Estate of Bright v. U.S.

• Citation: 619 F.2d 407
• Decision Date: 18 June 1980
• Docket Number: No. 78-2221,78-2221
• Parties: 80-2 USTC P 13,359 The ESTATE of Mary Frances Smith BRIGHT, Deceased, by H. R. Bright, Independent Executor, Plaintiff-Appellee, v. UNITED STATES of America, Defendant-Appellant.
• Court: United States Courts of Appeals. United States Court of Appeals (5th Circuit)

Page 407

619 F.2d 407

80-2 USTC P 13,359

The ESTATE of Mary Frances Smith BRIGHT, Deceased, by H. R.

Bright, Independent Executor, Plaintiff-Appellee, v. UNITED STATES of America, Defendant-Appellant.

No. 78-2221.

United States Court of Appeals, Fifth Circuit.

June 18, 1980.

M. Carr Ferguson, Asst. Atty. Gen., Philip I. Brennan, Richard W. Perkins, Gilbert E. Andrews, Acting Chief, Tax Div., U. S. Dept. of Justice, Washington, D. C., for the U. S.

Thompson, Knight, Simmons & Bullion, J. W. Bullion, Emily A. Parker, Payne & Spradley, Robert B. Payne, Dallas, Tex., for plaintiff-appellee.

Appeal from the United States District Court for the Northern District of Texas.

Before VANCE and SAM D. JOHNSON, Circuit Judges, and THOMAS ^*, District Judge.

SAM D. JOHNSON, Circuit Judge:

This is an appeal by the Government from a successful suit in the district court for a refund of over $3 million in federal estate taxes and assessed interest. The only issue before the district court was the fair market value of the interest of the decedent, Mary Frances Smith Bright, in a series of closely held companies. Before her death, decedent and her husband held 55% of the stock in each of these companies as their community property. The only issue in this appeal is whether the district court erred in ruling, as a matter of law before it took evidence on fair market value, that "no element of control (could) be attributed to the decedent in determining the value of the decedent's interest in the stock of" the closely held companies. We hold that the district court erred in entering that order and remand for further proceedings.

I

Mary Frances Smith Bright died in Dallas, Texas on April 3, 1971. Until the time of her death, she and her husband, H. R. Bright, owned as their community property 55% of the common stock of ETMF and The Rock Companies and 55% of the common and preferred stock of Southern Trust. ¹ Under Texas law, the death of one spouse terminates the community and divides the community property into two equal undivided interests, one going to the surviving spouse and the other to the deceased spouse's estate. Caddell v. Lufkin Land & Lumber Co., 255 S.W. 397 (Tex.Comm'n App.1923, jdgmt. adopted). The undivided one-half interest in the former community property that accrues to the estate of the deceased spouse passes under that spouse's will and is subject to the federal estate tax. Commissioner v. Chase Manhattan Bank, 259 F.2d 231, 239 (5th Cir. 1958), cert. denied, 359 U.S. 913, 79 S.Ct. 589, 3 L.Ed.2d 575 (1959). In this case, the decedent's will devised her interest in the stock of the various companies to a trust. Thus, 27.5% (one-half of 55%) of the stock in the various companies passed under the decedent's will to the trust. Mr. Bright is the trustee of that trust and the children of the decedent and Mr. Bright are the beneficiaries.

The issue before the district court in this case was the fair market value of the decedent's undivided one-half interest in 55% of the stock of Southern Trust, ETMF and The Rock Companies. The fact that one-half the value of 55% of the stock in these various companies is not necessarily the same as the value of one-half of 55% (that is, 27.5%) of the stock of the companies complicates this determination. The courts have frequently recognized that the per share value of a block of stock that controls a corporation may be greater than the per share value of a block of stock that does not control that corporation. See, e. g., Whittemore v. Fitzpatrick, 127 F.Supp. 710 (D.Conn.1954); Worthen v. United States, 192 F.Supp. 727, 730-31 (D.Mass.1961). See also 10 J. Mertens, Law of Federal Income Taxation § 59.12 at n. 19 (1976). The difference between the per share price of a block of stock that controls a corporation and one that does not is known as a "control premium." See generally, Hill, The Sale of Controlling Shares, 70 Harv.L.Rev. 987 (1957).

