- Owen Fiore Paper 3 by fsb96139


									                               RPPTL Spring Symposium

April 25-26, 2002                                                        San Francisco, CA


                                      Owen G. Fiore

Since submission of my entity-based valuation outline for our panel, there have been

several additional developments of importance to our discussion. The case study

(“Hypothetical Fact Pattern”) prepared by Abigail Kampmann includes a number of

interesting issues for our consideration, some of which are impacted by recent

developments. Smith Sport Wear Company being an “S” corporation raises significant

valuation issues, especially as the plan could involve present use by the Senior Smiths of

their respective $1 million gift tax exemption equivalents.

A likely substantial “built-in gain” valuation question (Davis, Eisenberg, etc.) is

presented; and also there is the valuation problem of tax effecting earnings (Gross and

Adams cases). A voting/nonvoting common recap may be considered (Simplot case).

While an FLP or FLLC cannot be an “S” corporation shareholder, perhaps the company

could capitalize an FLP or FLLC, taking back a “frozen interest” under IRC Sec. 2701.

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Also, some company value might be “lost” via shifting same into nonqualified, unfunded

deferred compensation agreements. In addition to outright or trust gifts of stock, other

alternatives, including 7872-AFR rate installment sales may deserve attention, whether a

straight sale or a sale via an IDGT plan. The corporate owned $1 million life insurance

policy on the father’s life needs to be addressed. The FLP and LLC, also pass-through

entities as is the “S” corporation, are under attack via an IRS national compliance

program seeking to eliminate, or at least reduce, entity-based transfer tax valuation

discounts. Thus, the case study includes some real estate investment properties and

securities investments that offer wealth preservation to the Smith Family. Finally, ethical

issues should be considered during our panel, such as “who is the client”, scope of

representation, client communication, and a “team approach” using various advisors.

Estate and financial planning for retiring business owners must begin with the process of

an analysis of goals, understanding of financial security needs, and consideration of

present and testamentary wealth preservation and transfer issues, including management


It is clear that transfer tax valuation principles and techniques are necessary to review and

apply in any integrated plan for the retiring business owner. This will be brought out

during the panel’s discussion of the case study.

By way of updating my outline material for the panel discussion, the following entity and

valuation developments are presented here for our consideration:

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(1)   Update on IRS national program respecting pass-through entities structured

      to achieve transfer tax valuation adjustments (“discounts”).

      See the soon-to-be released Fiore & Ramsbacher article, “Protecting The Reality

      In Entity-Based Transfer Tax Valuation Adjustments”, included in the

      proceedings of the 60th NYU Institute on Federal Taxation, Ch. ___ (2002).

      (a)    FSAs now include “S” corporations being attacked on “economic

             substance” grounds; see FSA 200143004.

      (b)    TAM 200212006 relates to an FLP funded with publicly traded municipal

             bonds and cash. The Service here is apparently applying the “step

             transaction” principle as an extension of the “economic substance”

             doctrine, citing Shepherd v. Commissioner, 115 T.C. 376 (2000).

      (c)    In Southern California, one IRS Estate Tax Attorney has initiated a series

             of IRC Sec. 6701(a) “aiding and abetting understatement of tax liability”

             investigations in several cases that are unagreed and either docketed in

             Tax Court or on the way to a Tax Court Petition being filed. The

             investigation targets include tax return preparers (lawyers and CPAs), as

             well as appraisers. IRS area counsel has approved the examiner’s decision

             to proceed under 6701(a). Note the 6701(a) $1,000 penalty is not the

             main problem; however, the required referral to the IRS Director of

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             Practice under Circular 230 is quite another question. Is this activity

             harassment and intimidation of taxpayers and their representatives?

(2)   Valuation cases: Hackl, Adams and Mitchell illustrate continuing valuation

      uncertainty, as does the recently settled gift tax case of Fry in which Owen

      Fiore and his firm was litigation counsel.

      (a)    Estate of Heck v. Comm’r, T.C. Memo. 2002-34

      (b)    Estate of Adams v. Comm’r, T.C. Memo. 2002-80

      (c)    Estate of Mitchell v. Comm’r, T.C. Memo. 2002-98 (on remand from 9th


(3)   Fontana – Tax Court rejects extension of Mellinger rule to testamentary

      GPOA trust.

      The attached electronic newsletter article, “Oh Fontana – Don’t You Cry For Me!,

      was published in LISI 2002 (April 8, 2002), www.leimbergservices.com (permission

      granted for reproduction by Steve Leimberg, co-author with Owen Fiore of the

      Fontana case commentary).

      Fontana, first of all, was a valuation case in which an aggregated 94% interest in a

      closely-held “C” corporation was the subject of an $830,000 estate tax deficiency.

      As tax litigation counsel, The Fiore Law Group LLP contested the valuation

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      adjustment on two (2) grounds: (i) the aggregated interest valuation was not more

      than as reported on the original 706, and (ii) under the authority of Mellinger, 112

      T.C. 26 (1999), the irrevocable trust created by the previously deceased spouse (a

      testamentary GPOA trust) should not be aggregated for valuation purposes with

      the surviving spouse’s own property – thus, the valuation discounts arguably were

      substantially higher.

      However, the Mellinger QTIP (IRC Sec. 2044) situation was not extended by the

      Tax Court to the Fontana GPOA (IRC Sec.2041 trust. Nevertheless, the

      Petitioner estate won the valuation issue on an aggregation basis – thus, “no

      change”, plus, a $1 million refund is due the estate for 2053 expenses plus

      interest. The real challenge for estate planners is one of selecting the right

      valuation-sensitive type of trust at the outset – at least via contingent disclaimer

      QTIP qualifying trust provisions.

(4)   Hackl Tax Court denies 2503(b) present interest gift tax exclusions for gifts

      of restricted LLC interests.

      The gift tax case of Hackl v. Commissioner, 118 T.C. No. 14 (March 27, 2002),

      involved 2503(b) annual present interest gift tax exclusions where the transferred

      property interests to eight (8) children and their spouses as well as to trusts for

      twenty-five (25) grandchildren consisted of restricted LLC member interests in a

      tree farm operation. The sole issue before the Tax Court (all other issues having

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been stipulated) was availability of the 2503(b) exclusions. The case is discussed

in Raby, “Present Interest Gifts of Entity Interests”, Tax Notes April 15, 2002;

and also is analyzed in an article by Fiore & Wilms, “New Tax Court Decisions

Underscore Importance Standards Of Tax Practice”, being published in Trusts &

Estates, May, 2002.

Tax Court Judge Nims, in a reviewed opinion, denied the gift tax exclusions, with

very broad language indicating the court may be willing at some point to apply

the “economic substance” doctrine to pass-through entities yielding valuation

discounts for transfers of restricted interests. Even though usually the 2503(b)

exclusions are not the main goal of FLP/LLC planning, it must be expected the

Service will attempt to broaden the use of Hackl-type arguments. At least as to

the specific situation in Hackl, use of a Crummey/Cristofani lapsing withdrawal

right or “put”, limited to the net discounted value of the restricted interest gift,

should change the Hackl result.

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