• Tax Court rules on estate tax charitable deduction for limited liability company (LLC) interests—In Estate of Miriam Ward v. Commissioner, T.C. Memo. 2021-017 (Feb. 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 had established a joint revocable trust known as the “Family Trust” in the early 1980s. Over time, the Family Trust became the majority interest holder of five LLCs that owned interests in real estate leases and holding companies. After Thomas died, Miriam remained the trustee of the Family Trust, and she was the managing member of the LLCs.
In 2012, Miriam gave interests in one of the LLCs to her two sons and her granddaughters. However, she didn’t file any gift tax returns, and she died in 2014. In 2015, the estate filed gift tax returns reporting the 2012 gifts, along with the estate tax return. The estate tax return reported a charitable deduction for 100% of the value of one of the LLCs, which had passed 75% to a charity and 25% to a family foundation pursuant to the terms of the Family Trust.
The Internal Revenue Service issued notices of deficiencies for both returns, disputing the valuation of the LLC interests given to her sons and grandchildren in 2012 and decreasing the charitable deduction for the LLC interests left to charity on her death. The IRS also imposed penalties for failure to file the gift tax returns.
The Tax Court agreed with the estate expert’s valuations of the underlying property interests, finding his evidence and arguments more compelling. With respect to the discounts for marketability and control, both were minor because: (1) the interests being valued held significant control; (2) it was likely the controlling member could have dissolved the LLCs because there was no evidence that the family would have pursued litigation if dissolution were attempted; and (3) the companies were real estate holding companies. These discounts for lack of marketability and control were determined to be 5% and 4%, respectively.
Perhaps the more interesting issue in the case was the valuation of the charitable deduction. The estate held a 100% interest in one of the LLCs. The Family Trust directed a 75% interest to one charity and a 25% interest to a family foundation. On the estate tax return, the Family Trust included the value of the 100% interest and then claimed a charitable deduction for the full value of that 100% interest.
The court disagreed and held that the charitable contribution had to be valued with respect to what each of the charities received, not what the estate held. It valued the 75% and 25% interests separately, applying the discounts to which the parties had stipulated (over 27% for the 25% interest and a 4% discount for the 75% interest).
• Private letter ruling on local court modifications to GST grandfathered trust—In PLR 202108001 (Feb. 26, 2021), the taxpayer sought a local court ruling to modify and construe the decedent’s will, which exercised a testamentary power of appointment (POA) over his father’s trust. The decedent’s father had established a testamentary trust for the benefit of the decedent and his descendants. Initially, the decedent had executed a will that exercised the POA to direct the trust property to be held in further trust for his descendants. Later, he executed several codicils, which unfortunately had several incorrect Article references and appeared to rescind that POA.
There were two main issues with the will and codicils. First, the decedent’s will included a rule against perpetuities (RAP) section that referred to the “applicable rules governing perpetuities,” but it didn’t explicitly reference the period applicable to the decedent’s father’s testamentary trust. Second, the codicils revoked the Article in which the decedent exercised the POA and then later attempted to correct the mistaken revocation but, due to various scrivener’s errors, introduced ambiguity.
The local court construed the will to retain the exercise of the POA, concluding that the decedent did intend to exercise it and that the revocation in the codicils was a scrivener’s error. It also held that the RAP period under the decedent’s will was properly limited by the period originally applicable to the decedent’s father’s will. The court’s declaratory judgment was contingent on a favorable ruling by the IRS.
The PLR confirmed that because the local court was construing the will and codicils’ ambiguities created by scrivener’s errors, which were bona fide issues of law, and such construction was proper under state law, the declaratory judgment entered by the court didn’t interfere with the property’s generation-skipping transfer (GST) tax-exempt grandfathered status and that there were no adverse GST, gift, estate or income tax consequences to the court ruling.
• State court sets aside nonjudicial settlement agreement—In In re Trust created by Clifford Allen McGregor (308 Neb. 405, Feb. 12, 2021), a beneficiary sought to enforce a nonjudicial settlement agreement with his sister regarding his father’s trust by appealing to the Supreme Court of Nebraska.
Clifford McGregor’s family trust became irrevocable on his death, and his wife, Evelyn, became the sole trustee. The trust directed that on Evelyn’s death, the trust property, which included real estate, be held in continuing trusts for his son Allen and daughter Debra. The trust states that it should be construed as a “non-support discretionary spendthrift trust that may not be reached by the beneficiaries’ creditors for any reason.” However, after Clifford’s death, in 2011, Evelyn, Allen and Debra signed a nonjudicial settlement agreement that directed the distribution of the family trust directly to Allen and Debra, outright and free of trust.
Six years later, in 2017, Evelyn attempted to revoke the nonjudicial settlement agreement. Allen sued in the county court to enforce the agreement.
In Nebraska, a nonjudicial settlement agreement is valid only to the extent it doesn’t violate a material purpose of the trust, and it must be consented to by all “interested persons.”
The Supreme Court of Nebraska upheld the county court’s determination that the nonjudicial settlement agreement wasn’t binding because it violated a material purpose of the trust, namely the spendthrift protections. It also noted two other significant parts of the agreement that may have violated the original purpose of the trust: Allen was to receive an additional tract of land, and the two siblings were required to equalize their distributions through cash or debt settlement.
The court indicated, as an aside, that the agreement might also have been unenforceable if Allen and Debra were the only signatories, because their descendants might be “interested persons” who would have had to consent agreement. However, it didn’t rule on that point.