Annual Court Case Update
32nd Annual National Trust
Closely Held Business
Association Conference
October 9-12, 2007
Presented by Jeremy Weir, MPI Regional Director
77 Franklin Street, 5th Floor • Boston, MA 02110
www.mpival.com • 617-482-6462 • 617-482-2515 Fax
JWeir@mpival.com
Introduction - Issues
2036 (a),
Fractional Interests,
Real Estate
Art works
Restricted Stock,
S-Corporation,
Miscellaneous,
6166 election
Allocation of redemption Price
Real Estate
Lottery
Appeals Court
Copyright MPI, 2007
Introduction - Cases
Estate of Hilde E. Erickson v. CIR.
Estate of Sylvia Gore v. CIR.
Estate of Helen H. Berry v. Commonwealth of PA.
Estate of Margot Stewart v. CIR.
Robert Grove Stone et al v. United States.
Estate of Georgina T. Gimbel v. CIR.
Bernier v. Bernier.
Estate of Edward P. Roski, Sr. v. CIR.
R. William & Mary Ann Becker v. CIR.
Terene Investments, Ltd, Deerbrook Construction v. CIR.
Roland & Marie Womack v. CIR.
Estate of Thompson v, CIR.
Estate of Virginia A Bigelow v. CIR.
Copyright MPI, 2007
2036 (a) (1) and (2)
Sec. 2036. TRANSFERS WITH RETAINED LIFE ESTATE
(a) General Rule. – The value of the gross estate shall include the value of all
property to the extent of any interest therein of which the decedent has at
any time made a transfer (except in case of a bona fide sale for an
adequate and full consideration in money or money’s worth), by trust or
otherwise, under which he has retained for his life or for any period not
ascertainable without reference to his death or for any period which does
not in fact end before his death—
(1) the possession or enjoyment of, or the right to the income from, the
property, or
(2) the right, either alone or in conjunction with any person, to designate the
persons who shall possess or enjoy the property or the income
therefrom.
Copyright MPI, 2007
Estate of Hilde E. Erickson v. CIR, T.C. Memo. 2007-
107, Filed May 25, 2007.
Issue – Whether property transferred to an FLP shortly before death is
includable in the estate under 2036 (a) 1. Tax Court says, ―Yes.‖
Decedent elderly (88) and sick (Alzheimer’s, pneumonia) at time of setup in
March/April 2001. Death occurred on September 30, 2001, Minnesota.
FLP provided nothing more that previous estate plan, except tax savings.
All partied represented by same law firm.
Child acting on all sides for self, mother, trust, siblings.
Funding not completed timely in accordance with LP agreement.
Death bed transfers to reduce decedent’s holding from 86% to 24%.
Use of FLP funds for estate expenses and taxes, with no other distributions.
Court says, must have ―legitimate and significant non-tax purpose as well as
adequate and full consideration‖ for bona fide sale exception.
Estate and gift tax deficiencies of $1,452,919 upheld.
Copyright MPI, 2007
Estate of Sylvia Gore v. CIR, T.C. Memo. 2007-169,
Filed June 27, 2007
Another bad facts case.
Husband dies January 1995, wife dies June 12, 1997. Oklahoma Estate.
Partnership discussed in 1996, established December 19, 1996.
Only parties named in FLP Capital schedule are son and daughter as GPs
with contribution of $500 each that was not actually made timely.
FLP did not hold legal title to assets at time of death, June 12, 1997. Funding
began September 1997 and continued up to August 2000.
Accounting was back-filled and contradicted facts.
Dividends and Interest not properly accounted for.
Unequal distributions.
Same parties on both sides of transactions.
FLP non-engagement in any business.
Recycling of assets, no bona fide sale.
Estate and Gift Tax deficiencies totaling $1,990,612 upheld.
Copyright MPI, 2007
Estate of Helen H. Berry v. Commonwealth of PA, No.
1485 C. D. 2006. Filed April 24, 2007
Background
An appeals case from PA’s Orphan’s Court of Venango County.
Decedent set up HJL Family Limited Partnership (―HJL‖) on 1/30/1998 and
funded with $6,783,593 in cash and marketable securities in return for 1% GP
and 97% LP interests.
Funded revocable trust 6/1998 with GP and LP interests.
From 1999 to early 2003, received all income from trust and made gifts of
cash and LP interests.
