• New user fee for taxpayers requesting estate tax closing letters starts Oct. 28—In Treasury Decision 9957, the Internal Revenue Service issued final regulations requiring taxpayers to pay a user fee of $67 when requesting an estate tax closing letter (Letter 627). Letter 627 informs taxpayers that the IRS has accepted the estate tax return and provides information such as the net estate tax, state death tax credit or deduction and generation-skipping transfer tax liability. Taxpayers will be able to request Letter 627 and pay the new user fee at www.pay.gov.
• Maine Supreme Judicial Court rules on ademption issue—In Connary v. Shea, 2021 Me. 44 (Sept. 14, 2021), the Maine Supreme Judicial Court held that a gift of “all” of the grantors’ bank shares was a specific devise subject to ademption. Specific devises are gifts of specific items of property. If the specific item isn’t held by the testator on death, the devise can’t be made, and the recipient doesn’t receive any substitute value.
Patricia and William Shea established the Shea Family Trust in 2003 and funded it with stock in General Electric and Siwooganock Bank, a private New Hampshire bank. On the death of the survivor of Patricia and William, the trustee was directed to distribute the GE and bank stock to Patricia’s nieces and nephews. The remaining “net proceeds” of the trust property was to be distributed to William’s children.
After William died, the bank recalled and redeemed the bank stock, and the trust received approximately $460,000. Those proceeds were held in various trust accounts, commingled with other funds. After Patricia died, the trustee distributed the GE stock to her nieces and nephews but informed them that the bank stock was no longer part of the trust and that the trustee couldn’t distribute any funds in place of it. The nieces and nephews disagreed, arguing that they were entitled to the proceeds from the involuntary sale of the bank stock, and if there was any ambiguity, that Patricia’s intent was to leave them such proceeds.
Patricia’s nieces and nephews argued that the current Maine statute applied. The current statute provided for an exception if ademption would be inconsistent with the grantor’s intent. However, the court applied the prior version of the Maine Probate Code that was in effect when Patricia died, holding that the version of the statute wasn’t applicable because Patricia wasn’t living when it became effective. As a result, the court held that: (1) the devise of “all” of the bank stock referred to a finite pool of bank stock held by the trust, distinguishable within the rest of the trust assets, which was a specific devise, and (2) under the prior statute, which had no exception for the grantor’s intent, because no shares of the bank stock remained in the trust at Patricia’s death, Patricia’s nieces and nephews weren’t entitled to compensation.
• U.S. District Court upholds IRS motion for summary judgment on valuation of shares in family business for estate tax purposes—In Connelly v. United States, 4:19-cv-01410-SRC (E.D. Mo. Sept. 21, 2021), both the estate and IRS filed for summary judgment on whether life insurance proceeds payable to a closely held company to fund a buy-back of shares on a shareholder’s death should be included in the value of the company.
Brothers Michael and Thomas Connelly ran and owned Crown C Supply, Inc. (Crown C), a closely held family business that sold roofing and siding materials. Michael was the president, CEO and majority shareholder, owning 385.90 shares; Thomas owned the remaining 114.10 shares. As part of their estate and business succession planning, the brothers entered into a stock purchase agreement (SPA) providing that Crown C would buy back the shares of the first brother to die, and Crown C would buy life insurance to finance the buyback. The SPA included specific provisions requiring that the brothers determine the agreed share value each year by issuing a new “Certificate of Agreed Value.” If they failed to do so, the SPA required them to determine share value by obtaining multiple appraisals.
After Michael’s death, Crown C used the life insurance proceeds to complete the buyback. The brothers had never executed a single Certificate of Agreed Value. They didn’t obtain multiple appraisals as required by the SPA either. Instead, the brothers chose to come up with their own ad hoc valuation of $3 million for Michael’s shares; Crown C purchased his shares in a sale agreement for that amount, and the estate reported that as the value on the estate tax return.
On audit, the IRS determined the additional $3 million of life insurance proceeds used to buy back Michael’s shares should have been included in the value of Crown C for estate tax purposes and assessed an additional $1 million in estate taxes. The estate sought a refund.
The issue was whether the SPA was relevant in determining the fair market value (FMV) of the shares. Under 26 U.S.C. Section 2703(b), relevant case law and regulations, the IRS will only consider a buy-sell agreement when valuing property in a decedent’s estate if the buy-sell agreement meets all of the following requirements:
- It’s a bona fide business arrangement,
- It’s not a device to transfer property to the decedent’s family for less than full and adequate consideration,
- Its terms are comparable to similar arm’s-length agreements,
- The offering price is fixed and determinable, and
- The agreement wasn’t legally binding on the parties during life and after death.
- If a buy-sell agreement doesn’t meet all of the requirements, the FMV of the shares is used for estate tax purposes under 26 C.F.R. Sections 25.2703-1(b)(2); 20.2031-2(h).
The court agreed with the estate that the brothers entered into the SPA for the bona fide business purpose of ensuring their family’s continued ownership of Crown C; however, the issue was ultimately unnecessary because the SPA didn’t meet any other requirements necessary to factor into the stock valuation.
For a number of reasons, the court held for the IRS that the $3 million sale agreement was a testamentary device used to transfer wealth to Michael’s family for less than full and adequate consideration. Most importantly, the court noted that the brothers disregarded the terms of the SPA and didn’t follow its requirements regarding valuation of the shares. If the brothers weren’t bound by the SPA, the court noted, neither should the IRS be. Secondly, the court found that the SPA wasn’t comparable to similar agreements negotiated at arm’s length; in particular, the valuation of Michael’s shares didn’t include any control premiums, which wasn’t reasonable.
After concluding that the SPA didn’t dictate the share value, the court next determined the FMV of the shares. Because the redemption obligation didn’t offset the insurance proceeds, the FMV of the shares included those proceeds.
