This post was originally published on Forbes Sep 25, 2015
The Tax Court decision in the case of Jean Steinberg is a great example of planners taking a rule that is meant to prevent taxpayers from getting away with something and using it to, well, get away with something. The stakes were pretty high - $1,804,908 in gift tax for the year 2007. Ms. Steinberg is the widow of Meyer Steinberg, philanthropist and reals estate developer, who founded Enterprise Asset Managment. Ms. Steinberg gave her daughters over $109 million worth of real estate so perhaps the part of the gift tax at stake doesn't sound quite as high anymore. The gift was a "net gift" meaning that her daughters were required to pay the resulting gift tax, but there was more. There is something that you need to understand about the gift tax to fully appreciate what was done.
Enter at item A of Schedule G the total value of the gift taxes that were paid by the decedent or the estate on gifts made by the decedent or the decedent's spouse within 3 years of death.
Mr. Frazier testified that he used the actuarial tables promulgated by the Commissioner to calculate the probability that petitioner would die within each of the three years after the date of the net gift agreement. The report calculated petitioner's annual mortality rate for year 1, year 2, and year 3 to be 13.84%, 13.04%, and 12.13%, respectively. The report used the section 7520 interest rate applicable on the date of the transfer to determine the present value factors for each of the three years. Then the report took the effective State and Federal estate tax rates for each of the three years and multiplied them by the gift tax included in the estate under section 2035(b). Using this methodology, the report calculated that the daughters' assumption of the section 2035(b) estate tax liability reduced the value of the combined gift by $5,838,540.
The table makes me think of Ishmael visiting the Whaleman's Chapel in New Bedford before embarking on the Pequod where he contemplates the marble tablets commemorating whalemen lost at sea. In that Table 90CM on page 866, our destiny is written. 100,000 begin at age 0 and at each succeeding age the number drops finally reaching 17 at age 109 and then 0 at age 110 (People like Jeanne Calement who celebrated her 122nd birthday are a round off error). Nobody gets out alive. Ishmael had the tablets in the Whaleman's chapel. Hamlet had Yorick's skull. I have Table 90CM (There is a newer table 2000CM which is bit more optimistic, but nobody gets out alive on that one either).
At the time of the gifts at issue it was also not possible to determine the provisions of the donor's will that would exist at the time of her death. As matter of law the donor is entitled to change the provisions of her will before her death. There is no certainty that her four daughters would be the beneficiaries of her will. In the past the donor had made changes to her will which at one point excluded one of the daughters as a beneficiary. At the time petitioner and her daughters signed the net gift agreement, there was no guaranty that the daughters would remain beneficiaries under petitioner's residuary estate. Petitioner is still alive and remains free to change her will at any time. The net gift agreement guaranteed that the daughters would assume the section 2035(b) liability. This guaranty placed a burden on the daughters that they may not have had to otherwise bear.
there is nothing sinister in so arranging one's affairs as to keep taxes as low as possible. Everybody does so, rich or poor; and all do right, for nobody owes any public duty to pay more than the law demands
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.
Handler said ‘‘the arrangement wasn’t a common estate planning tool, because if the client is younger, the reduction for the assumption of liability isn’t that much. If the client is older, the risk of assuming the liability may be too high.’’
Handler added that an estate planner could get a letter from a doctor attesting to a donor’s health. ‘‘If the person is in poor health, there could be a larger reduction in the gift tax, but there would also be greater risk of estate tax liability,’’ he said
That’s what Susan, Bonnie, Carol and Lois did when they undertook the pay their Ma’s gift tax, and the estate tax if the gifts Ma was giving them was clawed back into Ma’s estate if Ma died within the three-year clawback rule.
IRS tries to rehash their losing intrafamily gift arguments from the September 2013 case they lost, but Judge Kerrigan blew that off then, and blows it off now. Even though not made in the ordinary course of business, the deal was negotiated extensively, the parties all had independent counsel, and no one claims the deal wasn’t bona fide or arms’-length.
Best of all, The Four have an expert, and IRS has only the Michael Corleone gambit.