Helen died on March 30, 2003.
706 and PA inheritance tax returns timely filed, each reporting Helen’s GP
and LP interests having taken 33% discounts for lack of control and
marketability.
706 appears to have been accepted as filed. However, PA Dept. of Revenue
disallowed the discounts.
DOR position upheld in Orphan’s Court. Estate appealed.
Copyright MPI, 2007
Estate of Helen H. Berry v. Commonwealth of PA, No.
1485 C. D. 2006. Filed April 24, 2007
DOR Position
HJL did not operate as a legitimate business. Therefore it was merely a tax
avoidance mechanism.
Discounts not defended. No evidence to show that willing seller would
consummate sale at discounted value.
Decedent made substantial cash withdrawals from HJL.
Estate Position
IRS acceptance of discounts must be dispositive for PA.
HJL serves legitimate business purpose.
Court Findings
While PA has no regulations regarding LPs, Statute says that until regulations
are established, PA will follow IRS estate.
This does not mean that PA must accept IRS decision. IRS does not control
PA inheritance tax determination.
Taxpayer has burden of proof.
Copyright MPI, 2007
Estate of Helen H. Berry v. Commonwealth of PA, No.
1485 C. D. 2006. Filed April 24, 2007
Court Findings cont.
Finds support for DOR position through 2036 of Code.
Finds decedent retained both possession of and right to income through her
role as trustee of her trust.
No valid business purpose demonstrated to support bona fide sale.
Accountant quoted that purpose of HJL was asset protection, preserve
estate, and save taxes.
Withdrawals for personal use, including gifts, worked against taxpayer.
Significance of case is that it is a 2036 - driven decision at the state level.
Copyright MPI, 2007
Estate of Margot Stewart v. CIR, T.C. Memo. 2006-
225, Filed October 24, 2006
Background
July 10, 1989 Margot deeded real property in East Hampton, NY to her son,
Brandon, as JTRS, agreeing to share expenses.
Margot also owned property in NYC, where she and her son lived on separate
floors.
October 1999, Margot leased remaining three floors to unrelated third party.
May 9, 2000, Margot deeded 49% interest in NYC property to son as TIC.
Deed not recorded until April 2001, although delivered to company for
recording on May 10, 2000.
Margot died November 27, 2000. Until her death she received all tenant
income from NYC property, also paid almost all expenses of property.
Gift Tax and estate tax returns timely filed.
IRS, at audit, issued notices of deficiency on gift and estate returns.
Copyright MPI, 2007
Estate of Margot Stewart v. CIR, T.C. Memo. 2006-
225, Filed October 24, 2006
Audit Issues
IRS claims gift of 49% not completed gift because deed never recorded prior
to death.
IRS claims property is includable in estate under 2036.
Court Findings
Per NY law, recording is not required for completion of gift, but full value is
includable under 2036 (a).
―Enjoyment as used in the death tax statute is not a term of art, but is
synonymous with substantial present economic benefit.‖
Also includes express or implied understanding at the time of the transfer.
Margot collected and kept monthly rents on NYC property and paid most of
the expenses on both properties.
No evidence that adjustments would be made at end of year 2000.
Copyright MPI, 2007
Robert Grove Stone v. U.S., No. 3:06-cv-00259. Filed
May 25, 2007
Background
Lois Stone died 9/1/1999, having survived her husband by two years.
706 reported value of a 50% tenant-in-common interest in nineteen works of
art with gross appraised value by Sotheby’s of $5,085,000 at $1,420,000.
Value derived by Sotheby’s was discounted by 44% by FMV Opinions, Inc.
based on fractional interest discount.
At audit, IRS claimed value of art was $2,766,250 on basis that several
paintings were undervalued by Sotheby’s and that no fractional interest
discount should be applied.
Estate claimed IRS accepted values by Sotheby’s in prior estate.
Court Findings
Burden of proof is on taxpayer.
Sotheby’s report provided no substantiation of their values.
Estate failed to provide expert witness on values at trial. IRS did.
Copyright MPI, 2007
Robert Grove Stone v. U.S., No. 3:06-cv-00259. Filed
May 25, 2007
Court Findings cont.
IRS closing of file on husband’s estate not an admission of agreement of
either Sotheby’s appraisal or use of fractional interest discount.
IRS value of art work prevails at $5,532,500.
