Estate Of Margot Stewart v. Comm'r Of Internal Revenue, 07-5370-ag.
| Decision Date | 09 August 2010 |
| Docket Number | No. 07-5370-ag.,07-5370-ag. |
| Citation | 617 F.3d 148 |
| Parties | ESTATE OF Margot STEWART, Deceased, Brandon Stewart, Executor, Petitioner-Appellant,v.COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee. |
| Court | U.S. Court of Appeals — Second Circuit |
Jennifer S. Smith (Jerry D. Bernstein, on the brief), Blank Rome LLP, New York, NY, for Petitioner-Appellant.
Randolph L. Hutter (Jonathan S. Cohen, on the brief) for Nathan J. Hochman, Assistant Attorney General, Tax Division, U.S. Department of Justice, Washington, D.C., for Respondent-Appellee.
Before: McLAUGHLIN, CALABRESI, and LIVINGSTON, Circuit Judges.
Decedent, Margot Stewart, gave a 49% share of a mixed-use building to her son Brandon Stewart (“Brandon”). Upon Margot Stewart's death, the Internal Revenue Service sought to include this gift in Margot Stewart's estate under 26 U.S.C. § 2036(a)(1), reasoning that Margot Stewart had “retained for [her] life ... the possession or enjoyment of, or the right to the income from the property.” The Tax Court, T.C. Memo 2006-225, 92 T.C.M. (CCH) 357, agreed. Petitioner-Appellant Estate of Margot Stewart (the “Estate”) appeals that decision, arguing that Decedent did not retain a lifetime interest in the 49% share and that there was no implied agreement that Decedent would retain enjoyment of the 49% share. The Commissioner contends that the Tax Court's decision was correct. We do not disturb the Tax Court's finding that an implied agreement existed, but we hold that the Tax Court clearly erred in finding that the terms of the implied agreement provided that Decedent would retain enjoyment of the entire 49% share, and that the entire property should remain in the Estate. We therefore VACATE the judgment below and REMAND this case for further proceedings consistent with this opinion.
Since 1989, Decedent Margot Stewart and her adult son Brandon Stewart co-owned, as joint tenants with rights of survivorship, a house in East Hampton, New York (the “East Hampton property”). Each summer, Decedent and Brandon rented out the East Hampton property, splitting the rental income evenly. As a matter of expediency and convenience, Decedent and Brandon would not both sign the lease; nor would they ask the summer tenant to send two different rent checks, one to Decedent and one to Brandon. Rather, in different years, either Decedent or Brandon would sign the lease to rent out the property, and the tenant would write a single check either to Decedent or to Brandon. Whoever received the rent checks that year would then, every few months, write a check to the other for that person's share. Decedent and Brandon also split evenly the expenses of maintaining the East Hampton property. The result was that every summer each of Decedent and Brandon received half of the East Hampton property's net income.
At all times relevant to this appeal, Decedent and Brandon lived on the first two floors of a five-story brownstone in Manhattan (the “Manhattan property”), which Decedent had bought in 1968. On October 1, 1999, Decedent leased the upper three floors to an unrelated commercial tenant, Financial Solutions, Ltd. (“Financial Solutions”). The rent was $9,000 per month, and the term ran through July 31, 2002.
On October 1, 1999, Decedent and Brandon met with Attorney Frederick Walker, an estate planning specialist, for the purpose of reviewing the Financial Solutions lease. According to Walker's testimony, Decedent asked him what to do about the appreciation in the value of the Manhattan property, and Walker suggested that Decedent make a gift of part of the Manhattan property to Brandon. Decedent then said that she wanted to give Brandon half of the Manhattan property along with half of the rent. This account is corroborated by Walker's contemporaneous diary, which says that Decedent wanted “to give son one-half of building and rent.” Walker, Decedent, and Brandon met again the next day so that Decedent and Brandon could pick up the lease and further discuss the gift possibility with Walker.
Decedent was diagnosed with pancreatic cancer in December 1999, and she began chemotherapy treatments in January 2000. On May 9, 2000, Decedent and Brandon signed a deed that transferred a 49% interest in the Manhattan Property to Brandon.1 The deed provided that Decedent and Brandon would be tenants in common.
