Holman v. Comm'r of Internal Revenue

• Decision Date: 27 May 2008
• Docket Number: No. 7581–04.,7581–04.
• Citation: Holman v. Comm'r of Internal Revenue, 130 T.C. 170, 130 T.C. No. 12 (T.C. 2008)
• Parties: Thomas H. HOLMAN, Jr. and Kim D.L. Holman, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Tax Court

130 T.C. 170

130 T.C. No. 12

Thomas H. HOLMAN, Jr. and Kim D.L. Holman, Petitioners

v.COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 7581–04.

United States Tax Court.

May 27, 2008.

Ps transferred D stock of substantial value to a newly formed family limited partnership and then made gifts of limited partnership units (LP units) to a custodian for one of their children and in trust for the benefit of all of their children. Ps made a large gift in 1999 and smaller gifts in 2000 and 2001. In valuing the gifts for Federal gift tax purposes, they applied substantial discounts for minority interest status and lack of marketability. With respect to the 1999 gift, R argues that the gift should be treated as an indirect gift of D shares and not as a direct gift of LP units. For all of the gifts treated as gifts of LP units, R argues that the restrictions in the partnership agreement on a limited partner's right to transfer her interest should be disregarded pursuant to I.R.C. sec. 2703(a)(2). R also disagrees with Ps' application of discounts.

1. Held: The limited partnership was formed and the shares of D stock were transferred to it almost 1 week in advance of the 1999 gift, so that, on the facts before us, the transfer cannot be viewed as an indirect gift of the shares to the donees under sec. 25.2511–1(a) and (h)(1), Gift Tax Regs.

2. Held, further, the 1999 gift may not be viewed as an indirect gift of the shares to the donees under the step transaction doctrine.

3. Held, further, in valuing the gifts, the transfer restrictions are disregarded pursuant to I.R.C. sec. 2703(a)(2).

4. Held, further, values of the gifts determined.

John W. Porter, Stephanie Loomis–Price, and J. Graham Kenney, for petitioners.

Lillian D. Brigman and Richard T. Cummings, for respondent.

HALPERN, Judge:

By separate notices of deficiency (the notices), respondent determined deficiencies in each petitioner's Federal gift tax of $205,473, $8,793, and $16,009 for 1999, 2000, and 2001, respectively. In response to the notices, petitioners jointly filed a single petition. Respondent answered, and, by amendment to answer, he increased by $2,304 and $13, the deficiencies he had determined for each petitioner for 1999 and 2001, respectively.

Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.

After concessions, the principal issues for decision are (1) whether petitioners' transfer of assets to a family limited partnership constitute an indirect gift to another member of the partnership; (2) if not, whether, in valuing the gifts of limited partner interests that are the subject of this litigation, we must disregard certain restrictions on the donees' rights to sell those interests; and (3) assuming that we must value those interests, those values.

FINDINGS OF FACT

Some of the facts have been stipulated and are so found. The stipulation of facts, with accompanying exhibits, is incorporated herein by this reference. Petitioners resided in St. Paul, Minnesota, at the time they filed the petition.

Background

Petitioners are husband and wife. They have four minor children, the initials of whose first names are L., C., V., and I. (collectively, the children).

Petitioner Thomas H. Holman, Jr. (Tom), was employed by Dell Computer Corp. (Dell) from October 1988 through November 2001. While employed by Dell, Tom received substantial stock options, some of which he has exercised. Tom and petitioner Kim D.L. Holman (Kim) have purchased additional shares of Dell stock.

In 1996 and 1997, as their net worth increased, petitioners grew more concerned with managing their wealth, particularly as their wealth might affect the children.

Texas UTMA Accounts

Beginning in 1996, when they lived in Texas, and continuing through early 1999, petitioners made annual gifts of Dell stock to three custodial accounts under the Texas Uniform Transfer to Minors Act (Texas UTMA), one for each of their then three daughters, L., C., and V. Tom served as custodian for the three Texas UTMA accounts until August 1999, when, for estate planning reasons, he resigned and was replaced by his mother, Janelle S. Holman (Janelle). At the time of his resignation, each of the Texas UTMA accounts held 10,030 shares of Dell stock.

Move to Minnesota and Discussions with Mr. LaFave

In August 1997, the Holman family moved from Texas to St. Paul, Minnesota. At that time, petitioners had no wills.