Concludes that hypothetical seller would not accept 44% discount. IRS
experts testified to sales of fractional interests but never at discounted values.
Estate expert could find no data on such sales. His discount was premised on
real estate and real estate limited partnership studies.
Concludes that fractional owner would seek to sell 100% of art work and split
proceeds.
Since partition is a right of TIC ownership, any discount must be predicated
on costs involved in partition action.
With IRS at 2% and estate at 51%, Judge remands parties to negotiate
appropriate discount, with right to return to court if agreement is not reached.
Copyright MPI, 2007
Estate of Georgina T. Gimbel v. CIR, T.C. Memo.
2006-270, Filed December 19, 2006
Background
GTG died June 5, 2000, resident of California, with 3,548,450 shares of
unregistered stock in Reliance Steel and Aluminum Company (NYSE)
taxable in her estate.
Husband had predeceased her by two years.
Total shares (some registered, most unregistered) owned by decedent equaled
13% of shares outstanding.
Son was member of Board of company.
Company was growing in size (a number of acquisitions, plus internal
growth) and profitability.
On the valuation date, Reliance was in confidential negotiations to acquire a
large company, draining cash and liquidity if deal consummated.
Reliance had increased its quarterly dividend.
Mean trading price of public shares June 5, 2000 was $20.8125.
Copyright MPI, 2007
Estate of Georgina T. Gimbel v. CIR, T.C. Memo.
2006-270, Filed December 19, 2006
Background cont.
18,300 shares traded on valuation date. Average trading volume for 10
weeks preceding was about 25,000 shares per day. (142 days of trading
volume.)
As of valuation date no active market for options, hedging, or derivatives
available for company’s registered shares.
Given size of block owned, decedent considered an ―affiliate‖ for SEC
reporting and trading purposes under Rule 144. Maximum transaction size
was 278,000 shares on a quarterly basis, or 3.2 years to ―dribble out‖.
In December 1994, Reliance adopted a formal stock repurchase plan which
allowed for repurchase of up to 2.25 million shares.
In August 1998, Reliance increased limit to 6 million shares.
2.7 had been purchased through valuation date;
646,200 purchased in October 1998.
Copyright MPI, 2007
Estate of Georgina T. Gimbel v. CIR, T.C. Memo.
2006-270, Filed December 19, 2006
Background cont.
On May 25, 2000, CEO announces at major conference record results for
Reliance and Board consideration of redeeming shares at $19.00.
No prior discussions about redemption of Gimbel shares.
After death, management approached for help in selling shares in a private
transaction. Investment bank (DLJ) was unable to generate interest.
Board of Reliance then considers possibility of acquiring estate shares, given
pending acquisition, need for additional financing, and impact of leverage on
company’s performance.
October 18, 2000, Reliance approves purchase, consummated on October
30th. 2.27 million of the total shares owned by the estate acquired at $19.35.
Copyright MPI, 2007
Estate of Georgina T. Gimbel v. CIR, T.C. Memo.
2006-270, Filed December 19, 2006
Valuations
Discounted
Discount from Discounted Per total value of
Trading Price Share Value Reliance shares
706 Tax Return
20.72% $16.50 $59,420,918
(Gregory Range)
IRS Audit
8.0% $19.15 $68,964,263
(N/A)
Estate Expert
17.0% $17.27 $62,209,637
(Curt Kimball)
IRS Expert 9.0% $18.94 $68,207,998
(Kenneth Nunes) (Blend of 13.9% and 5%)
Copyright MPI, 2007
Estate of Georgina T. Gimbel v. CIR, T.C. Memo.
2006-270, Filed December 19, 2006
Court Findings
Agrees with experts that secondary public offering unlikely in this case.
Evidence does not support Private Placement transaction.
Agrees with Estate experts that options, hedging, or derivative contracts
unlikely in this situation.
Agrees with IRS expert that Reliance repurchase was reasonably foreseeable,
but disagrees that it was foreseeable that 50% of restricted shares would be
repurchased. Finds 20% reasonable based on historical purchases and uses
IRS expert discount rate of 13.9% for repurchased shares. (Avg. of DLJ
range.)
Finds balance of shares should be valued under Rule 144 ―dribble out‖ rules.
Rejects IRS expert, uses Kimball’s approach of a required return on equity
using Reliance data. Overall discount on ―dribble out‖ shares of 14.4%.
