Estate of Herrmann v. C.I.R.

• Decision Date: 11 June 1996
• Docket Number: No. 1090,D,1090
• Citation: 85 F.3d 1032
• Parties: -2500, 65 USLW 2008, 96-1 USTC P 60,232 ESTATE OF Herbert R. HERRMANN, Deceased, Edward I. Herrmann and Lawrence A. Herrmann, Co-Executors, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. ocket 95-4113.
• Court: U.S. Court of Appeals — Second Circuit

Page 1032

85 F.3d 1032

77 A.F.T.R.2d 96-2500, 65 USLW 2008,

96-1 USTC P 60,232

ESTATE OF Herbert R. HERRMANN, Deceased, Edward I. Herrmann

and Lawrence A. Herrmann, Co-Executors, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 1090, Docket 95-4113.

United States Court of Appeals, Second Circuit.

Argued Feb. 12, 1996.

Decided June 11, 1996.

Frank H. Connelly, Jr. (Margaret M. Fitzpatrick, McGovern, Connelly & Davidson, New Rochelle, NY), for Petitioners.

Tamara Schottenstein, United States Department of Justice, Washington, DC (Loretta C. Argrett, Assistant Attorney General, Gary R. Allen, Richard Farber, on the brief), for Respondent.

Before: MAHONEY, WALKER, and CALABRESI, Circuit Judges.

CALABRESI, Circuit Judge:

In a prenuptial agreement, Herbert Herrmann agreed to give his fiancee a life interest in his apartment upon his death, provided that they were still married when he died. In return, the fiancee gave up her rights to any of her future husband's property upon his death or their divorce. They married, and several years later the husband died. The question is whether the widow's life interest in his apartment is a claim supported by "adequate and full consideration in money or money's worth." I.R.C. § 2053(c)(1)(A). If so, then it is deductible from the husband's taxable estate. If not, it is subject to taxation.

We could quickly dispose of this case by citing several of our opinions dating from 1940, all of which hold that a transfer of property to a spouse in return for a relinquishment of any marital right (for example, support rights, or an elective share in the deceased spouse's estate) is not supported by adequate consideration, and, as such, cannot be deducted. The taxpayer in this case suggests, however, that our decisions have been undercut by several developments since 1940. It contends that post-1940 IRS Revenue Rulings and opinions of the Tax Court and other circuits (which expressly reject our earlier holdings) require us to abandon those precedents.

We do not, however, need to consider the current validity of those precedents to decide this case. For, without relying on them, we still conclude that the property before us should be taxed.

I. BACKGROUND

In 1984, Herbert Herrmann (then in his 60's) married Harriet Boris (then in her 50's) in New York. Before the marriage, they signed a prenuptial agreement that provided:

Separate property of each spouse would remain separate.

Both waived any claims for alimony, support, and maintenance.

Both agreed to pool their incomes after marriage, to be held jointly with right of survivorship.

In case of divorce, Herbert agreed to pay Harriet $5,000 per year for ten years.

Both waived any claim for any property distribution of any kind (e.g., equitable distribution of their property upon divorce), except that, if they were still married when Herbert died, Herbert would give Harriet a life interest in his apartment.

Both waived any right against the "property or estate of the other" including any statutory allowance, personal right of election against a will, or other rights in case of intestacy.

At the time of the agreement, Herbert had about $1,600,000 in assets and $100,000 in annual income; Harriet had $250,000 in assets and an annual income of $25,000.

Herbert died in 1988, and, as the prenuptial agreement had provided, Harriet received the life use of his New York apartment. When Herbert's executors filed the estate tax return, they subtracted the value of Harriet's interest ($264,965) from the assessed value of the apartment ($340,000) as a "claim against the estate," and listed only the estate's reversionary right to the property ($75,035) in his gross estate. The Commissioner of Internal Revenue disallowed the deduction and included the entire value of the apartment in Herbert's gross estate.

The estate filed a petition in the Tax Court challenging the Commissioner's determination. That court, after trying the case on a stipulated set of facts, concluded that Harriet's life interest was not deductible as a claim against the estate because, in the prenuptial agreement, she had not given Herbert "adequate and full consideration in money or money's worth" for the life interest as required by I.R.C. § 2053(c). The court reasoned that Harriet had principally given up her right of statutory election against Herbert's will; that this was a waiver "of dower or curtesy, or of a statutory estate created in lieu of dower or curtesy, or of other marital rights in the decedent's property or estate"; and that foregoing such an interest can never serve as adequate consideration under I.R.C. § 2043(b). ¹ The court further found that even if Harriet had given up other rights that were unlike dower--rights that might provide acceptable consideration--the estate had failed to prove the value of such rights. Since the taxpayer had not met its burden of showing how much of Harriet's life estate was deductible, all of it had to be included. The Tax Court therefore sustained the Commissioner's determination and required the estate to pay about $70,000 in extra taxes.

