{"id":1616,"date":"2021-01-27T04:49:00","date_gmt":"2021-01-27T09:49:00","guid":{"rendered":"https:\/\/actec.matrixdev.net\/?post_type=capital-letter&p=1616"},"modified":"2024-01-07T20:14:02","modified_gmt":"2024-01-08T01:14:02","slug":"top-ten-estate-planning-and-estate-taxdevelopments-of-2020","status":"publish","type":"capital-letter","link":"https:\/\/actec.matrixdev.net\/capital-letter\/top-ten-estate-planning-and-estate-taxdevelopments-of-2020\/","title":{"rendered":"Top Ten Estate Planning and Estate Tax Developments of 2020"},"content":{"rendered":"\n

This summary of 2020 \u201ctop ten\u201d developments includes societal health and racial justice issues, the election, valuation of interests in entities, income tax deductions for estate and trust administration expenses, tax-free transfers between deemed-owned trusts, assignment of income when making charitable contributions, and extended commentaries on defined value clauses and syndicated conservation easements.<\/strong><\/em>
<\/p>\n\n\n\n

Dear Readers Who Follow Washington Developments:<\/p>\n\n\n\n

As in past years, I have prepared a list of what appear to me to be the \u201ctop ten\u201d estate planning and estate tax developments of the year. Also as in past years, these were not necessarily the only significant developments in 2020, and the selection is admittedly subjective. These comments are adapted from a Bessemer Trust Insight for Professional Partners, dated January 7, 2020, found here<\/u><\/a>.<\/p>\n\n\n\n

NUMBER TEN: HAZARDS OF DEATH-BED PLANNING AND OF POST-OPINION ANALYSIS (MOORE<\/em>)<\/h2>\n\n\n\n

Estate of Moore v. Commissioner<\/em>, T.C. Memo. 2020-40 (April 7, 2020), turns a spotlight on deathbed planning with many issues. This discussion will look at just a few of them.<\/p>\n\n\n\n

Facts<\/strong><\/h3>\n\n\n\n

In September 2004 the decedent began negotiating to sell his farm in Arizona to an unrelated third party. In December 2004, before the negotiations were completed, he had a heart attack and was told by a hospice doctor that he had less than six months to live, and in fact he died at the end of March 2005. But by the end of 2004, he had created a family limited partnership, a charitable foundation, and a series of trusts, in pursuit of goals the court summarized as showing \u201cthat he was focused primarily on maintaining control<\/em> and eliminating his estate tax\u201d (emphasis is the court\u2019s). He then completed the negotiation of the sale of the farm for about $16.5 million (retaining the right to live on the farm and work it), but before the sale closed in February 2005 he had transferred a four-fifths interest in the farm to the FLP in return for a 95% limited partner interest. A trust (with two of the decedent\u2019s children as co-trustees) was the 1% general partner, but the decedent exercised practical control over the FLP and caused the FLP to transfer $2 million of the farm sale proceeds to himself, $2 million to his children (in exchange for their promissory notes), and $500,000 to a grandson as a gift.<\/p>\n\n\n\n

The decedent subsequently gave $500,000 to an irrevocable trust for his children and several weeks later transferred his 95% limited partnership interest to that trust for a $500,000 cash down payment and a $4.8 million note (the gift and sale amount reflecting a discount of just over 50% for the FLP interest).<\/p>\n\n\n\n

The decedent\u2019s revocable trust provided a formula transfer to a charitable lead trust in an amount to \u201cresult in the least possible federal estate tax.\u201d In addition, the irrevocable trust provided that the trustee would distribute to the revocable trust \u201cthe value of any asset of this trust which is includible in my gross estate.\u201d Following the decedent\u2019s death, the charitable lead trust apparently was funded with a substantial amount under the revocable trust\u2019s formula transfer.<\/p>\n\n\n\n

An IRS examination resulted in alleged deficiencies of more than $1.3 million in gift taxes and nearly $6.4 million in estate taxes.<\/p>\n\n\n\n