Aggregate discount on all shares was 14.2%.
Copyright MPI, 2007
Bernier V. Bernier, SJC-09836 (Mass. 9-14-2007)
Background
Divorce case after 32 years of marriage, involving valuation of 50% interest
in two S-Corporations.
Companies are two privately owned, very profitable grocery stores located on
the island of Martha’s Vineyard, MA run by the husband since 1986.
Valuation issue is over whether or not it is appropriate to discount the value
of an S-Corp by tax affecting the earnings at the applicable C Corporation tax
rate, where one spouse will receive ownership of all shares after the divorce
and the other will have to relinquish all ownership.
Other issues included ―key man‖ and marketability discounts.
This is an appeals case from the MA Probate and Family Court where divorce
cases are heard and where the judge ruled in favor of the husband’s appraiser
who made adjustments for taxes, ―key man‖, and marketability.
Copyright MPI, 2007
Bernier V. Bernier, SJC-09836 (Mass. 9-14-2007)
Husband’s Appraisal Expert – Joel Horvitz
Combined FMV of businesses - $7,850,000 after C-Corp ―avg. 35% rate‖ tax
adjustment, 10% key man discount applied at after-tax net income level, and 10%
LOM.
Rationale for tax affecting – probable buyer would factor tax considerations into
required rate of return on purchase.
DCF model used.
Wife’s Appraisal Expert – Mark Leicester, RSM McGladrey
Combined FMV of businesses - $16,391,000
No tax affecting justified since no taxes at entity level and no sale of company was
under consideration.
While admitting that husband was ―key man‖, no discount is warranted since he is
surviving owner. Same rationale for not applying LOM.
DCF model used.
Copyright MPI, 2007
Bernier V. Bernier, SJC-09836 (Mass. 9-14-2007)
SJC Findings
Central issue in valuing S-Corp is whether and how to account for tax
consequences and acknowledges Tax Court and appraiser differences.
Both experts at opposite ends: discounts vs. no discounts.
While judge may accept or reject expert findings, judge ―may not, however,
reach a valuation that is materially at odds with the totality of the
circumstances or, in the case of divorcing spouses, at variance with the
requirements of the equitable distribution statute.‖
Finds lower court judge erred in this manner.
Judge draws upon Delaware Open MRI v. Kessler, 898 A2d 290, 327
(Del.Ct. Ch. 2006) which found that failure to tax affect at all artificially
inflates the value of an S-Corp by overstating the rate of return that a
retaining shareholder hopes to achieve.
Repeated highlights ―fiduciary relationship‖ in standard of case.
Copyright MPI, 2007
Bernier V. Bernier, SJC-09836 (Mass. 9-14-2007)
SJC Findings cont.
Since Delaware MRI and this case have similar ―fiduciary standards‖, court
adopts the Delaware MRI concept of tax affecting.
In Delaware MRI, the judge asked the question, ―If the S corporation were a
C corporation, at what hypothetical tax rate could it be taxed and still leave to
shareholders the same amount in their pockets as they would have if they
held shares in an S corporation?‖
Assuming a dividend tax rate of 15% and a personal income tax rate of 40%
(based on taxpayers involved in the case), the judge imputed a ―pre-dividend‖
corporate tax rate of 29.4% to be applied to the S-Corp.
Finds this methodology applied to the divorce situation avoids
understatement of the value of the supermarkets and adequately accounts for
the loss of the S-Corp benefit to the departing shareholder (the wife).
Remands case to lower court to re-calculate value applying metrics
employed in Delaware MRI.
Copyright MPI, 2007
Estate of Edward P. Roski, Sr. v CIR, 128 T.C. No. 10.
Filed April 12, 2007
Background
E. P. Roski died October 6, 2000, resident of CA, with large illiquid estate.
Executor timely filed 706 along with 6166 election to defer payment of tax
attributed to value of closely held interests.
Initial deferral totaled $32.8 million, later amended to defer $28.9 million.
Valid election would allow payment over 15 years (2015).
IRS timely notified estate that it required a bond equal to twice the tax
deferred or provide a special lien agreement in order to qualify for deferral.
Estate timely responded to notice requesting exercise of discretion by IRS to
not require either.
IRS responded denying the election for failure to provide either the bond or
the special lien.
Estate petitioned Tax Court for review.