After the gift was completed, Decedent and Brandon continued to live together in the lower two floors of the Manhattan property. Financial Solutions continued to rent the upper three floors, but its rent payments were erratic, untimely, and sometimes partial.2 In addition, according to Brandon's testimony (which is corroborated by financial documentation), the Manhattan property underwent thousands of dollars worth of repairs. As a result, the Manhattan property expenses were significantly higher than usual, at the same time that the income produced by the property became unreliable.
Against this backdrop, the financial relationship between Decedent and Brandon underwent several significant changes during the period after the gift and before Decedent's death.3 While Decedent continued to receive the Manhattan property rent payments from Financial Solutions, Brandon received the rent payments from the tenant in the East Hampton property. In contrast to their previous practice, Brandon never wrote a check to Decedent for her share of the East Hampton rent. Decedent, who had previously paid for all Manhattan property expenses, now paid for most of them, with Brandon paying a small but not insignificant fraction. The Tax Court found that Decedent paid Manhattan property expenses of $21,790.85, while Brandon paid Manhattan expenses of $1,963. The record supports these findings; every one of these payments is accounted for in Brandon's and Decedent's bank statements, and the numbers add up.
Margot Stewart died on November 27, 2000. Following her death, the estate filed with the IRS a Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return, which reported the contents of Margot's estate as including 100% of the East Hampton property 4 but only a 51% interest in the Manhattan property. On December 22, 2004, the IRS issued a notice of deficiency stating inter alia, that Margot had retained possession or enjoyment of the transferred 49% interest and that therefore, under 26 U.S.C. § 2036, the entire Manhattan property was part of her estate for federal tax purposes.
The Estate filed a timely petition in the Tax Court challenging the IRS's determination of deficiency. The Tax Court held a two-day trial in June 2006. At trial, the Estate argued that, contrary to the IRS's contention, Decedent had not retained the enjoyment or income of the entire Manhattan property but rather, as a 51% owner, had forgone much of the net income from the top three floors by using a setoff to pay Brandon, and had shared the value of the bottom two by living with Brandon. According to the Estate, instead of splitting up the rental income and expenses each month in proportion to their interests in the two properties-a process which would have required Decedent and Brandon to write separate checks for every expense and receive separate checks from both tenants-Decedent and Brandon were keeping track of each person's net income from both properties and intended to reconcile any differences at the end of the year.
The Tax Court issued a memorandum opinion denying the petition. T.C. Memo 2006-225, 92 T.C.M. (CCH) 357, 2006 WL 3018173, 2006 Tax Ct. Memo LEXIS 230. The court found that Decedent “continued to receive the $9,000 monthly rent payments from Financial Solutions, Ltd., and enjoy the economic benefits of the [Manhattan] property.” Id. at *2, 2006 Tax Ct. Memo LEXIS 230, at *6. The court described Decedent's “retention of the property's income stream after the property was transferred” as “very clear evidence that the decedent did indeed retain ‘possession or enjoyment.’ ” Id. Because there was no written agreement between Decedent and Brandon stating that they would reconcile the income and expenses of the two properties and because the Tax Court did not credit Brandon's testimony that there was an oral agreement, the court found that no such agreement existed. Id. at 2-3, 2006 Tax Ct. Memo LEXIS 230, at *7. Rather, the Tax Court concluded that Brandon and Decedent “had an implied agreement that decedent would retain the economic benefits of the [Manhattan] property” and that “Decedent certainly met the terms of that agreement.” Id. For those reasons the Tax Court held that the full value of the Manhattan property was includible in the Estate under 26 U.S.C. § 2036. The Estate timely appealed to this Court.
The Internal Revenue Code imposes a federal tax on “the taxable estate of every decedent who is a citizen or resident of the United States.” 26 U.S.C. § 2001(a). A “taxable estate” is defined as “the value of the gross estate,” less applicable deductions id. § 2051, where the value of the gross estate includes “the value of all property to the extent of the interest therein of the decedent at the time of his death,” id. § 2033. Some taxpayers use various planning techniques designed to take property out of the gross estate or decrease its value. The IRS has several statutory tools to use in fighting these techniques. One of these tools-26 U.S.C. § 2036(a)(1)-is at issue here.
Under Internal Revenue Code § 2036, the value of the gross estate includes “the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer ... under which he has retained for his life ... the possession or enjoyment of, or the right to the income from, the property.” 26 U.S.C. § 2036(a), (a)(1). The purpose of § 2036 is to prevent...
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