Connelly v. United States

• Decision Date: 21 September 2021
• Docket Number: 4:19-cv-01410-SRC
• Parties: THOMAS A. CONNELLY, IN HIS CAPACITY AS EXECUTOR OF THE ESTATE OF MICHAEL P. CONNELLY, SR., Plaintiff(s), v. THE UNITED STATES OF AMERICA, DEPARTMENT OF THE TREASURY, INTERNAL REVENUE SERVICE, Defendant(s).
• Court: U.S. District Court — Eastern District of Missouri

THOMAS A. CONNELLY, IN HIS CAPACITY AS EXECUTOR OF THE ESTATE OF MICHAEL P. CONNELLY, SR., Plaintiff(s), v. THE UNITED STATES OF AMERICA, DEPARTMENT OF THE TREASURY, INTERNAL REVENUE SERVICE, Defendant(s).

No. 4:19-cv-01410-SRC

United States District Court, E.D. Missouri, Eastern Division

September 21, 2021

MEMORANDUM AND ORDER

STEPHEN R. CLARK, UNITED STATES DISTRICT JUDGE

Brothers Michael and Thomas Connelly were the only shareholders in Crown C Supply, Inc., a closely-held family business that sold roofing and siding materials. As is typical in family businesses, the brothers entered into a stock purchase agreement that required the company to buy back the shares of the first brother to die, and the company bought life insurance to ensure it had enough cash to make good on the agreement. When Michael died in October 2013, Crown C repurchased his shares for $3 million, and Michael's Estate paid estate taxes on his shares in Crown C. But the IRS assessed additional estate taxes of over $1 million. Thomas, as executor of Michael's Estate, paid the deficiency and filed this suit seeking a refund. At the core of the dispute lies the question of the proper valuation of Crown C on the date of Michael's death.

Aside from the life-insurance proceeds, Crown C was worth roughly $3.3 million on the date of Michael's death. On that date, Crown C had an obligation to repurchase Michael's shares from his Estate. Also on that date, Crown C received (or was about to receive) a cash infusion of $3.5 million from the life-insurance proceeds; without these proceeds Crown C would have had to deplete its assets or borrow money (or both) to buy Michael's shares.

The parties dispute whether the portion of the life-insurance proceeds used to buy Michael's shares must be included in the value of the company for estate-tax purposes. Both parties moved for summary judgment on this issue and moved to exclude each other's expert witnesses. Because on the date of death, Crown C was entitled to receive the life-insurance proceeds to fund the purchase of Michael's shares, the Court holds that Crown C was worth roughly $3.5 million more than it was worth the day before Michael's death.

I. Facts and background

A. Undisputed material facts

Crown C sells roofing and siding materials in the St. Louis area. Doc. 58 at ¶ 10. Before his death, Michael^[1] was the President, CEO, and majority shareholder. Id. at ¶ 9. The Connelly brothers together owned all of Crown C's 500 shares, with Michael owning 385.90 shares (77.18%) and Thomas owning 114.10 shares (22.82%). Id. at ¶ 11-12.

The Connelly brothers and Crown C signed a Stock Purchase Agreement (the “Stock Agreement”) in 2001, to maintain family ownership and control over the company and to satisfy their estate-planning objectives. Id. at ¶¶ 13-14. The Stock Agreement provided that upon one brother's death, the surviving brother had the right to buy the decedent's shares, but the Stock Agreement required Crown C itself to buy (i.e., redeem) the deceased brother's shares if the surviving brother chose not to buy them. Id. at ¶ 15. When the brothers signed the Stock Agreement, they always intended that Crown C, not the surviving brother, would redeem the deceased brother's shares. Id. at ¶ 16.

To fund its redemption obligation, Crown C bought $3.5 million in life-insurance policies on both Connelly brothers. Id. at ¶¶ 17-22. Article VII of the Stock Agreement provided two mechanisms for determining the price at which Crown C would redeem the shares. Id. at ¶ 23. Article VII specified that the brothers “shall, by mutual agreement, determine the agreed value per share by executing a new Certificate of Agreed Value” at the end of every tax year. Id. at ¶ 24; Doc. 53-4, Art. VII., Sec. A-B. If the brothers failed to execute a “Certificate of Agreed Value[, ]” the brothers would determine the “Appraised Value Per Share” by securing two or more appraisals.^[2] Doc. 53-4, Art. VII., Sec. A, C. The Connelly brothers never signed a single Certificate of Agreed Value under the Stock Agreement. Doc. 58 at ¶¶ 25-36.

Upon Michael's death on October 1, 2013, Crown C received about $3.5 million in lifeinsurance proceeds. Id. at ¶ 39. Thomas chose not to buy Michael's shares, so Crown C used a portion of the life-insurance proceeds to buy Michael's shares from Michael's Estate. Id. at ¶ 16, 39-40. Crown C and the Estate did not obtain appraisals for the value of Michael's shares under the Stock Agreement, instead entering a Sale and Purchase Agreement (the “Sale Agreement”) for the price of $3 million. Id. at ¶¶ 37-38, 64. Through the Sale Agreement, (1) the Estate received $3 million in cash; (2) Michael P. Connelly, Jr., Michael's son, secured a three-year option to purchase Crown C from Thomas for $4, 166, 666; and (3) in the event Thomas sold Crown C within 10 years, Thomas and Michael Jr. agreed to split evenly any gains from the future sale.^[3] Id. at ¶¶ 64-66.