Copyright MPI, 2007
Estate of Edward P. Roski, Sr. v CIR, 128 T.C. No. 10.
Filed April 12, 2007
6166 Election
Value of qualified closely held must exceed 35% of the adjusted gross estate.
Amount of estate tax deferrable is equal to the ratio of the value of the closely
held assets to the value of the adjusted gross estate.
Allowed to pay interest only on the first $1 million of tax owed for first four
years, with first installment of principal and interest due four years, nine
months following the date of death.
Section 6165 of the Code allows IRS to require a bond on a deferral under
6166, not to exceed twice the tax due.
Section 6324A provides for alternative to bond through provision of a special
lien signed by executor in favor of the IRS.
Copyright MPI, 2007
Estate of Edward P. Roski, Sr. v CIR, 128 T.C. No. 10.
Filed April 12, 2007
History
IRS has not always required bond or special lien.
Statute is conditional in its language, not mandatory.
IRS through notices has changed positions over the years and, most recently,
advised that bond or lien was not mandatory.
Estate alleged the IRS decision was arbitrary and capricious in (a) its denial
of the election and (b) in not considering the estate’s request to require
neither.
Court’s Findings
IRS has no authority to require bond or lien in every case. Must seek change
through Congress.
IRS required to exercise its discretion on requiring either.
Requires IRS to revisit issue and demonstrate exercise of discretion.
Copyright MPI, 2007
R. William & Mary Ann Becker v. CIR, T.C. Memo
2006-264, Filed December 13, 2006.
Background
This is an income tax case.
The Becker family were Florida residents, owners of a Florida corporation
involved in the citrus industry.
Control held in trusts established by William Becker’s father. William was
CEO of company and owned 11.5% of the stock.
In 1991, family disputes resulted in William’s departure from the company
and an agreement to buy out his shares at $24 million dollars, paid $5 million
at closing with annual payments of $5 million thereafter until note paid.
Buyout included a covenant not to compete.
All parties represented by separate counsel.
No formal appraisal ever done to support purchase price.
In February 1992, a meeting was held by arties to discuss redrafting of
purchase documents, with talks terminated with no changes.
Copyright MPI, 2007
R. William & Mary Ann Becker v. CIR, T.C. Memo
2006-264, Filed December 13, 2006.
Background cont.
The April 1992 payment was not made by company who claimed William
had breached covenant not to compete. William exercised right under note to
call for full payment.
After winning in Federal court and on appeal to the 11th Circuit Court,
William was paid in full by company.
On their income tax returns, the Beckers reported the transaction as capital
gain on sale of stock. The corporation allocated $17.6 million of the
purchase price to the stock and $6.4 million to the covenant not to compete.
IRS audited both returns and sent reciprocal Notices of deficiency to each.
Becker’s notice said $6.4 had to be allocated to covenant.
Company notice denied allocation in its entirety.
Beckers and Company went to court. Cases consolidated.
Copyright MPI, 2007
R. William & Mary Ann Becker v. CIR, T.C. Memo
2006-264, Filed December 13, 2006.
Court’s Findings
Decision rides on ―strong proof‖ rule (written evidence), mutual intent test
(both parties discussed and agreed), and Danielson rule (one party noticed the
other about allocation and other party did not object).
Purchase Agreement between parties tied purchase price to shares, not to
shares and covenant.
No mutual intent of parties in factual form:
No notes of discussions before, during, or after signing.
Company never gave notice of allocation to Beckers. Instead, Company acted
unilaterally.
Beckers granted capital gain treatment. Company denied income tax
deduction.
Copyright MPI, 2007
Terene Investments, Ltd, Deerbrook Construction v.
CIR, T.C. Memo. 2007-18, Filed August 7, 2007.
Background
Valuation of charitable gift of land with sand and gravel deposits.
75 acres outside Houston, TX purchased in 1994 for $54,000 for perceived
timber value, contributed to family owned investment partnership.
Exploration found sand and gravel on some acres, none on others. Land
subdivided into three parcels (24, 19, and 31 acres). Taxpayer never exploits
sand and gravel deposits.
In 1997, 19 acre parcel donated to church, charitable deduction of $2.5
million taken by taxpayer using appraised value of land and sand and gravel.
IRS accepted deduction on partnership’s tax return.
