Maddox v. Comm'r of Internal Revenue (In re Estate of Maddox)
| Decision Date | 10 August 1989 |
| Docket Number | Docket No. 9134-87. |
| Citation | 93 T.C. No. 21,93 T.C. 228 |
| Parties | ESTATE OF FRANCES E. WHERRY MADDOX, DECEASED, JOSEPH C. MADDOX, AND MARGARET E. LALE, CO-EXECUTORS, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Decedent owned a 35.5 percent interest in an incorporated family farm. It is undisputed that, in determining the value of decedent's shares for estate tax purposes, the fair market value of the real estate of the farm could be replaced by a substantially lower value computed in accord with section 2032A. HELD, the ‘value‘ of the shares to be included in the gross estate (based, as agreed by the parties, upon the sum of the values of the assets of the farm including that of the real estate as reduced pursuant to section 2032A) is not the ‘fair market value‘ of the shares, and is thus not entitled to a minority interest discount that would otherwise be available in determining their ‘fair market value.‘ Subsection (g) of 2032A, which is construed so as not to deprive the estate of the benefits of section 2032A in the case of stock owned in a corporation owning and operating an otherwise qualifying family farm, even in the absence of congressionally mandated Treasury Regulations, was not intended to place a stock interest in the incorporated farm in a more favorable position than that of a like interest in an unincorporated family farm. John S. Elias, for the petitioner.
Richard A. Stone and Jeff P. Ehrlich, for the respondent.
The Commissioner determined a deficiency in Federal estate taxes against the Estate of Frances E. Wherry Maddox in the amount of $300,900.
The decedent held a minority (35.5 percent) interest in an incorporated family farm. After certain concessions, the remaining issue is whether a 30 percent discount, otherwise applicable in determining the ‘fair market value‘ of the decedent's minority interest in the incorporated farm, is also applicable in valuing her interest therein for inclusion in the gross estate after the value of the farm has been substantially reduced by the application of the special use provisions of section 2032A 1 to the real estate which constituted the principal asset of the farm. The case was submitted on the basis of a stipulation of facts.
Frances E. Wherry Maddox died on May 1, 1983, a resident of Illinois. Her husband, Clarence C. Maddox, qualified as the executor of her estate. He has since died, and their two children, Joseph C. Maddox and Margaret E. Lale, have been appointed as co-executors. Clarence C. Maddox and decedent incorporated Maddox Farms, Inc. (the ‘corporation‘ or the ‘farm‘) in 1973, and since that date it has been engaged in the business of farming. Upon incorporation, they each received 500 of the 1,000 total issued and outstanding shares of common stock. Each of them thereafter transferred stock to their two children at various times so that on May 1, 1983, the 1,000 shares were owned as follows:
+----------------------------------------+
¦ ¦ ¦
+---------------------------+------------¦
¦Decedent ¦355 shares ¦
+---------------------------+------------¦
¦Clarence C. Maddox ¦361 shares ¦
+---------------------------+------------¦
¦Joseph C. Maddox (son) ¦142 shares ¦
+---------------------------+------------¦
¦Margaret E. Lale (daughter)¦142 shares ¦
+---------------------------+------------¦
¦Total ¦1,000 shares¦
+---------------------------+------------¦
¦ ¦ ¦
+----------------------------------------+
Petitioner, the decedent's estate, reported the value of decedent's shares on its timely filed estate tax return at $222,024, based upon a buy/sell agreement among the stockholders. It no longer seeks to support that valuation, but relies rather upon a special use valuation claimed under section 2032A that is applicable to the real property of a family farm or other closely owned business. It had made a protective election in its return to avail itself of that special use valuation. In the notice of deficiency, the Commissioner valued decedent's shares at $968,266 based upon his determination that such was their ‘fair market value.‘ He no longer relies on that figure or a value equal to the ‘fair market value‘ of the shares. There is now no dispute that the special use valuation of section 2032A plays a part in arriving at the amount to be included in the gross estate in respect of decedent's 355 shares.