Thomas, as executor of Michael's Estate, filed an estate-tax return valuing Michael's Crown C shares at $3 million as of October 1, 2013 and included that amount in the taxable estate. Id. at ¶ 70. The IRS audited the Estate, challenging the $3 million value of Michael's Crown C shares. Id. at ¶ 71. The IRS determined that as of October 1, 2013, the fair market value of Crown C should have included the $3 million in life-insurance proceeds used to redeem the shares, resulting in a higher value for Michael's Crown C shares than reported on the Estate's return. Id. at ¶ 40, 82. The IRS issued a Notice of Deficiency, assessing over $1 million in additional estate taxes. Id. at ¶ 82; Doc. 1 at ¶¶ 8-9, 16. During the IRS audit, the Estate obtained a calculation of value report on Crown C's fair market value from Anders Minkler Huber & Helm, LLP. Doc. 1 at ¶ 15. And in May 2019, Thomas filed this suit on behalf of the Estate, seeking a refund of over $1 million. See id. at ¶ 5.

The parties stipulated that, if the Estate is due a federal-estate-tax refund, for the purpose of determining the amount of such refund, the fair market value of Michael's Crown C shares was $3.1 million as of October 1, 2013. Doc. 48. The stipulation expressly leaves aside the dispute over how to account for the life-insurance proceeds used to redeem Michael's shares, so the stipulation only controls the value of Crown C exclusive of those life-insurance proceeds. Id.; Doc. 71 at 31-33.

B. Experts

1. The Estate's expert, Kevin P. Summers

Kevin P. Summers is a CPA and a partner at accounting firm Anders Minkler Huber & Helm, LLP. Doc. 55-1 at p. 1. Summers offered an opinion on the proper fair market value of Crown C as of the date of Michael's death. See id. He stated that the Stock Agreement created “an enforceable contractual obligation to use the life-insurance proceeds to purchase [Michael] Connelly's stock in Crown C Supply” upon Michael's death. Id. at p. 11. Relying on the Eleventh Circuit's holding in Estate of Blount, Summers opined that the life-insurance proceeds used to redeem Michael's shares should be excluded from the fair market value of Crown C. See id. at pp. 11-12 (citing Estate of Blount v. Comm'r, 428 F.3d 1338, 1342-43 (11th Cir. 2005)). Summers advised that the IRS improperly disregarded Crown C's obligation to redeem Michael's shares under Estate of Blount and that the IRS's decision was inconsistent with “common business sense.” Doc. 55-1 at p. 14. Summers concluded that inclusion of the insurance proceeds in Crown C's fair market value resulted in an overstated value for Crown C by $3 million, as well as an inflated estate-tax bill for Michael's estate. Id.

2. The IRS's expert, Evan K. Cohen

Evan K. Cohen is a Charted Financial Analyst and a principal at an economic consulting firm, Brattle Group. Doc. 53-19 at ¶ 1. Cohen offered an opinion on the fair market value of Crown C and Michael's shares as of the date of Michael's death. Id. at ¶ 10. Cohen stated that “[i]n a fair market equity valuation, the insurance proceeds would be included in the value of Crown C Supply as a non-operating asset.” Id. at ¶ 11. He opined that allowing the redemption obligation to offset the insurance proceeds “undervalues Crown C Supply's equity, undervalues [Michael's] equity interest in Crown C Supply (i.e., his shares), and violates well-established equity valuation principles because the resultant share price creates a windfall for a potential buyer that a willing seller would not accept.” Id. at ¶ 12. Cohen concluded that the fair market value of Crown C was $6.86 million, rather than $3.86 million, a $3 million difference. Id. at ¶ 63.

II. Standard

Summary judgment is proper if the evidence, viewed in the light most favorable to the nonmoving party, demonstrates no genuine issue of material fact exists and the moving party is entitled to judgment as a matter of law. Fed.R.Civ.P. 56(c); Cordry v. Vanderbilt Mortg. & Fin., Inc., 445 F.3d 1106, 1109 (8th Cir. 2006) (citing Bockelman v. MCI Worldcom, Inc., 403 F.3d 528, 531 (8th Cir. 2005)).

Here the parties agree that no disputed material facts exist and that the Court should decide the case on the cross motions without a trial. Docs. 45, 51, and 66. The Court may decide a case as a matter of law when there are no disputed issues of fact. See Fed.R.Civ.P. 56(a); see also Sprint Communications Company v. Bernsten, 152 F.Supp.3d 1144, 1150 (S.D. Iowa Dec. 30, 2015) (“Because there is no genuine dispute of fact in this case, the Court must determine which movant is entitled to judgment as a matter of law.”); Essick Air Products, Inc. v. Crane USA Inc., 2018 WL 9963828, at *1 (E.D. Ark. July 12, 2018) (granting summary judgment where the parties agreed that there were no material factual disputes). The Court held...