CIR v. Estate of Anne Y. Petter, et al
Filing
FILED OPINION (DIARMUID F. O'SCANNLAIN, FERDINAND F. FERNANDEZ and JAY S. BYBEE) AFFIRMED. Judge: DFO , Judge: FFF , Judge: JSB Authoring. FILED AND ENTERED JUDGMENT. [7843514]
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 1 of 20
FOR PUBLICATION
UNITED STATES COURT OF APPEALS
FOR THE NINTH CIRCUIT
ESTATE OF ANNE Y. PETTER,
deceased; TERRENCE D. PETTER,
personal representative,
Petitioners-Appellees,
v.
COMMISSIONER OF INTERNAL
REVENUE,
Respondent-Appellant.
No. 10-71854
Tax Ct. No.
25950-06
OPINION
Appeal from a Decision of the
United States Tax Court
Argued and Submitted
June 14, 2011—San Francisco, California
Filed August 4, 2011
Before: Diarmuid F. O’Scannlain, Ferdinand F. Fernandez,
and Jay S. Bybee, Circuit Judges.
Opinion by Judge Bybee
10187
Case: 10-71854
10190
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 2 of 20
ESTATE OF PETTER v. CIR
COUNSEL
Jonathan S. Cohen and Andrew M. Weiner (argued), Department of Justice, Washington, D.C., for the respondentappellant.
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 3 of 20
10191
John W. Porter (argued), Kerri D. Brown, and Jeffrey D.
Watters, Jr., Baker Botts L.L.P., Houston, Texas, for the
petitioners-appellees.
OPINION
BYBEE, Circuit Judge:
Anne Y. Petter (“Taxpayer” or “Anne”) transferred membership units in a family-owned LLC partly as a gift and
partly by sale to two trusts and coupled the transfers with
simultaneous gifts of LLC units to two charitable foundations.
The transfer documents include both a dollar formula clause
—which assigns to the trusts a number of LLC units worth a
specified dollar amount and assigns the remainder of the units
to the foundations—and a reallocation clause—which obligates the trusts to transfer additional units to the foundations
if the value of the units the trusts initially receive is finally
determined for federal gift tax purposes to exceed the specified dollar amount. Based on an initial appraisal of the LLC
units, each foundation received a particular number of units.
But after an Internal Revenue Service (“IRS”) audit determined that the units had been undervalued, the foundations
discovered they would receive additional units. Everyone
agrees that the Taxpayer is entitled to a charitable deduction
equal to the value of the units the foundations initially
received. But is the Taxpayer also entitled to a charitable
deduction equal to the value of the additional units the foundations will receive? The Tax Court answered that she was.
We agree.
I
After inheriting a large amount of United Parcel Service
(“UPS”) stock, Anne devised a complex estate plan designed
to give some of her wealth to charity and as much of her stock
Case: 10-71854
10192
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 4 of 20
ESTATE OF PETTER v. CIR
as she could to two of her children, Donna and Terry, without
having to pay gift tax. To accomplish these goals, the Taxpayer first created the Petter Family LLC (“PFLLC”), a
Washington limited liability company, and transferred
approximately $22.6 million worth of UPS stock to it in
exchange for membership units in the PFLLC. Then, the Taxpayer created the Donna K. Moreland 2001 Long Term Trust,
which named Donna as trustee, and the Terrence D. Petter
2001 Long Term Trust, which named Terry as trustee, and
transferred PFLLC units to these two trusts.1 This appeal centers around these latter transfers, which are discussed in more
detail below.
Because Anne did not want to pay gift tax in connection
with the transfer of LLC units to the trusts, the transfers were
coupled with simultaneous donations of units to two taxexempt public charities2 and occurred in two phases: first a
gift, then a sale. On March 22, 2002, the Taxpayer gave the
trusts PFLLC units equal in value to the unused portion of her
unified tax exemption.3 On the advice of her estate planner,
1
Anne could have transferred her UPS stock outright, but doing so
would have “enabled the Commissioner to tax her on its full value—UPS
stock is publicly traded and easy to price.” Petter v. Comm’r, 98 T.C.M.
(CCH) 534, 2009 WL 4598137, at *7 (2009). Conversely, “a gift of membership units in an LLC is harder to value [and] creates the possibility of
a more taxpayer-friendly valuation” because “provisions in the operating
agreement restrict members’ rights to sell” LLC units. Id. These restrictions allow a taxpayer to discount the value of stock by a percentage that
reflects the lack of marketability of LLC units. Id.
