Estate of Darrow

• Citation: 467 N.Y.S.2d 114,120 Misc.2d 924
• Parties: Accounting of John H. Morse, as Executor of the ESTATE OF Richard W. DARROW, Deceased. Surrogate's Court, New York County
• Decision Date: 09 August 1983
• Court: New York Surrogate Court

Page 114

467 N.Y.S.2d 114

120 Misc.2d 924

Accounting of John H. Morse, as Executor of the ESTATE OF

Richard W. DARROW, Deceased.

Surrogate's Court, New York County.

Aug. 9, 1983.

Cravath, Swaine & Moore, New York City (George J. Gillespie, III, Paul D. Siniawer, Martin J. Tracey, III, New York City, of counsel), for petitioner.

Stephens & Buderwitz, White Plains (Joseph J. Buderwitz, Jr., White Plains, of counsel), for respondent.

Robert Abrams, Atty. Gen. of the State of N.Y., New York City (Allan E. Kirstein, Asst. Atty. Gen., New York City, of counsel), for ultimate charitable beneficiaries.

RENEE R. ROTH, Surrogate.

Testator's widow, Suzanne Darrow, has filed several objections to the account of the executor.

Testator, Richard W. Darrow, died in 1976; his will and codicil were admitted to probate in the same year. He was survived by his wife, Suzanne and two adult sons of a prior marriage. His divorced wife, Nelda, also survived.

Testator's widow in objections 1, 2, 3, 4, 5 and 7 has raised novel issues with respect to the apportionment of federal and state estate taxes in the executor's account.

A brief history of the family is relevant to an understanding of these objections.

Testator married Nelda, his first wife, in 1938. They were divorced in 1975 and testator married Suzanne shortly thereafter.

Prior to the divorce, testator and Nelda entered into a separation agreement which was incorporated but not merged into the judgment of divorce granted in New York County on September 9, 1975.

Under this agreement, testator made generous provision for Nelda's support during his lifetime. Among the provisions to secure support of Nelda after his death, testator agreed to leave one-half of his residuary estate, as defined in the agreement, in trust for Nelda and gave her a power to appoint the remainder of her trust.

Concerning this provision, the separation agreement (paragraph 13) specifies: "This share shall be subject to its pro rata share of estate taxes, if any."

In compliance with this agreement, testator in Article VIII of his will, divided his residuary estate into two trusts. One trust is to provide income for the benefit of his first wife Nelda; the second is to provide income for the benefit of his surviving wife, Suzanne.

Each "wife", therefore, received a residuary trust the principal of which, at least on its face, would be equal.

Decedent's will contained a tax clause (Article XI) providing that all legacies and transfers shall bear their proportionate share of estate taxes. This direction is in conformity with EPTL 2-1.8. However, there is an additional direction in the will, namely, the direction that "no taxes shall be assessed or paid against any share of my estate which is not subject to tax."

Federal law, of course, determines which property shall be included in a decedent's taxable estate (IRC §§ 2051-2056). The governing federal law is incorporated into New York law (Tax Law, § 951). Moreover, a final federal determination is determinative with respect to property includable in the taxable estate for New York Estate tax purposes unless shown by a preponderance of the evidence to be erroneous (Tax Law, § 961).

In the federal estate tax proceeding, the executor contended that under the provisions of the separation agreement, testator was obligated to leave his former wife Nelda, one-half of his residuary estate, that her trust therefore was in fulfillment of that obligation and thus a "debt" of the decedent deductible as such in computing the taxable estate. (IRC, § 2053; Harris v. Commissioner, 340 U.S. 106, 71 S.Ct. 181, 95 L.Ed. 111).

The Commissioner accepted the executor's reasoning and by a letter of final determination dated May 22, 1979, allowed the entire value of Nelda's one-half residuary trust of approximately $722,000 to be deducted as a "debt".

This substantial deduction reduced testator's adjusted gross estate to $1,040,000. Consequently, the value of the one-half residuary trust for the widow, plus other testamentary benefits received by her, exceeded the allowable federal estate tax marital deduction in effect in 1979.

Thus, under Article XI of the will and the tax apportionment direction contained in EPTL 2-1.8, the widow's benefits in excess of the marital deduction were required to bear their share of federal and New York estate taxes aggregating approximately $142,000. Suzanne's share of the taxes was $122,000; Nelda's share was only $3,000 and the balance of $17,000 was apportioned against other beneficiaries.