The taxpayer now asks us to review the Tax Court's decision.

II. DISCUSSION

We have jurisdiction to re-examine a final decision of the Tax Court pursuant to I.R.C. § 7482. As always, we exercise plenary review over the Tax Court's legal conclusions but disturb its factual findings only for clear error. Bliss v. Commissioner, 59 F.3d 374, 378 (2d Cir.1995).

Our inquiry begins with I.R.C. § 2053(a), which provides that, generally, "claims against the estate" are deductible from the gross estate. Section 2053(c)(1)(A), in turn, permits "claims against the estate" only "when founded on a promise or agreement, ... to the extent that they were contracted bona fide and for an adequate and full consideration in money or money's worth."

In good tax code fashion, there is a further provision, § 2043(b)(1), which tells us that some things do not constitute "consideration in money or money's worth." It states:

(b) MARITAL RIGHTS NOT TREATED AS CONSIDERATION--

(1) IN GENERAL--For purposes of this chapter, a relinquishment or promised relinquishment of dower or curtesy, or of a statutory estate created in lieu of dower or curtesy, or of other marital rights in the decedent's property or estate, shall not be considered to any extent a consideration "in money or money's worth".

(Emphasis added.)

Section 2043(b)(1) was designed to prevent a husband and wife from entering into agreements that use consideration that is valid under state contract law to transform nondeductible marital rights--such as dower--into deductible contractual claims against the estate, thereby depleting the taxable estate. See Natchez v. United States, 705 F.2d 671, 674 (2d Cir.1983); see also I.R.C. § 2034 (including dower rights in the gross estate).

Normally, of course, a married couple will have no reason to structure bequests to each other as contractual debts. Most transfers between husband and wife qualify for a marital deduction that exempts interspousal transfers from estate and gift taxes. As a result, the decedent's taxable estate does not usually include property transferred to the surviving spouse. I.R.C. § 2056(a). The theory of the marital deduction is that the estate and gift taxes should strike marital property once, on the death of either the decedent or the survivor, but not on both events. See Estate of Pipe v. Commissioner, 241 F.2d 210, 214 (2d Cir.), cert. denied, 355 U.S. 814, 78 S.Ct. 15, 2 L.Ed.2d 31 (1957).

Consistent with this theory, life estates (and other terminable interests), are not eligible for the marital deduction. I.R.C. § 2056(b). ² Since life interests end upon the death of the life tenant (the surviving spouse), they typically do not appear in the survivor's estate. If they were eligible for the marital deduction in the estate of the original decedent, the value they represent would escape transfer tax both when the first and when the the surviving spouse die. For example, unless it is included in Herbert's taxable estate, the value of Harriet's life interest in the apartment could well avoid estate tax altogether. It follows that couples have a significant interest in converting non- deductible life interests into deductible "claims against the estate." The government has a commensurate interest in seeing that this does not happen.

The Tax Court held that the estate failed to prove the value of any consideration valid for purposes of transfer tax that Harriet gave Herbert in exchange for an interest in his apartment. In reaching this conclusion, however, the court did not decide whether Harriet's waiver of her right to an equitable distribution of marital property upon divorce constituted valid or invalid consideration--whether, in other words, it was an "other marital right[ ] in the decedent's property or estate" within the meaning of § 2043(b)(1). Since the estate had, in any event, failed to establish the dollar value of what Harriet had given up, the court declined to reach the § 2043(b)(1) question.

We agree with the Tax Court that Harriet's claim against the estate is not deductible for estate tax purposes. In reaching that conclusion, we reject the IRS's invitation that we simply rely on three of our precedents, decided over fifty years ago, for the categorical assertion that a waiver of equitable distribution rights in a prenuptial agreement can never serve as consideration under § 2043(b)(1). Instead, we affirm based on our determination that--whatever the scope of § 2043(b)(1)--the right that Harriet traded away in return for a life interest in her husband's apartment, was not "adequate and full consideration in money or money's worth" under § 2053(c)(1)(A). She waived only a potential right to an equitable distribution in her husband's property, which never, in fact, ripened into an enforceable right. Accordingly, to allow a deduction in ...