• Tax Court Regulations on Nonprofit Inheritance Tax Deduction for Shares in Limited Liability Companies (LLC)– –in the Estate of Miriam Ward v Commissioner, TC memo. 2021-017 (February 18, 2021) the tax court ruled on valuation issues for both gift and estate tax purposes.
Miriam Ward and her husband Thomas had two sons and three grandchildren. Together, Miriam and Thomas founded a revocable trust known as the “Family Trust” in the early 1980s. Over time, the Family Trust became a controlling interest in five LLCs that owned interests in real estate leasing and holding companies. After Thomas passed away, Miriam remained the trustee of the Family Trust and she was the executive member of the LLCs.
In 2012, Miriam gave her two sons and granddaughters an interest in one of the LLCs. However, she did not file a gift tax return and died in 2014. In 2015, the estate filed a gift tax return, in which the 2012 gifts were reported along with the estate tax return. The estate tax return showed a charitable deduction for 100% of the value of one of the LLCs that had given 75% to a charity and 25% to a family trust under the terms of the Family Trust.
The Internal Revenue Service issued indications of deficiencies in both returns, contested its assessment of LLC interests granted to their sons and grandchildren in 2012, and reduced the nonprofit deduction for LLC interests that would go to charity upon their death remained. The IRS also imposed penalties for failing to file the gift tax return.
The tax court agreed with the real estate expert’s assessment of the underlying real estate interests and found his evidence and arguments more convincing. In terms of marketability and control discounts, both were negligible because: (1) the interests assessed had significant control; (2) It was likely that the controlling member could have dissolved the LLCs as there was no evidence that the family would have litigated if dissolution had been attempted. and (3) the companies were real estate holding companies. These marketability and control discounts were set at 5% and 4%, respectively.
Perhaps the more interesting topic in this case was the charitable deduction rating. The property was 100% owned by one of the LLCs. The Family Trust put a 75% stake in a charity and a 25% stake in a family foundation. In the estate tax return, the family trust included the value of the 100% interest and then requested a charitable deduction for the full value of that 100% interest.
The court disagreed and ruled that the charitable contribution had to be assessed in terms of what each of the charities received, rather than what the estate held. The 75% and 25% rates were valued separately, applying the discounts set by the parties (over 27% for the 25% rate and 4% for the 75% rate).
• Decision of a private letter about changes by the local court to the GST grandfather’s trust– In PLR 202108001 (February 26, 2021) the taxpayer requested a ruling from the local court to alter and interpret the will of the deceased who was exercising a will power of appointment (POA) over his father’s trust. The father of the deceased had set up a testamentary foundation for the benefit of the deceased and his descendants. Initially, the deceased had made a will that the POA exercised to instruct the trust property to be kept in continued trust for his descendants. He later executed several codiciles which unfortunately had several incorrect article references and apparently appeared to override this POA.
There were two main problems with the will and the codiciles. First, the deceased’s will contained a section on the Rule Against Eternity (RAP) which referred to “the rules in force for perpetuity” but made no explicit reference to the period governing the trust of the deceased’s father’s will. Second, the codiciles revoked the article in which the deceased exercised the POA and later attempted to correct the erroneous revocation, but created confusion due to various errors by the scrivener.
The local court interpreted a will to maintain the practice of the POA and concluded that the deceased intended to practice it and that the revocation in the codiciles was a mistake on the part of the scribe. It was also found that the RAP period under the will of the deceased was reasonably limited by the period originally applied to the will of the deceased’s father. The court’s declaratory judgment was contingent on a positive decision by the IRS.
The PLR confirmed that the court’s declaratory judgment did not interfere as the local court interpreted the will and ambiguities of the codiciles created by scrivener’s errors, which were genuine legal issues, and such a construction was appropriate under state law grandfather’s tax-exempt status on the transmission of generations (GST) and the fact that the court ruling did not adversely affect GST, gift, estate, or income tax.
• The state court overturns a non-judicial settlement agreement-In the Created in re Trust by Clifford Allen McGregor (308 Neb. 405, Feb. 12, 2021) a beneficiary attempted to enforce a non-judicial settlement agreement with his sister over his father’s trust by appealing to the Nebraska Supreme Court.
Clifford McGregor’s family trust became irrevocable after his death, and his wife Evelyn became the sole trustee. The trust directed that after Evelyn’s death, the trust property, which included real estate, would be held in ongoing trusts for his son Allen and daughter Debra. The trust states that it should be construed as “an unsupportive discretionary spendthrift trust which for whatever reason may not be reached by the beneficiaries’ creditors”. Following Clifford’s death, Evelyn, Allen, and Debra signed a non-judicial settlement agreement in 2011 that directed the distribution of the family trust to Allen and Debra directly and without trust.
Six years later, in 2017, Evelyn attempted to revoke the non-judicial settlement agreement. Allen sued in the district court to enforce the agreement.
In Nebraska, a non-judicial settlement arrangement is effective only to the extent that it does not violate an essential purpose of the Trust and must be approved by all “interested parties”.
The Nebraska Supreme Court upheld the district court’s finding that the non-judicial settlement agreement was non-binding because it violated an essential purpose of the trust, namely to prevent waste. Two other important parts of the agreement were also mentioned that may have violated the original purpose of the trust: each was to be given an extra piece of land, and the two siblings had to settle their distributions through cash or debt settlement.
That being said, the court noted that if Allen and Debra had been the only signatories to the agreement, the agreement may also have been unenforceable, as their descendants may have been “interested parties” who should have agreed to an agreement. At that point, however, it did not rule.