Holdings<\/strong><\/h3>\n\n\n\n

Not surprisingly, Judge Holmes determined that the value of the farm was included in the decedent\u2019s gross estate under section 2036(a)(1). The bona fide sale for full consideration exception in section 2036(a) did not apply because no businesses required active management, the children did not manage the farm sale proceeds in the FLP, no legitimate creditor concerns existed, and the \u201cwhole plan\u201d involving the FLP had a \u201ctestamentary essence.\u201d The decedent retained enjoyment or possession of the assets transferred to the FLP under section 2036(a)(1) (at least by implied agreement) because, although he had kept sufficient assets for personal needs, he instead \u201cscooped into FLP assets to pay personal expenses,\u201d and his relationship to the assets remained unchanged after the transfer to the FLP.<\/p>\n\n\n\n

Judge Holmes refused to respect the payments to the children as loans because there was no payment schedule and no evidence the children had resources to pay, the children never made payments, and the FLP never made any effort to collect. Additional gift taxes from treating the loans as gifts were included in the gross estate under section 2035(b). A flat fee of $475,000 for attorney\u2019s fees was not allowed as a deduction because the evidence did not establish what services were performed for the fee and that it was necessarily incurred in the administration of the estate.<\/p>\n\n\n\n

Judge Holmes followed up on the discussion of section 2043 in Estate of Powell v. Commissioner<\/em>, 148 T.C. 392 (2017) (reviewed by the Court), of which he stated: \u201cWe discovered and analyzed there, apparently for the first time, section 2043(a) of the Code as it applies to family limited partnerships.\u201d Judge Holmes offered his own lengthy analysis, but on the facts of Moore<\/em> (particularly with the decedent dying so soon there had been little opportunity for changes in values), the application of section 2043 had little practical impact.<\/p>\n\n\n\n

Judge Holmes also refused to allow any additional charitable deduction under the \u201cleast possible federal estate tax\u201d formula transfer provision in the irrevocable trust as a result of the inclusion of the value of the farm in the gross estate because (1) specific wording in the formula limited any transfer, and (2) the charitable amount was not ascertainable at the decedent\u2019s death but depended on subsequent events (the IRS audit and tax litigation). He distinguished Estate of Christiansen v. Commissioner<\/em>, 586 F.3d 1061 (8th Cir. 2009), aff\u2019g<\/em> 130 T.C. 1 (2008) (reviewed by the Court) (approving a formula disclaimer in favor of charity) and Estate of Petter v. Commissioner<\/em>, 653 F.3d 1012 (9th Cir. 2011), aff\u2019g<\/em> T.C. Memo. 2009-280 (approving a defined value clause, with the excess going to charity), \u201cwhere we knew the charity would get some transfer of value, just not how much. Here, we don\u2019t know<\/em> if the charity would get any additional assets at all\u201d (emphasis is the court\u2019s).<\/p>\n\n\n\n

Comment<\/strong><\/h3>\n\n\n\n

Although it is easy to understand the application of section 2036 to the four-fifths interest in the farm the decedent transferred to the FLP, Judge Holmes seems to have applied it to the entire value of the farm, even the one-fifth interest the decedent sold outright to the unrelated buyer, which presumably met the bona fide sale exception of section 2036(a), possibly even including the decedent\u2019s retention of a right to live on the farm and work it. There is no explanation of that. Nevertheless, like the section 2043 discussion, it made little or no difference because the decedent died before there had been significant changes in values.<\/p>\n\n\n\n

