5/4/94) and 945000,7 (9/13/94). (96) Est. of John D. Spencer, 43 F3d 226 (6th Cir. 1995)(75 AFTR2D 95-563, 95-1 USTC [paragraph] 60,188), rev'g TC Memo 1992-579. (97) Est. of Arthur Clayton, Jr., 976 F2d 1486 (5th Cir. 1992)[70 AFTR2D 92-6262, 92-2 USTC [paragraph] 60,121); Est. of Willard E. Robertson, 15 F3d 779 (8th Cir. 1994)[73 AFTR2D 94-2329, 94-1 USTC [paragraph] 60,153). (98) Est. of Lucille P. Shelfer, 103 TC 10 (1994). (99)Est. of Rose D. Howard, 91 TC 329 (9881, rev'd, 910 F2d 633 (9th Cir. 1990)(66 AFTR2D 90-5994, 90-2 USTC [paragraph] 60,033). (100) IRS Letter Rulings 9429018 14/25/94), 9430024 (5/2/94), 9430030 (5/3/94), 9430031 (5/3/94), 9430036 (5/4/94) and 9430038 (5/4/94). (101) IRS Letter Ruling 9429014 (4/22/94).

(102) IRS Letter Ruling 9429012 (4/22/94). (103) E. Norman Peterson Marital Trust, 102 TC 790 (1994). (104) IRS Letter Ruling 9440018 (7/7/94). (105) IRS Letter Ruling 9415007 (1/12/94). (106) IRS Letter Ruling 9451051 (9/23/94). (107) IRS Letter Ruling 9436006 (3/14/94). (108) IRS Letter Ruling (TAM) 9447004 (7/29/94). (109) IRS Letter Ruling 9442019 (7/19/94). (110) IRS Letter Ruling 9433016 (5/18/94). (111) IRS Letter Ruling 9441039 (7/15/94). (112) Kirkman Oneal, II, 102 TC 666 (1994). (113) Gabriel J. Baptiste, Jr., 29 F3d 433 (8th Cir. 1994)(74 AFTR2D 94-7455, 94-2 USTC 9160,173); aff'g in part and rev'g in part TC Memo 1992-199 and 100 TC 252 (1993). (114) Lois W. Poinier, 858 F2d 917 (3d Cir. 1988)(62 AFTR2D 88-6006, 8 8-2 USTC 9 13,783), cert. denied. (115) Richard M. Baptiste, 29 F3d 1533 (11th Cir. 1994)(74 AFTR2D 94-7477, 94-2 USTC 9160,178), aff'g TC Memo 1992-198 and 100 TC 252 (1993).
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Title Annotation:part 2
Author:Abbin, Byrle M.
Publication:The Tax Adviser
Date:Dec 1, 1995
Words:6400
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