A transfer to an in-law may not be presumed to be a gift.

Cohen v. Raymond, 128 A.3d 1072 (N.H. 2016)

Cohen got along famously with his son-in-law Raymond, who went to work in his father-in-law’s scrap metal company. Raymond became one of Cohen’s most valuable assistants. In 2006, Cohen sold the company. He and Raymond each received three-year employment contracts. However, they were not very happy working for the successor, and began to explore other business opportunities. The pair traveled to Germany together to observe scrap metal operations in that country.

Cohen wanted Raymond to become familiar with the world of investing. To that end, he created a brokerage account in Raymond’s name at Merrill Lynch, depositing $250,000 in the account. Apparently there were no formalities observed in this transaction, such as a loan agreement. Cohen later testified that he thought the account would be “seed money” for a future venture.

Unfortunately, Raymond and Cohen’s step-daughter divorced two years later. Next, Raymond withdrew $50,000 from the Merrill Lynch account. Cohen demanded that Raymond repay the entire $250,000, and filed a lawsuit to get it. The trial court ruled that there is a “weak” presumption that a transfer of assets to an in-law is a gift, which shifted the burden of proof to Cohen to show that there was no gift.

On appeal, the New Hampshire Supreme Court held that the presumption of a gift applies only to transfers to a spouse or children, not to transfers to in-laws. Upon remand, Raymond will have the burden of proof to show that a gift was intended at the time of the transfer.

(August 2016)

© 2016 M.A. Co. All rights reserved.

 

Extension granted for proving that a surviving spouse has become a U.S. citizen.

Private Letter Ruling 201628011

Decedent’s surviving spouse was not a U.S. citizen, so to secure the marital deduction from the federal estate tax his will created a Qualified Domestic Trust (QDOT) for her lifetime benefit. Some time later, the surviving spouse became a U.S. citizen, but she didn’t mention this development to the QDOT trustee. Under §2056A(b)(12) and §20.2056A-10(a)(1) and (2) of the Estate Tax Regulations, a QDOT is no longer subject to the estate tax imposed under §2056A(b) if the surviving spouse becomes a citizen of the United States, and the spouse was a resident of the United States at all times after the death of the decedent and before becoming a United States citizen, and the U.S. trustee of the qualified domestic trust notifies the Internal Revenue Service and certifies in writing that the surviving spouse has become a United States citizen. Notice is to be made by filing a final Form 706-QDT on or before April 15 of the calendar year following the year that the surviving spouse becomes a citizen, unless an extension of time of up to six months for filing is granted under §6081. The trustee did not timely file the final Form 706-QDT.

Now that the Trustee knows, he has asked the IRS for an extension of time to file the Form. As granting the extension of time will not prejudice the interests of the government, the extension was granted.

(August 2016)

© 2016 M.A. Co. All rights reserved.

Paying state death taxes before paying the IRS does not render an executor personally liable for estate taxes, provided the estate is not insolvent.

Singer v. Comm’r, T.C. Memo. 2016-48

At the time of his death, Melvin Sacks was legally married to Alvia Sacks but had been estranged from her for 25 years. His “longtime companion” was Lucille Atwell, with whom he jointly owned a brokerage account worth some $2 million. Atwell was the beneficiary of Sacks’ life insurance policies. Sacks also had a relationship with Joan Parker, with whom he jointly owned a residence in Bayside, New York. The property was purchased in July 1990, for $500,000, and Sacks provided the entire purchase price. He died the
next month.

Sacks died with a substantial unpaid income tax from various years in the 1980s and 1990, well over $1 million. As there were limited assets in the probate estate, the executor obtained a restraining order over the brokerage account. In March 1991 he also disaffirmed transfer of the residence to Parker. In November 1991 an estate tax return was filed reporting a taxable estate of $3,208,103 and an estate tax liability of $1,011,279. No taxes were paid at that time. In 1994 the IRS assessed an estate tax deficiency of $831,313.

The income tax problem was resolved in December 1994, when the IRS accepted the executor’s offer in compromise to pay $1 million to cover tax years from 1978 through 1990. The Surrogate’s Court authorized a release from the brokerage account, $1 million for the IRS and $28,000 to pay executor’s fees.

In 1997 Parker contributed $87,500 to the estate to pay her share of the estate taxes, and two grandchildren contributed $25,000 each. These amounts were forwarded to the IRS, but, even so, in February 1999 the outstanding amount due was more than $3 million, including interest and penalties.

The executor asked the Surrogate’s Court in April 1999 to release additional funds from the brokerage account: (1) $251,107 to the Estate of Alvia Sacks; (2) $446,772 to the IRS; and (3) $171,587 to the New York Department of Taxation. These amounts were paid. The IRS believed that payment to anyone other than itself was improper, and so issued a notice of fiduciary liability for $422,694 to the executor.

The personal representative of an estate is personally liable for the unpaid claims of the United States to the extent of a distribution, “if the Government establishes the following: (1) The personal representative distributed assets of the estate; (2) the distribution rendered the estate insolvent; and (3) the distribution took place after the personal representative had notice of the Government’s claim” [Allen v. Commissioner, T.C. Memo. 1999-385]. The Tax Court held that the Sacks estate was not insolvent at the time of the distribution, because it continued to have claims against the transferees of nonprobate property for contributions to pay the estate tax. Therefore, the executor was not personally liable for the tax.