The district court's pre-trial order directed, in effect, that as a matter of law the 27.5% of the corporate stock that passed under the decedent's will had no control premium attached to it for the purposes of estate tax valuation. After entering its pre-trial order, the district court heard evidence on the fair market value of the 27.5% interest of the decedent's estate in the various companies. Both the Government and the decedent's estate adhered to the district court's order and presented evidence with the assumption that the estate held a 27.5% minority interest in the various companies. The district court determined that the fair market value of the stock was.$1.2 million. The Government does not challenge this finding of fact on appeal. This Court must therefore affirm the district court's determination of value unless the pre-trial order was erroneous in excluding consideration of a control premium as a matter of law.

II

The Government argues that the pre-trial order ignored the realities in this case. The Government argues that the district court should have viewed the decedent's interest in the stock of the companies in conjunction with her husband's interest. Relying on cases involving the valuation of an undivided interest in real property, ² instead of corporate stock, the Government asserts that the district court should have held a hearing to determine whether the 27.5% of the stock in the companies would ever have been sold as a minority interest or whether it would have been sold only as part of a control block. If the decedent's 27.5% holdings would never have been sold separately as a minority block and would have been sold only as part of a control block, the Government asserts that the district court erred in refusing to attribute a control premium to those shares.

The decedent's estate argues that the district court's pre-trial order was proper. It reasons as follows. Congress imposed the federal estate tax on the value of the interest transferred at death. Congress did not impose the estate tax upon the interest owned by the decedent or the interest to which the devisees succeeds. United States v. Land, 303 F.2d 170 (5th Cir.), cert. denied, 371 U.S. 862, 83 S.Ct. 121, 9 L.Ed.2d 100 (1962). In this case, the interest transferred was a 27.5% share of the various companies. Fair market value is the price that a willing buyer would pay a willing seller. Here, a willing buyer buying the 27.5% share transferred by the decedent's estate would not have paid any control premium for that share because it was only a minority interest. The decedent's estate has two cases that support this result. In re Estate of Lee, 69 T.C. 860 (1978); Sundquist v. United States, 34 A.F.T.R.2d 74-6337 (E.D.Wash., Nov. 9, 1974), supplemental opinion disposing of other issues, 35 A.F.T.R.2d 75-1606 (1975).

III

We adopt the decedent's estate's approach of applying the definition of fair market value to the interest transferred at death, but we reach a result favorable to the Government. The fair market value of the 27.5% interest in the various companies that passed under the decedent's will is the price at which that interest would have changed hands "between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts." Treas.Reg. § 20.2031-1(b). The willing buyer and seller who set the fair market value of property are hypothetical, but they have knowledge of all relevant facts. See United States v. Simmons, 346 F.2d 213 (5th Cir. 1965). We hold that one of the relevant facts that determines the value of shares of corporate stock is whether these shares are part of a block of shares that control the corporation.

In this case, the decedent's estate argues that.$1.2 million, as found by the district court, is the fair market value of the 27.5% interest that passed under the decedent's will. The estate supports this argument by pointing out that no control inhered in the 27.5% interest and that a willing buyer would not have paid a control premium for a set of shares that did not provide control. The Government, by not directly challenging the district court's finding of a fair market value of.$1.2 million, concedes that a willing buyer would have paid no more than.$1.2 million for a 27.5% interest that did not provide control. ³ The test used to determine fair market value is conjunctive: the district court was bound to find a price at which both a willing buyer and a willing seller would have traded. The price at which a willing buyer but not a willing seller would have traded does not determine fair...