As for section 2043, estate planners are no doubt frustrated to see this come up again, after entertaining the hopeful view that its discussion in Powell<\/em> might have been a one-off aberration, despite the fact, for example, that Professor Jeff Pennell has been warning us about it for decades. See<\/em>, e.g.<\/em>, Jeffrey Pennell, \u201cRecent Wealth Transfer Developments,\u201d ABA Real Prop., Prob. & Tr. Law Section 14th Ann. Est. Pl. Symposium, at 21-23 (2003). Section 2043(a), which has not been changed since it appeared in the Revenue Act of 1926, just doesn\u2019t seem to fit very well in the context of transfers of interests in entities or an ongoing series of transfers. But Moore<\/em> may be an indication that it is not going to be overlooked.<\/p>\n\n\n\n

Likewise, it is frustrating to see a charitable disposition described with reference to the \u201cleast possible federal estate tax\u201d rejected. Haven\u2019t such charitable formulas, as well as marital formulas, been used successfully forever? What does the opinion mean when it distinguishes cases \u201cwhere we knew the charity would get some transfer of value, just not how much. Here, we don\u2019t know<\/em> if the charity would get any additional assets at all\u201d? It seems to compare \u201csome transfer\u201d in the first sentence with \u201cany additional assets\u201d in the second sentence, but the insertion of the word \u201cadditional\u201d messes up that comparison and begs the question, particularly when the opinion also reports that the IRS\u2019s notice of deficiency itself allowed an estate tax deduction of $516,000 for a transfer to the charitable trust \u2013 that is, \u201csome transfer of value.\u201d<\/p>\n\n\n\n

On the other hand, it is encouraging to see Judge Holmes distinguish, not question, the effectiveness of the formulas in Christiansen<\/em> and Petter<\/em>, indicating that he continues to view those precedents as sound. This is especially important in light of the fact that Judge Holmes himself wrote the Christiansen<\/em> and Petter<\/em> opinions, and he of all people would have known the difference. (Christiansen<\/em> and Petter<\/em> will be discussed again, in a different context, in Number Three below.)<\/p>\n\n\n\n

The explanation probably lies in the details of the Moore estate plan structure, reflected in the opinion\u2019s reference, noted above, to two reasons for rejecting an additional charitable deduction. In elaborating the first reason, the opinion states:<\/p>\n\n\n\n

\u201cThere are two problems for the estate here. The first is a very specific problem in the actual language of the Irrevocable Trust, which doesn\u2019t speak of increased value, but instead speaks of \u201can amount equal to the value of any asset of this trust<\/em> which is includible in my gross estate for federal estate tax purposes\u201d (emphasis added [by the court]). The asset\u2019s value that we find is includible in Moore\u2019s gross estate is his farm, and his farm is not an asset of the Irrevocable Trust\u2014it\u2019s an asset of the [buyers] now and was in part an asset of the FLP. All the Irrevocable Trust owns is a large chunk of that FLP, not that partnership\u2019s assets.\u201d<\/p>\n\n\n\n

In other words, the estate planning documents just didn\u2019t reflect the unfolding pattern of ownership of the decedent\u2019s assets.<\/p>\n\n\n\n

In his typical thought-provoking style, Judge Holmes revealed his skepticism about the decedent\u2019s death-bed flurry of planning in the first two paragraphs of his opinion:<\/p>\n\n\n\n

\u201cHoward Moore was born into rural poverty but over a long life built a thriving and very lucrative farm in Arizona. In September 2004 he began negotiating its sale, but his health went bad. He was released from the hospital and entered hospice care by the end of that year.<\/p>\n\n\n\n

\u201cThen he began to plan his estate.\u201d<\/p>\n\n\n\n

So viewed, it is easy to see why Judge Holmes would view the estate plan as imperfect, not just in its ultimate failure to avoid estate tax while maintaining the decedent\u2019s complete control, but in the details supporting the elements relied on to achieve that goal. Therefore, it is entirely plausible that there were glitches \u2013 or at least Judge Holmes saw glitches \u2013 that prevented those elements from succeeding. Put another way, there had to be back stories, not evident on the face of the opinion, that affect the results. We just don\u2019t know.<\/p>\n\n\n\n

