Ron Aucutt's 'Top Ten' Estate Planning And Estate Tax Developments Of 2011

Number Ten: The Defined Value Clause Good News: Petter v. Commissioner, 653 F.3d 1012 (9th Cir. 2011), aff'g T.C. Memo 2009-280

This was the third recent case to affirm the technique of donating a nonmarketable asset, such as an interest in a family limited partnership or LLC, by transferring a total specified interest but allocating a specified dollar value to family members and any excess to charity. Similar outcomes had previously been achieved in McCord v. Commissioner, 461 F.3d 614 (5th Cir. 2006), rev'g 120 T.C. 358 (2003), and Estate of Christiansen v. Commissioner, 130 T.C. 1 (2008) (reviewed by the Court), aff'd, 586 F.3d 1061 (8th Cir. 2009). When this technique works, it effectively prevents the assessment of any gift tax or estate tax deficiency, because any increase in value on audit merely increases charity's share and is absorbed by the charitable deduction. Typically, assets are thereby transferred to family members with significant valuation discounts.

In Petter, Judge Holmes, who had written the majority Tax Court opinion in Christiansen, distinguished Commissioner v. Procter, 142 F.2d 824 (4th Cir.), cert. denied, 323 U.S. 756 (1944), rev'g & rem'g 2 TCM [CCH] 429 (1943), which "became the cornerstone of a body of law regarding 'savings clauses,'" holding them invalid "conditions subsequent" and "contrary to public policy" because they discourage collection of tax, obstruct the administration of justice, and would require courts to render unauthorized declaratory judgments. Judge Holmes summed up:

In Christiansen, we ... found that the later audit did not change what the donor had given, but instead triggered final allocation of the shares that the donees received. 130 T.C. at 15. The distinction is between a donor who gives away a fixed set of rights with uncertain value – that's Christiansen – and a donor who tries to take property back – that's Procter. The Christiansen formula was sufficiently different from the Procter formula that we held it did not raise the same policy problems.

A shorthand for this distinction is that savings clauses are void, but formula clauses are fine.

Petter attracted attention because it was appealed to the Court of Appeals for the Ninth Circuit, a court sometimes viewed as taxpayer unfriendly. Curiously, in the Ninth Circuit, the Government did not argue the "public policy" element of Procter but relied on the argument "that part of the gifts to the charitable foundations were subject to a condition precedent – an IRS audit – in violation of Treasury Regulations 25.2522(c)-3(b)(1)," which provides that no gift tax charitable deduction is allowed for a transfer to charity that is dependent on a future act or "a precedent event" for the transfer to be effective. The Ninth Circuit rejected that argument and thereby gave aid and comfort to the use of such defined value formulas. [But see Development Number Five below.]

Number Nine: A Deductible Whole with Undetermined Marital and Charitable Parts: Letter Ruling 201117005 (Jan. 5, 2011)

This letter ruling involved, among other things, a proposed testamentary charitable remainder unitrust (CRUT) that was to be distributed under a somewhat unusual formula. While one-fifth of the unitrust amount each year would go to the surviving spouse, four-fifths of the unitrust amount would be distributed either to the spouse or to a private foundation (which was also the charitable remainder beneficiary) in the trustees' discretion. If the surviving spouse remarried, the spouse was to receive only the one-fifth portion of the unitrust amount and any amount of the remaining four-fifths portion of the unitrust amount that was necessary to ensure that the amount received by the spouse was not de minimis.

The Service held that upon the taxpayer's death the entire value of the assets distributed to the CRUT would be deductible in calculating the taxable estate, because all the value of the CRUT would pass to either charity or the surviving spouse, even though the respective values passing to charity and the surviving spouse could not be determined. In looking at the legislative history, the Service concluded that when a taxpayer establishes a testamentary CRUT in which the surviving spouse is the only non-charitable beneficiary, the estate tax marital deduction will completely offset the value of the assets distributed to the CRUT after deducting the value of the remainder interest passing to the charity, so there will be no estate tax attributed to the CRUT.

This common sense result opens up an opportunity for flexibility without creating tax uncertainty.

Number Eight: Crackdown on Tax Strategy Patents

President Obama signed the Leahy-Smith America Invents Act, Public Law 112-29, on September 16, 2011. Section 14 of the Act provides that tax strategies are not patentable because they are "deemed insufficient to differentiate a claimed invention from the prior...

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