The parties are in agreement that section 2032A is applicable in valuing the real property of the farm, and that petitioner timely and properly perfected an election to have that section apply ‘in valuing the 355 shares in the corporation owned by the decedent.‘ The parties have further agreed that a minority interest discount of 30 percent is applicable in arriving at the ‘fair market value‘ of the 355 shares. The precise matter in dispute is whether that 30 percent FAIR MARKET VALUE discount is applicable to decrease the VALUE of the 355 shares includable in the gross estate once their value has already been substantially reduced below their fair market value as a result of the section 2032A special use valuation of the farm's real property.
At the date of death, the assets of the farm consisted of three classes of property: cash, equipment, and real property, and the parties have stipulated that the net ‘fair market value‘ of these assets combined was $2,442,000, without regard to any valuation discounts. The parties have treated that amount as being the full fair market value of the entire Maddox farm without any suggestion that such value (based solely on the underlying assets) might be affected by earnings or any other factor. And they have also treated the decedent's 355 shares as having a fair market value equal to their pro rata portion of the sum of those assets, without taking into account any downward adjustment for the fact that they represent a minority interest. Thus, the parties have stipulated that the fair market value of the decedent's 355 shares, without any minority interest discount, was $866,910, her 35.5 percent pro rata portion of the $2,442,000 fair market value of the entire farm. Further, they have agreed that, upon applying the 30 percent minority interest discount, those 355 shares had a fair market value of $611,310. It is this latter amount that is properly includable in the gross estate in respect of the 355 shares if section 2032A were not used.
At the election of an estate, and subject to a number of conditions, section 2032A authorizes the use of a value for a farm's real estate that is radically different from its fair market value. Of the stipulated $2,442,000 net fair market value of all three categories of assets of the Maddox farm in this case, the real estate alone had a fair market value of at least $2,319,470. 2 However, the parties have agreed that, upon recalculating the value of the real estate of the farm pursuant to section 2032A, the net ‘value‘ (not ‘fair market value‘) of all three classes of assets combined was $1,376,041. The parties are also in agreement that, as a result of the section 2032A recomputation, the decedent's 355 shares have a revised ‘value‘ for estate tax purposes of $488,495 (35.5 percent x $1,376,031). That is the amount that may properly be included in the decedent's gross estate as the value of her 355 shares, apart from any minority interest discount. If the stipulated 30 percent minority discount for determining FAIR MARKET VALUE is applicable here, the amount includable in the gross estate would be further reduced to $341,946.50 (70 percent x $488,495). That is the amount contended for by petitioner. However, the Government insists that since the amount to be included in the gross estate after the application of section 2032A is not one based on fair market value, it is inappropriate to reduce that amount by a minority interest discount that is relevant only in determining fair market value. We concur.
As agreed by the parties, the value of the shares of the Maddox farm is merely their pro rata portion of all the assets of the farm. But the total ‘value‘ of those assets no longer reflects their total ‘fair market value‘ after the real estate has been revalued downward through the application of section 2032A. Thus, the ‘value‘ of 355 shares, as substantially decreased by the application of section 2032A to the real estate, the principal asset of the farm, is not their ‘fair market value.‘ Accordingly, the 30-percent minority interest discount, which would otherwise be applicable to reduce the ‘fair market value‘ of the shares, has no application whatever to shrink further a value that is already substantially less than and is unrelated to their fair market value.
Section 2032A was added to the Code by the Tax Reform Act of 1976, sec. 2003, Pub. L. 94-555, 90 Stat. 1520, 1856. Although it originally focused primarily on family farms when it first appeared in a revised Senate version of the bill, see S. Rept. 94-938, (Part 2) at 14-16, it was later expanded in the Conference Committee to include other closely held businesses, see H. Rept. 94-1380 at 21 et seq. To simplify discussion, we will treat section 2032A as though it relates solely to family farms, which appear to have been the principal matter to which Congress directed its attention and with which most of the cases in this field have been concerned.
Congress was obviously troubled that family farms might have to be sold to pay estate taxes upon death of the owner if the value of the real estate were determined at its fair market value which in turn depended upon its ‘highest and best use.‘ Since such real estate might well be a tempting target for real estate developers, the ‘highest and best use‘ test could result in a valuation based on development purposes substantially in excess of the value of the...
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