That may be the most important takeaway from Moore<\/em>. When a court\u2019s opinion seems a little off, it may be for reasons we do not see. While we should always be wary, we do not have to assume the worst, unless the judge clearly tells us to. It is not just that bad facts make bad law. Sometimes bad facts mean that no law is made at all.<\/p>\n\n\n\n

Mr. Moore\u2019s executor and trustee filed notices of appeal to the Court of Appeals for the Ninth Circuit on September 28, 2020.<\/p>\n\n\n\n

NUMBER NINE: ASSIGNMENT OF INCOME AVOIDED ON CHARITABLE DONATION OF STOCK (DICKINSON<\/em>)<\/h2>\n\n\n\n

Facts<\/strong><\/h3>\n\n\n\n

In Dickinson v. Commissioner<\/em>, T.C. Memo. 2020-128 (Sept. 3, 2020), a shareholder and chief financial officer of a privately held consulting and engineering company donated stock to Fidelity Investments Charitable Gift Fund in 2013, 2014, and 2015. Each donation followed a grant of authority of the Board of Directors that acknowledged that Fidelity, pursuant to its policies regarding nonmarketable securities, would promptly tender the stock for redemption for cash. And that\u2019s what Fidelity did. The IRS asserted that the donor was liable for income tax on the redemption, treating the donation followed by a redemption for cash as in substance the same as a redemption followed by a donation of cash.<\/p>\n\n\n\n

Holding<\/strong><\/h3>\n\n\n\n

Judge Greaves disagreed and, in summary judgment, fully upheld the taxpayer\u2019s choice of ordering. Citing Humacid Co. v. Commissioner<\/em>, 42 T.C. 894, 913 (1964), and other cases, he noted that \u201cwe respect the form of this kind of transaction if the donor (1) gives the property away absolutely and parts with title thereto (2) before the property gives rise to income by way of a sale.\u201d He added that \u201cwhere a donee redeems shares shortly after a donation, the assignment of income doctrine applies only if the redemption was practically certain to occur at the time of the gift, and would have occurred whether the shareholder made the gift or not.\u201d<\/p>\n\n\n\n

Judge Greaves declined to follow the \u201cbright-line\u201d test of Rev. Rul. 78-197, 1978-1 C.B. 83, that finds recognition of income \u201conly if the donee is legally bound, or can be compelled by the corporation, to surrender the shares for redemption,\u201d which he said \u201cthis Court has not adopted.\u201d<\/p>\n\n\n\n

Comment<\/strong><\/h3>\n\n\n\n

The court\u2019s refusal to adopt a bright-line test could be unsettling, because it appears to leave us with the blurry alternative of \u201cif the redemption was practically certain to occur at the time of the gift.\u201d That test would probably have been met in Dickinson<\/em>, because of Fidelity\u2019s policies and the company\u2019s acknowledgment of them. But, more importantly, the court\u2019s use of this arguably subjective test is coupled \u2013 by the word \u201cand\u201d \u2013 with the test of \u201cif the redemption \u2026 would have occurred whether the shareholder made the gift or not.\u201d In other words, this analysis should leave no cause for concern about a typical, perhaps recurring, donation of stock of an ongoing corporation, when there would have been no redemption in the absence of the gift. Dickinson<\/em> offers less comfort for the case of, for example, a scheduled liquidation, or even a scheduled partial buy-back of shares, which a shareholder tries to beat by making a charitable donation.<\/p>\n\n\n\n

The court\u2019s summary of the background facts includes this observation:<\/p>\n\n\n\n

\u201cFor each stock donation, petitioner husband signed a letter of understanding (LOU) to Fidelity, indicating that the transferred stock was \u2018exclusively owned and controlled by Fidelity\u2019, and that Fidelity \u2018maintains full discretion over all conditions of any subsequent sale\u2019 of the stock and \u2018is not and will not be under any obligation to redeem, sell, or otherwise transfer\u2019 the stock. Petitioners received confirmation letters from Fidelity, which explained that Fidelity had \u2018exclusive legal control over the contributed asset\u2019.\u201d<\/p>\n\n\n\n