In 1998, 31.41 acre parcel is donated to same church with charitable
deduction of $2.7 million based on two appraisals.
IRS audit results in reduction of deduction to $150,000.
Taxpayer petitions court to determine value of land.
Copyright MPI, 2007
Terene Investments, Ltd, Deerbrook Construction v.
CIR, T.C. Memo. 2007-18, Filed August 7, 2007.
Appraisal Experts
IRS – Edwin Moritz, member of Am. Institute of Minerals Appraisers and
Society of petroleum Engineers.
Relies on USPAP, UASFLA (Uniform Appraisal Standards for Federal Land
Acquisition, and case law to justify use of Market and DCF approaches.
Market approach results in FMV of $284,300.
DCF results in FMV of $335,900, using discount rate of 28%.
Weights Market 2/3, DCF 1/3 to derive FMV of $301,000.
Taxpayer uses Gerald Ebanks, qualifications not given but questioned by
IRS.
Relies solely on DCF, saying reliable Market comparables not available.
DCF, with 9% discount rate, results in value of $1,801,618.
Copyright MPI, 2007
Terene Investments, Ltd, Deerbrook Construction v.
CIR, T.C. Memo. 2007-18, Filed August 7, 2007.
Court’s Findings
Market approach thrown out because 4 of 5 comparables found not
comparable. Judge relies on DCF.
Finds devil in the details of assumptions of each appraiser, draws on outside
source used by each and from each appraiser’s data to find number between.
Uses discount rate of 11.5% based on 1997 AICPA Audit and Accounting
Guide, ―Guide for the Use of Real Estate Appraisal Information.‖
Final value determined was $1,303,616, above the mid-point of the average
of $1,051,309.
Copyright MPI, 2007
Terene Investments, Ltd, Deerbrook Construction v.
CIR, T.C. Memo. 2007-18, Filed August 7, 2007.
Point of Interest
Factors to consider in sand and gravel valuation:
Total volume of minerals on property;
Setbacks required;
Size of required work area;
Slope of pit walls;
Natural waste;
Rate of extraction;
Royalty rate;
Discount rate; and
Residual value.
Case goes through each point.
Copyright MPI, 2007
Roland & Marie Womack v. CIR, T.C. Memo. 2006-
240, Filed November 7, 2006.
Background
Another in a long line of lottery cases claiming capital gain treatment.
A consolidated case with Anastasios and Maria Spiridakos v CIR.
Case decision is binding on 57 related cases not consolidated.
Both parties Florida residents.
Cases involve sale to third party of right to receive future lottery payments
due each winner and receive capital gain treatment not ordinary income.
Four arguments brought, none found reasonable:
Payments are capital assets under Florida Uniform Commercial Code covering
―accounts receivable‖.
Prior court review has misinterpreted substitute for ordinary income doctrine.
1998 Supreme Court decision requires ―definitive analysis and test‖ even if
doctrine is used;
Lottery right falls within definition of a ―debt instrument‖ and ―Bond‖ under Tax
Code.
Judge rejects all four arguments.
Copyright MPI, 2007
Estate of Thompson v, CIR, 2nd Cir. U.S., Filed, August
23, 2007. (Estate of Josephine T. Thompson v. CIR, T.C. Memo. 2004-174, Filed July 26, 2004.)
Background
Both estate and IRS made cross appeals to 2nd Circuit.
Estate appeal was to correct error in Tax Court Judge’s valuation.
IRS appeal was to have denial of underpayment penalty overturned.
2nd Circuit Findings
Since both parties conceded error in Judge’s calculation, remand
estate’s appeal for correction of error.
Find Judge’s insufficient support of the application of the reasonable
cause exception to an otherwise mandatory underpayment penalty
cause to remand IRS appeal for further review. Must determine is
Estate’s reliance on an Alaska Attorney and CPA to value a NY based
publishing company was reasonable and in good faith.
Copyright MPI, 2007
Estate of Thompson v, CIR, 2nd Cir. U.S., Filed, August
23, 2007.
Background Tax Court
Josephine T. Thompson died May 2, 1998 owning 487,440 shares
(20.57%) of common stock of Thomas Publishing Co., Inc. (TPC),
publisher of the Thomas Register and other industrial and
manufacturing directories.
No other block of TPC combined with the Estate’s block would
provide control.
TPC is a C corporation for tax purposes.
