Steinberg v. Comm'r

• Decision Date: 16 September 2015
• Docket Number: 145 T.C. No. 7,Docket No. 23865-11.
• Citation: Steinberg v. Comm'r, 145 T.C. No. 7, Docket No. 23865-11. (T.C. Sep 16, 2015)
• Parties: JEAN STEINBERG, DONOR, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent
• Court: U.S. Tax Court

JEAN STEINBERG, DONOR, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent

145 T.C. No. 7

Docket No. 23865-11.

UNITED STATES TAX COURT

September 16, 2015

P entered into a binding gift agreement with her daughters under which P gave her daughters properties and in exchange the daughters agreed to assume and to pay, among other things, any estate tax liability imposed under I.R.C. sec. 2035(b) as a result of the gifts in the event that P passed away within three years of the gifts.

In calculating for gift tax purposes the gross fair market value of the property transferred to the daughters, P reduced the fair market value of the properties by an amount representing the value of the daughters' assumption of the I.R.C. sec. 2035(b) estate tax liability, among other things.

Held: The daughters' assumption of a potential I.R.C. sec. 2035(b) estate tax liability was a detriment to the daughters and a benefit to P such as would be considered by a willing buyer and willing seller in determining a sale price of the transferred property rights.

Held, further, the net gift agreement did not duplicate the effect of New York law.

Held, further, the value of the daughters' assumption of potential I.R.C. sec. 2035(b) estate tax liability was determined using R's mortality tables and applying interest rates under I.R.C. sec. 7520 as a discount factor.

John W. Porter, Michael S. Arlein, Keri D. Brown, and Jeffrey D. Watters, Jr., for petitioner.

John Richard Mikalchus and Molly H. Donohue, for respondent.

KERRIGAN, Judge: Respondent issued petitioner a notice of deficiency, increasing petitioner's gift tax liability by $1,804,908 for tax year 2007.Respondent disallowed the discount petitioner made for her daughters' assumption of the section 2035(b) estate tax liability.

Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the tax year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.We round all monetary amounts to the nearest dollar.

The issues for consideration are (1) whether a donee's promise to pay any Federal or State estate tax liability that may arise under section 2035(b) if thedonor dies within three years of the gift should be considered in determining the fair market value of the gift, and (2) if so, the amount, if any, that the promise to pay reduces the fair market value of the gift.

FINDINGS OF FACT

Some of the facts are stipulated and are so found.Petitioner resided in New York when she filed the petition.

Petitioner married Meyer Steinberg in 1944.Petitioner and Mr. Steinberg had four children: Susan Green, Bonnie Englebardt, Carol Weisman, and Lois Zaro(collectively, daughters).

Mr. Steinberg was one of the founders of Enterprise Asset Management, Inc.(EAM).Mr. Steinberg served as the chief executive officer of EAM from its inception.Petitioner's daughters served as directors of EAM during 2007.

On June 20, 2002, petitioner executed a will (2002 will).In the 2002 will petitioner named Mr. Steinberg as the beneficiary of her residuary estate unless he predeceased her, in which case each of her daughters would split her residuary estate in equal shares.

Mr. Steinberg died on December 4, 2003.Mr. Steinberg left a will that established a marital trust (marital trust).Petitioner was named the trustee and a beneficiary of the marital trust, and she was granted a power of appointment overthe assets of the marital trust.As of April 17, 2007, the marital trust held assets with a total value of $122,850,623.The assets of the marital trust consisted of ownership interests in several different entities worth $17,820,648 (representing 14.5% of the total value) and cash.

On December 20, 2005, petitioner executed a codicil to the 2002 will (2005 codicil).The 2005 codicil provided that only Ms. Englebardt, Ms. Weisman, and Ms. Zaro would inherit under the marital trust and her residuary estate.

On July 21, 2006, petitioner executed a new will (2006 will).The 2006 will provided that all four of her daughters would split her residuary estate in equal shares.The 2006 will also provided that (1) any estate taxes imposed with respect to property passing under the 2006 will would be paid out of petitioner's residuary estate, and (2) if petitioner died within three years, any section 2035(b) estate tax would be apportioned to her daughters.

During 2006 and 2007 the daughters requested that petitioner terminate the marital trust so they could receive immediate distributions of its assets.Petitioner agreed to terminate the trust and began negotiations.