Such documentation could be a helpful template for similar donations.<\/p>\n\n\n\n

NUMBER EIGHT: REVENUE RULING 85-13 APPLIED TO TRANSFERS BETWEEN TRUSTS (PLR 202022002)<\/h2>\n\n\n\n

Facts<\/strong><\/h3>\n\n\n\n

In Letter Ruling 202022002 (issued Feb. 25, 2020; released May 29, 2020), A (not the grantor) could withdraw all assets of Trust 1 except certain LLC interests. Trust 1 transferred to Subtrust some of those LLC interests, which became the only assets of Subtrust. In addition, Trust 2 \u201cis a grantor trust with respect to A\u201d; no details are given about the features of Trust 2 that make it a grantor trust.<\/p>\n\n\n\n

Subtrust proposed to sell its LLC interest to Trust 2 for cash and a promissory note. After such a sale, A would have the right to withdraw from Subtrust all of its assets, because those assets would then be the cash and promissory note received in the sale, not the LLC interests excepted from the withdrawal right. A would thereby be treated as the owner of both of these trusts \u2013 of Subtrust under section 678 of the Internal Revenue Code and of Trust 2 under some provision of sections 673-677.<\/p>\n\n\n\n

The Ruling<\/strong><\/h3>\n\n\n\n

The ruling concluded that \u201cconsequently, the transfer of the LLC interests to Trust 2 is not recognized as a sale for federal income tax purposes because Trust 2 and Subtrust are both wholly owned by A.\u201d It cited Rev. Rul. 85-13, 1985-1 C.B. 184, for the proposition that \u201cthe owner of a grantor trust is not merely taxable on a trust\u2019s income, but is treated as the owner of the trust\u2019s assets for federal income tax purposes.\u201d (Interestingly, in both Subtrust in this ruling and the trust in Rev. Rul. 85-13, the trust did not start out as a deemed-owned trust. It was the sale that made it a deemed-owned trust.)<\/p>\n\n\n\n

Comment<\/strong><\/h3>\n\n\n\n

The immediate consequence of grantor trust status (or deemed-owned status under section 678) is simple \u2013 the grantor or deemed owner is taxed on the trust\u2019s income. But there sometimes still is reluctance to assume that all transactions with the trust are therefore necessarily ignored. After all, Rev. Rul. 85-13 itself could not reach the result it did without repudiating a recent opinion, written by a highly respected judge, involving \u201ca transaction that is in substance identical,\u201d Rothstein v. United States<\/em>, 735 F.2d 704 (2d Cir. 1984, Judge Henry Friendly). Because of that reluctance, it is helpful to have this confirmation, even if it is just a letter ruling. The ruling, for example, takes this confirmation a step beyond Letter Ruling 201633021 (issued April 29, 2016; released Aug. 12, 2016; one trust owned by another) and Rev. Rul. 2007-13, 2007-1 C.B. 684 (two grantor trusts owned by the same grantor).<\/p>\n\n\n\n

But also because of that understandable reluctance to jump from a taxed-on-income assumption to a disregarded-for-all-purposes assurance, it should probably not be assumed that the conclusion in this ruling would apply, for example, to a Beneficiary Defective Inheritor\u2019s Trust (\u201cBDIT\u201d) (beneficiary can withdraw only the initial contribution), and maybe not even to a Beneficiary Defective Owned Trust (\u201cBDOT\u201d) (beneficiary can withdraw only income).<\/p>\n\n\n\n