In late 1997, petitioners met with business and estate planning attorney E. Joseph LaFave (Mr. LaFave) to discuss estate planning and wealth management issues. They continued those discussions with Mr. LaFave and with others over the next 2 years. They recognized that they were wealthy, and they anticipated transferring substantial wealth to the children. They wished to make the children feel responsible for the wealth they expected them to receive. They discussed with Mr. LaFave and others various ways simultaneously to meet their goals of transferring their wealth to the children and making the children feel responsible for that wealth. They learned from Mr. LaFave about family limited partnerships. Mr. LaFave discussed with petitioners forming a partnership, contributing property to it, and making gifts of interests in the partnership to (or for the benefit of) the children. Mr. LaFave described, and Tom understood, the gift tax savings from valuation discounts that could result if Tom made gifts of limited partner interests rather than gifts of some or all of the property contributed to the partnership. Tom discussed those tax savings with Kim. Tom's understanding of the potential for gift tax savings played a role in his decision to form a family limited partnership and make gifts (indirectly) to the children of limited partner interests. Tom had four reasons for forming a family limited partnership: “very long-term growth”, “asset preservation”, “asset protection”, and “education”. At trial, he elaborated:

Long-term asset growth to us means that we're looking at assets for the benefit of the family over decades. Preservation really means that we wanted a vehicle where our children would be demotivated and disincentivized to spend the assets. Protection—we were worried that the assets that the girls would eventually come into would be sought after by third party people, friends, spouses, potential creditors. The fourth one [education] is interesting in that we wanted something that we could use to educate our daughters on business management concerns.

He further elaborated on his understanding of asset preservation: “The preservation of capital is important to us. We did not want our daughters to just go blow this money.” And: “[W]e really are concerned about negatively affecting their lives with the wealth, so by creating a partnership, we can establish a vehicle that preserves the wealth and such that the kids won't go off and spend it.” Asset preservation motivated Tom to include transfer restrictions in the limited partnership agreement described infra. He testified with respect to those restrictions: “Remember, the big goal of this thing is to preserve the assets and to disincentivize the girls from getting rid of these assets, spending these assets, feeling entitled to these assets.”

Minnesota UTMA Account

I., the Holmans' youngest daughter, was born in June 1999. In August 1999, Tom opened an account at Dean Witter (now Morgan Stanley Dean Witter; hereafter, MSDW) for I.'s benefit. He opened the account under the Minnesota Uniform Transfers to Minors Act (Minnesota UTMA). Janelle was appointed custodian. Tom caused MSDW to transfer 30 shares of Dell stock to that account on August 16, 1999.

Wills

On November 2, 1999, petitioners executed wills prepared by Mr. LaFave.

The Trust

Mr. LaFave drafted an agreement (the trust agreement) establishing “The Holman Irrevocable Trust U/A dated September 10, 1999” (the trust). The trust agreement names petitioners as grantors, Janelle as trustee, and the children as the primary beneficiaries. Petitioners executed the trust agreement on November 2, 1999, and Janelle executed it on November 4, 1999. The trust agreement provides that it is effective as of September 10, 1999. Previously, on August 3, 1999, Tom had opened an account at MSDW for the to-be-established trust. Tom caused MSDW to transfer 100 shares of Dell stock and $10,000 to that account on August 16, 1999.

The Holman Limited Partnership

An attorney in Mr. LaFave's office drafted an agreement (the partnership agreement) to establish the Holman Limited Partnership (the partnership), a Minnesota limited partnership. The partnership agreement recites that petitioners are both general and limited partners and Janelle, as trustee of the trust (as trustee) and as custodian, separately, for each of the children, is a limited partner. Tom suggested changes to preliminary drafts of the partnership agreement to insure that his goals of long-term growth, asset preservation, asset protection, and education were reflected in the final agreement. Petitioners executed the partnership agreement on November 2, 1999. Janelle executed it thereafter.

November 2, 1999, Transfers

On November 2, 1999, Janelle, as trustee, caused MSDW to transfer 100 shares of Dell stock from the trust's account to a new MSDW account established for the partnership (the partnership's account). On that same date, Tom caused MSDW to transfer 70,000 shares of Dell stock owned one-half by him and one-half by Kim from another MSDW account to the partnership's account. In exchange for their contributions to the partnership, petitioners and Janelle, as trustee, received the following general and limited partner interests: ¹

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