Thus, Suzanne's objections (1, 2, 3, 4, 5 and 7) are that the accounting executor breached his fiduciary duty, not to the estate, but specifically to her by having successfully claimed that Nelda's one-half residuary trust was a debt of the estate. Consequently, because of the additional estate tax burden on Suzanne's one-half residuary trust, the principal of that trust, in actuality, is less than Nelda's one-half residuary trust. This will also result in a lower income distribution to Suzanne.

It is interesting to consider the tax consequences in rough terms under Suzanne's theory and assuming that Nelda's trust of $722,000 was included in the taxable estate:

1. The total estate tax would be $278,000 instead of $142,000, an increase of $136,000;

2. The share of estate tax apportioned against Nelda's interest would be $230,000 instead of $3,000, an increase of $227,000;

3. The share of estate taxes apportioned against Suzanne's interest would be $26,000 instead of $122,000, a reduction of $96,000;

4. The share of estate taxes apportioned against the interests of all the other beneficiaries would be $21,000, instead of $17,000, an increase of $4,000.

Obviously, the only person who would benefit from the inclusion of Nelda's residuary trust in the taxable estate is Suzanne, and of course, the federal and state treasuries!

These principal objections enumerated above will be considered after disposition of the other objections filed by Suzanne. However, in evaluating all of the objections, it is important to recall some fundamental principles of estate administration.

First, an executor owes a duty to all beneficiaries to be fair and impartial in all transactions that affect them; not preferring one to the detriment of others or conferring a benefit upon one at the expense of another. (Matter of Muller, 24 N.Y.2d 336, 341, 300 N.Y.S.2d 341, 248 N.E.2d 164; Matter of Bush, 2 A.D.2d 526, 156 N.Y.S.2d 897, affd. 3 N.Y.2d 908, 167 N.Y.S.2d 927, 145 N.E.2d 872; Matter of Heinrich, 195 Misc. 803, 809, 90 N.Y.S.2d 875; Matter of James, 86 N.Y.S.2d 78, 89.) Hence, neither the surviving spouse nor any other beneficiary has a right to expect that the executor will discriminate in his or her favor to the detriment of another. The executor must act in the best interests of the estate as a whole, which may incidentally benefit some beneficiaries more than others but not because of any partiality on his part.

Secondly, an executor does not assess a tax on decedent's estate; that is the function of the taxing authorities. An executor, has, however, an obligation to report all of the property that is by law subject to tax at its fair and reasonable value. In addition, the executor has an obligation to take such deductions, credits and exemptions as the law allows and the best interests of the estate dictate. As we all know, the taxing authorities frequently do not accept the executor's determinations. The estate's interest in reducing the tax and the government's interest in collecting all it can under the law are clearly conflicting interests.

Third, the appointment of estate taxes commences at the point the taxing authorities complete their task of fixing the tax. Surrogate Delehanty in Matter of Kaufman, 170 Misc. 436, at p. 445, 10 N.Y.S.2d 616, observed that:

"The court is bound by the actual fact of inclusion or exclusion of property by the taxing authorities. * * * The court begins its allocation task at the point where the taxing authorities terminate their work of fixation of gross tax. The court is not a reviewing body. It may not say that something else should have been done by the taxing authorities that (sic) in fact was done. It takes the accomplished fact of taxation and then allocates the burden on the basis of actuality of tax."

New York's tax apportionment statute, EPTL 2-1.8, contains a similar statement of principle: "the values as finally determined in the respective tax proceedings being the values to be used as the basis for apportionment of the respective taxes", (subd [c], par [1] ). Obviously, if any property is excluded from the taxable estate, that fact is determinative.

We turn now to the other objections filed by Suzanne.

Objection number 6 relates to a lump sum distribution.

Testator was an employee of Hill & Knowlton Inc. and a participant in its profit sharing plan. During his lifetime he designated his estate as the beneficiary of the fund. This designation alone required his executor to include these benefits in the gross taxable estate (IRC §§ 2033, 2039).

Thus, as required by law, the executor included the lump sum distribution of $486,524 in Schedule H of the estate tax return.

Thereafter, on his federal fiduciary income tax return for the estate's first fiscal year, the executor exercised all the elections available because of the inclusion of the lump sum in the taxable estate.

Because the lump sum distribution was subject to both estate tax and income tax, under IRC § 691, the executor deducted from income the sum of $32,000, which was equivalent to the estate taxes attributable to the inclusion of the lump sum.

In objection number 6 Suzanne contends that the executor "subjected the same item to a double tax." As previously discussed, once the decedent during his lifetime designated his estate as the beneficiary of the lump sum benefit of his employer's profit sharing plan, the executor...