Gerhardt v. Comm'r of Internal Revenue
| Decision Date | 20 April 2023 |
| Docket Number | 11127-20,11128-20,11129-20,11146-20 |
| Parties | GLADYS L. GERHARDT, ET AL.,[1] Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
1
160 T.C. No. 9
GLADYS L. GERHARDT, ET AL.,[1] Petitioners
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Nos. 11127-20, 11128-20, 11129-20, 11146-20
United States Tax Court
April 20, 2023
Ps contributed high-value, low-basis real estate and other property to charitable remainder annuity trusts (CRATs). The CRATs sold the contributed property and purchased five-year single premium immediate annuities (SPIAs) with most of the proceeds, naming Ps as recipients of the annuity payments. On their 2016 and 2017 tax returns, Ps took the position that the payments they received from the CRAT-funded SPIAs were not subject to tax, with the exception of small amounts Ps reported as interest. R examined Ps' tax returns and determined deficiencies, taking the position that, under I.R.C. §§ 664 and 1245, the annuity payments Ps received were distributions from the CRATs and taxable to them as ordinary income.
Two Ps, J and S, separately relinquished rental property and cash in exchange for other rental property in 2017. On their tax return for 2017, J and S took the position that gain from the disposition of the relinquished
property should be deferred because the transaction qualified as a like-kind exchange under I.R.C. § 1031. R did not dispute that the transaction met the requirements of I.R.C. § 1031, but determined that I.R.C. § 1245 precluded deferral of the gain.
J and S also sold certain property (MS) in 2017. They reported the net gain from the sale as ordinary income. R recomputed the amount of the gain and characterized it as long-term capital gain.
For T and P, two other Ps, R determined an accuracy-related penalty under I.R.C. § 6662(a) for 2016. T and P claim the penalty should not apply because they acted with reasonable cause and in good faith reliance on their advisers.
Held: The annuity payments Ps received from the CRAT-funded SPIAs in 2016 and 2017 were distributions from the CRATs and taxable to them as ordinary income under I.R.C. § 664.
Held, further, Ps have not met their burden of showing that R erred in characterizing the payments as ordinary income on the basis of I.R.C. §§ 664(b) and 1245.
Held, further, Ps' contrary arguments find no support in the Code, regulations, or caselaw.
Held, further, J and S have not met their burden of showing that R erred in determining that I.R.C. § 1245 precluded deferral of the gain realized from the disposition of the relinquished property.
Held, further, J and S offer no argument as to R's determinations concerning the sale of MS and have forfeited any objections on this point, so R's determinations with respect to the sale of MS stand.
Held, further, T and P have not met their burden of showing that they acted with reasonable cause and in good faith reliance on their advisers.
Anita L. Steburg, for petitioners.
Stephen A. Haller, for respondent.
OPINION
TORO, Judge.
In these consolidated cases, petitioners (collectively, Gerhardts) contributed high-value, low-basis properties to charitable remainder annuity trusts (CRATs). The CRATs promptly sold the properties, purchased immediate annuities with most of the proceeds, and designated the Gerhardts as the recipients of the payments under the annuity contracts. In 2016 and 2017, the Gerhardts received payments from the CRAT-funded annuity contracts. The principal issue before us (which affects all petitioners) is whether those annuity payments are taxable to the Gerhardts. We conclude they are.
The Gerhardts maintain, essentially, that selling the high-value, low-basis properties through the CRATs and having the CRATs buy immediate annuities for their benefit allowed them to have most of the sale proceeds returned to them tax free over time. That view finds no support in the law governing CRATs or elsewhere. Rejecting the Gerhardts' "too good to be true" arguments and consistent with our holding in Furrer v. Commissioner, T.C. Memo. 2022-100, we conclude that the annuity payments they received in 2016 and 2017 are distributions from the CRATs and taxable to them as ordinary income under section 664.[2]
Also before us are three additional issues each affecting only some petitioners: (1) whether Jack and Shelley Gerhardt should have recognized ordinary income under section 1245 when they disposed of depreciated property as part of a section 1031 like-kind exchange, (2) whether Jack and Shelley Gerhardt's gain from the sale of depreciated property is long-term capital gain, and (3) whether Tim and
Pamela Gerhardt are liable for an accuracy-related penalty under section 6662(a). We find for the Commissioner on each issue.[3]
I. Docket Nos. 11127-20, 11128-20, 11129-20, 11146-20 (CRAT Issue)[4]
Background
A. The Gerhardts' CRATs
The Gerhardts apparently learned about using CRATs as a wealth-preservation strategy from John Eickhoff of Hoffman Associates, LLC, in 2015. Mr. Eickoff referred the Gerhardts to Aric Schreiner of Columbia CPA Group, LLC, for tax advice. In 2015, Mr. Schreiner presented the Gerhardts with a "CRAT strategy." The record does not disclose the substance of Mr. Schreiner's presentation, but soon after that presentation, the Gerhardts formed CRATs with Mr. Schreiner's involvement.[5]
Although they are broadly similar, we describe the facts for each petitioner below. For clarity, we refer to individual petitioners by their first names.