NUMBER SEVEN: SECTION 2703 SUBSTANTIAL MODIFICATION RULES APPLIED (PLR 202014006)<\/h2>\n\n\n\n

In 25 substantially identical letter rulings on the same set of facts, released in 2020, the IRS provided helpful insights on its view of the effective date rules for section 2703. Specifically, the IRS ruled that neither the past transactions and events nor the proposed actions described in the ruling request would be \u201csubstantial modifications\u201d that would cause a pre-section 2703 stock restriction to lose its effective-date protection and be disregarded under section 2703(a). Letter Rulings 202014006-010 (issued Oct. 16, 2019; released April 3, 2020); 202015004-013 (issued Oct. 16, 2019; released April 10, 2020); 202017001-006 & 011-014 (issued Oct. 16, 2019; released April 24, 2020).<\/p>\n\n\n\n

Transactions and Events Before October 8, 1990<\/strong><\/h3>\n\n\n\n

In these rulings, prior to October 8, 1990 (the effective date of section 2703 is October 9, 1990), a shareholders\u2019 agreement gave a corporation a right of first refusal to buy shares pursuant to a formula clause or at a price fixed by all the shareholders, paid in ten annual installments. The parties to the shareholders\u2019 agreement were the two parents (the First Generation), their three daughters (the Second Generation), trusts for the benefit of each daughter (also assigned to the Second Generation), and trusts for the benefit of each of their six grandchildren (assigned to the Third Generation). Subsequently, but still before October 8, 1990, a trust created for a seventh grandchild was funded with stock subject to the agreement.<\/p>\n\n\n\n

Transactions and Events Since October 8, 1990<\/strong><\/h3>\n\n\n\n

The IRS counted nine transactions or events since October 8, 1990, that were treated as adding new parties to the agreement, including the deaths of the First Generation, distributions by reason of their deaths, and the creation of new generation-skipping trusts by the Second Generation for the initial benefit of the Third Generation.<\/p>\n\n\n\n

Currently Proposed Transactions<\/strong><\/h3>\n\n\n\n

The board of directors of the company proposed a recapitalization (comparable to a stock split), in which each share of common stock would be exchanged for one share of voting common stock and a specified (redacted) number of shares of nonvoting stock. It was also proposed that after the recapitalization the Second Generation would transfer nonvoting shares to the generation-skipping trusts they had created. The objective of the recapitalization was stated as: \u201cSo that newly issued voting stock in Company can thereafter be primarily held by shareholders who are active in the management of Company.\u201d The voting interests of the trusts would not be eliminated, but by transferring new nonvoting shares to those trusts the voting control, viewed as a proportion of all equity, would be more heavily concentrated in the transferors.<\/p>\n\n\n\n

The Rulings<\/strong><\/h3>\n\n\n\n

Section 2703 requires that \u201cfor purposes of [estate, gift, and generation-skipping transfer taxes], the value of any property shall be determined without regard to (1) any option, agreement, or other right to acquire or use the property at a price less than the fair market value of the property (without regard to such option, agreement, or right), or (2) any restriction on the right to sell or use such property. It was added to the Code by section 11602(a) of the Omnibus Budget Reconciliation Act of 1990. Section 11602(e)(1)(A)(ii) of the Act provides that section 2703 applies to \u201cagreements, options, rights, or restrictions entered into or granted after October 8, 1990\u201d or \u201cwhich are substantially modified after October 8, 1990.\u201d The concept of a \u201csubstantial modification\u201d is elaborated in Reg. \u00a725.2703-1(c), which was finalized in January 1992. Section 25.2703-1(c)(1) provides, in part:<\/p>\n\n\n\n

\u201cThe addition of any family member as a party to a right or restriction (including by reason of a transfer of property that subjects the transferee family member to a right or restriction with respect to the transferred property) is considered a substantial modification unless the addition is mandatory under the terms of the right or restriction or the added family member is assigned to a generation (determined under the rules of section 2651 of the Internal Revenue Code) no lower than the lowest generation occupied by individuals already party to the right or restriction.\u201d<\/p>\n\n\n\n

Applying those standards, which are very much like and explicitly incorporate the familiar standards applied very often in GST tax rulings, the rulings concluded:<\/p>\n\n\n\n