Estate retained George E. Goerig, Esquire an Alaskan lawyer to
appraise shares of TPC. Mr. Goerig retained a local Alaskan CPA,
Paul M. Wichorek, to assist in the project.
Their report valued shares at $3.59 a share, aggregate value of
$1,750,000 using an income capitalization methodology.
Copyright MPI, 2007
Estate of Thompson v, CIR, 2nd Cir. U.S., Filed, August
23, 2007.
Tax Court Findings
Both appraisers found deficient, unpersuasive. Goerig/Wichorek found to be
too inexperienced, accommodating, and biased. Becker too casual in manner
of choices of guidelines, had significant errors in calculations and analysis,
made questionable and unexplained adjustments to his DCF model.
Estate’s reports only ―marginally credible.‖
12% risk in capitalization not justified by company results or
management facts.
Minority interest and DLOM based on general studies from 1970s and
1980s, not specific to facts of case and unsupported in text.
IRS reports flawed.
No justification of guideline companies to show comparability.
Therefore, method rejected by court.
Significant errors, numerous recalculations found suspect, not explained,
and not persuasive.
Rejects IRS position that no minority interest should have been applied
to either guideline or DCF models.
Copyright MPI, 2007
Estate of Thompson v, CIR, 2nd Cir. U.S., Filed, August
23, 2007.
Tax Court Findings, continued
Judge’s decision on appropriate method is capitalization of earnings.
Earnings based on estimated sustainable future earnings, using historical
past earnings adjusted for capital expenses on technology, plus excess,
non-operating cash.
Cap rate set at 18.5%.
Minority interest discount set at 15%.
DLOM set at 30% because IRS did not argue for anything less. Judge
could have found justification for lower discount based on existing
outside stockholder and company projected dividends of significant
amount.
Earnings based result was $42,508,000, plus excess cash of $68,000,000
for total value of $110,508,000, before minority interest and DLOM.
Final value: $27.75 per share, for aggregate value of $13,525,240.
Judge drops undervaluation penalty noting complexity of valuation and issues
and fact that final value is closer to Estate value than IRS.
Copyright MPI, 2007
Estate of Virginia A. Bigelow v. CIR, 9th Cir. U.S., No. 05-
75957, Filed September 14, 2007. (Estate of Virginia A. Bigelow V. CIR, T.C.
Memo. 2005-65. Filed March 30, 2005)
This appeal to the 9th Circuit was brought by the Estate on the grounds
that the Tax Court erred on the use of 2036 (a).
Background
VAB funded revocable trust in 1991 with 98.28% undivided interest in her
personal residence. VAB and son were Trustees.
In fall of 1992, the Trust listed its property for sale. In early 1993, Trust sold
its residence in an exchange/leaseback of another property. Trust borrowed
funds against new property to pay off loans collateralized by former property.
In 1994, Trustees and children established an FLP funded by transfer of
residence in trust. Loan against property was not transferred.
Also, in 1994, VAB suffered a stroke and moved into an assisted-living
facility. Her son had a durable power of attorney.
VAB died August 8, 1997, at age 88.
By 12/31/1998, FLP terminated, final distributions made, dissolution papers
recorded.
Copyright MPI, 2007
Estate of Virginia A. Bigelow v. CIR, 9th Cir. U.S., No.
05-75957, Filed September 14, 2007.
Tax Court conclusions
Fails bona fide sale test – transferred property but not associated
liabilities.
Transfer was not in good faith. Impoverished donor.
Retained rights/interest/enjoyment.
Used FLP income to pay donor’s loan obligations,
Income distributed prior to death went only to VAB,
Present economic benefit equals ―enjoyment,‖
FLP property continued to secure VAB’s debt.
Did not respect partnership formalities
Accounts not properly maintained,
K-1s were filed with errors.
Copyright MPI, 2007
Estate of Virginia A. Bigelow v. CIR, 9th Cir. U.S., No.
05-75957, Filed September 14, 2007.
Tax Court Conclusions, P – 2
No non-tax benefit to VAB
VAB Trust was GP and therefore no added protection of trust.
(Compare with Kimbell where LLC owned by trust was GP.)
No continuity of management provided. Termination of Trust
triggered dissolution of FLP.
More efficient gift device is seen as spurious.
9th Circuit findings
Affirms each of the findings of the Tax Court.
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