 

 

(June 2016)

© 2016 M.A. Co.  All rights reserved.

Settlement of gift tax dispute does not waive interest due on unpaid taxes.

Estate of Anthony La Sala v. Comm’r, T.C. Memo. 2016-42 

When he was 93, Anthony La Sala created ALS Family LLC to own and manage his wealth. He sold a 99% interest in the company to his daughter when he was 95 for a lifetime annuity of $913,986. In the exchange, the retained 1% was valued at $28,100, and the 99% at $2,781,900. The figures were arrived at by applying discounts to some of the fractional shares of closely held companies owned by ALSF. Anthony died after receiving one annuity payment.

On the estate tax return, the sale was treated as bona fide, so only the retained 1% was listed as an asset. The IRS felt that the discounts were too high, which meant that Anthony had overpaid for his annuity, and the Service also wanted to include the entire value of ALSF in the taxable estate under IRC §2036. The estate took the matter to the Tax Court, but a settlement was reached before trial began. The estate conceded that the discounts were too high, and the IRS conceded the legitimacy of the sale of the annuity. The excess value would be a taxable gift to the daughter. However, the stipulations did not identify the correct discounts or the amount of the taxable gift.

There was a change of personnel at the IRS, and negotiations resumed to finalize the numbers. Ultimately, the estate conceded a taxable gift of more than $1 million, triggering a gift tax of $235,207, and an estate tax obligation of $160,176. The executed decision document was silent on the matter of interest. Gift and estate tax returns were filed. On November 15 the estate sent the IRS a check for $230,838, covering the estate tax and interest. On November 18 a check was sent for the full amount of the gift tax, but without interest.

When the IRS processed the gift tax payment in January 2011, a late filing penalty of $52,922 was imposed; a late payment penalty of $58,802 was applied; and total interest due of $137,752 was calculated. A notice was sent to the executors, who no doubt thought that the IRS was reneging on their compromise. The estate asked for a hearing. The settlement officer abated the late filing and late payment penalties, and the interest on them, but refused to abate the interest on the gift tax itself.

The estate argued before the Tax Court that the amount of the gift tax was simply a “notational amount” that had been used in the settlement negotiations, and the gift tax return was filed at the request of the IRS to create an account to which the payment could be posted. As such, no interest should be required. The Tax Court was not convinced. By filing the gift tax return, the estate conceded that a taxable gift had taken place on a specific date, which created a due date for payment of the gift and the date for statutory interest to begin to run. The settlement officer did not abuse her discretion in making this determination.

© 2016 M.A. Co.  All rights reserved.

Failure to report a taxable gift does not create a cascade of problems in subsequent gift tax re-turns.

ECC 201614036

Taxpayer made a substantial taxable gift in Year 1, but never filed a gift tax return. The IRS can assess a gift tax at any time, in any subsequent year, because the statute of limitations never begins to run. Sumner Redstone recently learned this lesson the hard way, when he had to pay a gift tax on a transfer made 40 years earlier. Normally, the IRS has only three years in which to challenge a gift tax return.

Now say that in Year 2 Taxpayer reported a large taxable gift. In calculating the amount of gift tax due, he omitted the Year 1 transfers and, therefore, paid less gift tax than he should have. Is that a substantial omission, which would double the limitations period to six years? It is not, the IRS ruled recently. The substantial omission must be with respect to transfers made for the period covered by the gift tax return. It would take a legislative fix to close this gap, the IRS concluded.

© 2016 M.A. Co.  All rights reserved.

Penciled changes to a photocopy of a will, including “void,” does not revoke it.

In re Estate of Sullivan, 868 N.W.2d 750 (Minn. Ct. App. 2015)

Esther Sullivan executed her will in January 2006. The will was properly notarized and had the required two witnesses. Esther divided her estate between her grandson, Joseph, a former employee, Tara Jean. The nature of the employment was not disclosed by the court, but Tara Jean was named as personal representative of the estate. She would be responsible for collecting the estate’s assets, filing the tax and probate forms, and distributing the assets.

By 2008 Esther had a change of heart. On a photocopy of the original will, she wrote across the top “[t]he Will dated January 19, 2006 is void and to be replace[d] with this and all written in changes.” A variety of alterations were penciled in, the most consequential of which was naming Joseph the personal representative instead of Tara Jean.

Not yet completely satisfied with her handiwork, in October 2010 Esther downloaded a will form and completed it by hand. This time, in addition to naming Joseph as personal representative, she made him the sole heir of all of her property, “after her debts are payed (sic).” Interestingly, Tara Jean witnessed Esther’s signature on the 2010 will.

After Esther died, Tara Jean offered the 2006 will for probate. Joseph objected, and he submitted the 2008 and 2010 alternatives as being more consistent with Esther’s final intentions for her property.