Net Gift Agreement

On April 17, 2007, petitioner entered into a binding gift agreement (net gift agreement) with her daughters.Petitioner also terminated the marital trust.Atthat time petitioner was 89 years old.The assets of the marital trust were distributed as follows: (1) $3,401,316 to pay outstanding legal fees; (2) $10 million to petitioner; and (3) the remainder of the assets to the daughters pursuant to the net gift agreement.

In the net gift agreement petitioner agreed to make gifts of properties to her daughters.In exchange, her daughters agreed to assume and to pay any Federal gift tax liability imposed as a result of the gifts.The daughters also agreed to assume and to pay any Federal or State estate tax liability imposed under section 2035(b) as a result of the gifts in the event that petitioner passed away within three years of the gifts.Section 3, Federal and State Estate Tax, of the net gift agreement provides in pertinent part:

a. Assumption of Federal and State Estate Tax Liability.Each Donee hereby agrees to assume, pay and indemnify the Executor against all additional federal and state estate tax liability assessed pursuant to Code Section2035(b)(i) if Mrs. Steinberg [petitioner] does not survive for three years following the Effective Date and (ii) that is directly attributable to Mrs. Steinberg's transfer of the Gift Property made under the Instruments of Transfer, including all penalties and interest which accrue upon such estate tax liability except such penalties and interest that are directly attributable to actions or delays committed by the Executor or another Donee (the Estate Tax Liability).For purposes of determining and allocating the Estate Tax Liability, (i) the value of all additional tax shall be as finally determined for federal estate tax purposes, (ii) the only gift tax taken into account in the calculation shall be the gift tax on Mrs. Steinberg's transfers of the Gift Property to the Donees made underthe Instruments of Transfer, and (iii) the amount of the Estate Tax Liability each Donee shall bear shall be an amount equal to the Estate Tax Liability attributable to the Donee's Gift Tax Share A and the Donee's Gift Tax Share B (in each case, collectively, the Donee's Estate Tax Share).

* * * * * * *

c. Payment of Estate Tax Liability.

i. Donees' Payment to Executor.Each Donee shall deliver to the Executor an amount equal to the Donee's Estate Tax Share by certified check made payable to the United States Treasury, no later than thirty days before the due date for payment of the Estate Tax Liability, or, if later, as soon thereafter as the Executor notifies the Donee of the amount of the Estate Tax Liability.

The net gift agreement also provides remedies if any daughter fails to pay her share of any section 2035(b) estate tax liability.Section 7(c), Remedy Available in Event of Default, of the net gift agreement provides in pertinent part:

ii.Default in Payment of Estate Tax Liability.If the Executor determines that a Donee is in default * * * the Executor shall give notice to the Donee that the Donee is in default (Estate Tax Default Notice and Estate Tax Default Notice Date, respectively).If the Donee fails within 10 business days after the Default Notice Date to deliver to the Executor the remaining balance of the Donee's Estate Tax Share of the Estate Tax Liability (Donee's Estate Tax Balance), all Cash Distributions [i.e., certain quarterly distributions to which the donees are entitled] otherwise distributable to a Donee shall be delivered directly to the Executor * * * .Each Donee agrees that, upon the date on which the Executor gives an Estate Tax Default Notice to a Donee, the Executor alsoshall deliver a duplicate copy of the Estate Tax Default Notice to the Manager, and the Donee shall be deemed to have directed the Manager to deliver the Cash Distribution otherwise distributable to the Donee directly to the Executor in satisfaction of the Donee's Estate Tax Balance as provided in this paragraph.Each Donee agrees to perform any and all acts necessary as a shareholder, partner, member, manager or director of any entity governed by an Applicable Agreement to effect the payment of the Donee's Estate Tax Balance to the Executor.

The net gift agreement was the result of several months of negotiation between petitioner and her daughters.Petitioner and her daughters were represented by separate counsel.The fair market value of the properties transferred by petitioner to her daughters before consideration of the gift tax liability and section 2035(b) estate tax liability assumed by the daughters was $109,449,307.

Also on April 17, 2007, the daughters signed an escrow agreement.Pursuant to the escrow agreement the daughters each transferred $10 million to an escrow fund set up with HSBC Bank.Of the $40 million, $32,437,261 was used to pay the Federal gift tax that resulted from the gifts, and the remaining balance was set aside to pay any section 2035(b) estate tax liability.¹

Valuation of Property

To determine the fair market value of the property rights petitioner transferred pursuant to the net gift agreement, petitioner hired William H. Frazier, a qualified appraiser.Mr. Frazier concluded that the aggregate value of the net gift on the date it was made, April 17, 2007, was $71,598,056.He determined that the present...