B. Gladys Gerhardt[6]
The Albert and Gladys CRAT was created on November 2, 2015. Albert and Gladys were the CRAT's grantors and noncharitable beneficiaries. The CRAT instrument listed five organizations as charitable remaindermen. Gray, Lawrence & Jenkins, LLC, was the CRAT's trustee.
Relevant here, the CRAT instrument required the trustee to pay to the beneficiaries for a five-year period an "Annuity Amount" "equal to the greater of: (1) ten percent of the initial net fair market value of all property transferred to [the CRAT] . . . or (2) the payments received . . . from one . . . or more Single Premium Immediate Annuities [(SPIAs)] purchased by the Trustee." Stipulation of Facts Ex. 13-J, at 23.
The CRAT instrument listed Albert and Gladys Gerhardt as the beneficiaries of the Annuity Amount. But the CRAT instrument also provided that "[n]either the Recipients nor the Recipients' Children shall have any right title, interest, or incident of ownership in or to any [SPIA] transferred to or purchased by the Trustee." Id. at 22. The CRAT instrument defined the term "Recipients" as those "entitled to receive the current annuity payment" and identified Albert and Gladys as the Recipients. Id. at 15.
Albert and Gladys contributed real estate to the Albert and Gladys CRAT on November 10, 2015. The Albert and Gladys CRAT filed Form 5227, Split-Interest Trust Information Return, for the 2015 tax year reporting the total fair market value of the contributed properties as $1,808,000. With Mr. Schreiner's assistance, Gladys filed Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return, with her and Albert's 2015 income tax return, reporting total adjusted basis of $97,517 in the contributed properties. In December 2015 and March 2016, the trustee of the Albert and Gladys CRAT sold the properties for at least $1,658,000.[7]
Using the proceeds from the sales, the Albert and Gladys CRAT purchased a SPIA from Symetra Life Insurance Co. (Symetra) for $1,537,822 on March 7, 2016. The SPIA contract identified the Albert and Gladys CRAT as the "Owner" of the SPIA, but listed Albert as the annuitant and Gladys as the joint annuitant.[8] Under the SPIA contract, Symetra was required to pay an annuity of $311,708 to Albert and Gladys beginning on April 6, 2016, and on each April 6 thereafter until five total payments were made.
Albert and Gladys received an annuity payment of $311,708 ($155,854 each) in each of 2016 and 2017. For 2016 and 2017, the Albert and Gladys CRAT reported these annuity payments as CRAT distributions to Albert and Gladys on Form 5227:
Recipient Distributions 2016 2017 Albert Gerhardt Ordinary Income $2,026 $2,026 Corpus 153,828 153,828 Gladys Gerhardt Ordinary Income 2,026 2,026 Corpus 153,828 153,828
The Albert and Gladys CRAT issued Schedules K-1 (Form 1041), Beneficiary's Share of Income, Deductions, Credits, etc., to both Albert and Gladys for 2016 and 2017. For each year, the Schedules K-1 reported interest income of $2,026 paid to each of Albert and Gladys. The Schedules K-1 reported no other income.
Albert and Gladys jointly filed their federal income tax returns for the 2016 and 2017 tax years. Damon T. Eisma of Eisma & Eisma Attorneys at Law prepared the returns. On these returns, Albert and Gladys reported the interest income reported to them by the Albert and Gladys CRAT. They did not report the remaining payments from the CRAT-funded annuity on either the 2016 or the 2017 tax return.
On Forms 5227, the Albert and Gladys CRAT reported its assets at the end of 2015 to 2017 as follows:
2015
2016
2017
Trust Principal or Corpus
$1,774,271
$1,410,953
$1,103,298
Undistributed Income
-
-
-
Undistributed Capital Gains
-
-
-
Undistributed Nontaxable Income
-
-
-
The Commissioner examined Albert and Gladys's 2016 and 2017 tax returns as well as the Albert and Gladys CRAT trust accounting and reporting for those years. During the examination, the Commissioner determined that the Albert and Gladys CRAT trust accounting was inaccurate and adjusted it in relevant part as follows:
...
CRAT Trust Accounting According to IRS Examination
2015
2016
2017
Prior Year Accumulated Ordinary Income
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