Both the lower court and then the appellate court held that the statutes governing wills must be strictly adhered to. The same formalities that apply to creating a will apply equally to its revocation. Neither the 2008 nor the 2010 will was executed with sufficient witnesses to Ester’s signature, so they failed the test. Alternatively, the appellate court held, a will may be revoked by a “revocatory act on the will,” including “burning, tearing, canceling, obliterating, or destroying the will or any part of it․” Such an act must be done to the original will, not to a photocopy of it.

Without the required witnesses, the 2008 and 2010 documents amounted to nothing more than notes for making a future will.

During the appeal, Joseph argued that Tara Jean had breached her fiduciary duty to the estate by offering the 2006 will for probate when she herself was a witness to the 2010 attempted revocation. Unfortunately, the Court held, he brought that argument up too late to be considered.

(April 2016)
© 2016 M.A. Co. All rights reserved.

Unexpectedly strong post-death auction sale raises date-of-death death value.

Estate of Newberger v. Comm’r, T.C. Memo. 2015-2464

Bernice Newberger died in July 2009. Her estate included three valuable pieces of art, for which it obtained appraisals from Sotheby’s and Christie’s. The valuation was complicated by the fact that the market for fine art took a steep dive in 2008, as the economy slipped into recession. For example, in October 2008 some 44% of pieces put up for auction failed to attract minimum bids, double the rate of a year earlier. They had to be returned to their owners. In 2009 Sotheby’s revenue declined by 53% and Christie’s by 46%. Bernice’s death came at the trough of the slump.

Based upon the advice of appraisers, the estate valued two lesser pieces at $450,000 and $500,000. The real prize was a Picasso. Sotheby’s offered a $3.5 million guaranteed price. Christie’s offered the estate better guarantees and a professional estimate of date-of-death value of $5 million, which the estate duly included on its estate tax return, timely filed in October 2010.

The IRS challenged all three valuations. Perhaps to create some liquidity for paying taxes, the estate had accepted the terms from Christie’s and put the Picasso up for auction in February 2010. The expected sale price was $4.7 million to $6.3 million, consistent with the appraisal. In the event, including the buyer’s premium, the painting fetched over $12 million. The IRS cited that fact as it claimed that the Picasso had been undervalued by the estate.

Although events occurring after death are not to be taken into account to determine date-of-death values, the Tax Court held that the later sale may be used as evidence of value. The estate’s argument that the high price was “a fluke” that was unforeseeable at the date of death was rejected. The Court accepted the IRS’ downward adjustment to $10 million to reflect the changing market conditions. The estate’s values for the two lesser pieces were sustained.

Had Newberger lived another seven months, her estate would have avoided all estate taxes, as 2010 was the year when the federal estate tax was optional. In the absence of estate tax, carryover basis would apply. In that event the heirs would have been exposed to a very large capital gains tax upon the sale of the art, as Newberger had acquired the Picasso for just $195,000 in 1981.

Gift tax may be assessed 41 years after the gift

ID-100128578Sumner Redstone v. Comm’r, T.C. Memo. 2015-237 

 A conflict broke out in the Redstone family in 1971.  Patriarch Mickey Redstone and his two sons, Edward and Sumner, were co-owners of the family business, each owning 100 shares.

However, when the business was incorporated Mickey put up 48% of the capital, and the boys each contributed roughly 26%.  In 1971 Edward decided to leave the business, and demanded that his 100 shares be redeemed or he would sell them to outsiders.

In the squabble that ensued, Mickey claimed that a portion of Edward’s shares were subject to an oral trust in favor of Edward’s children, the amount in excess of Edward’s capital contribution.  The same conditions applied to Sumner’s share, in Mickey’s eyes.

A lawsuit was filed, and a settlement was reached in 1972.  Under the terms of the settlement, 33 1/3 of Edward’s shares were transferred to a trust for his children, and his remaining shares were redeemed by the company.  Three weeks later, Sumner transferred a third of his shares to an irrevocable trust for his children.  He was not required to do so by the terms of the settlement, but it seems likely that Mickey insisted upon the equal treatment.

Upon advice of counsel, neither brother filed a gift tax return reporting the transfers to the trusts.  Nearly 40 years later, the IRS became aware of the transfers as a result of publicity from other litigation.  Gift taxes were assessed against Edward’s estate and Sumner.

In Edward’s case, the Tax Court held because the transfers were the result of a bona fide settlement reached at arm’s length, there was no taxable gift [Estate of Edward S. Redstone v. Comm’r, 145 T.C. No. 11 (2015)].  Although Sumner was a party to the settlement, it imposed no similar duty upon him.  Accordingly, his transfer was not protected from gift tax.

Sumner’s attorneys argued that imposing a gift tax 41 years late, was an “unprecedented abuse” of the rule that the statute of limitations remains open if no gift tax return has been filed.  The Tax Court disagreed.  However, the Court negated the penalties that the IRS had assessed for failure to file, given Sumner’s reliance on counsel at the time.  Still, the gift tax deficiency was $737,625, plus 40 years worth of interest.

Should you need any further information, please do not hesitate to contact one of our experienced trust officers.

 

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