2
Aside from effectuating Anne’s charitable intent, coupling the transfers
of LLC units to the trusts with simultaneous transfers of LLC units to
charities created what Anne’s estate planner, Richard LeMaster, called a
“charitable freeze.” A charitable freeze is an estate planning technique that
seeks to ensure that if the IRS successfully challenges a taxpayer’s valuation of a gift, the amount by which the gift was undervalued does not go
to the IRS as estate or gift tax, but rather to one or more charities named
by the donor in the transfer documents.
3
A taxpayer does not owe any gift tax if the value of the gift is less than
the applicable annual exclusion (the annual exclusion for 2002 was
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 5 of 20
10193
Richard LeMaster, these units served as a baseline that limited
the amount of units later sold to the trusts; specifically, the
units transferred as a gift were meant to make up 10% of the
trusts’ assets.4 On March 25, 2002, Anne sold the trusts additional PFLLC units that, when added to the units already
transferred as a gift, were worth 90% of the trusts’ assets.5 As
consideration for the LLC units, each trust executed a 20-year
promissory note, undertaking to pay $4,085,910 at 5.37%
interest in quarterly installments of $83,476.30. The trusts
have made regular quarterly payments since July 2002.
As regards the March 22 gifts, there were two sets of gift
documents: one for Donna’s trust, which named it and the
Kitsap Community Foundation as transferees, and one for
Terry’s trust, which named it and the Seattle Foundation as
transferees. The relevant sections of Terry’s gift document—
Recital C, the dollar formula clause (section 1.1), and the reallocation clauses (sections 1.2 and 1.3)—provide:
C. Transferor wishes to assign 940 Class T Membership Units in the Company (the “Units”) including all of the Transferor’s right, title and interest in
the economic, management and voting rights in the
Units as a gift to the Transferees.
$11,000). If the value of the gift exceeds the applicable annual exclusion,
the taxpayer may still avoid paying gift tax by using her lifetime unified
tax credit (the unified tax credit for 2002 exempted $1 million from tax).
Any portion of the unified tax credit not used against gift tax may be used
after the taxpayer’s death against the estate tax. See generally I.R.S.
Publ’n 950 (Dec. 14, 2009).
4
LeMaster believed there was a rule of thumb that a trust whose debts
do not exceed 90% of the value of its assets (i.e., a trust with at least a
10% capital base) would be viewed by the IRS as a legitimate, arm’slength purchaser in the later sale of LLC units.
5
At the time of the transfers, the unused portion of the Taxpayer’s unified tax exemption was $907,820. Applying LeMaster’s rule of thumb,
this number meant that Anne could give to each trust LLC units worth
$453,910 and then sell to each trust LLC units worth $4,085,190.
Case: 10-71854
08/04/2011
10194
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
....
1.1 Subject to the terms and conditions of this
Agreement, Transferor:
1.1.1. assigns to the Trust as a gift the
number of Units described in Recital C
above that equals one-half the [maximum]
dollar amount that can pass free of federal
gift tax by reason of Transferor’s applicable
exclusion amount allowed by Code Section
2010(c). Transferor currently understands
her unused applicable exclusion amount to
be $907,820, so that the amount of this gift
should be $453,910; and
1.1.2 assigns to The Seattle Foundation
as a gift . . . the difference between the total
number of Units described in Recital C
above and the number of Units assigned to
the Trust in Section 1.1.1.
1.2 The Trust agrees that, if the value of the
Units it initially receives is finally determined for
federal gift tax purposes to exceed the amount
described in Section 1.1.1, Trustee will, on behalf of
the Trust and as a condition of the gift to it, transfer
the excess Units to The Seattle Foundation as soon
as practicable.
1.3 The Seattle Foundation agrees that, if the
value of the Units the Trust initially receives is
finally determined for federal gift tax purposes to be
less than the amount described in Section 1.1.1, The
Seattle Foundation will, as a condition of the gift to
it, transfer the excess Units to the Trust as soon as
practicable.
Page: 6 of 20
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 7 of 20
10195
Donna’s gift document substitutes Class D units for Class T
units and the Kitsap Community Foundation for the Seattle
Foundation, but is otherwise identical.
As regards the March 25 sales, there were also two sets of
sale documents: one for Donna’s trust, which named it and
the Seattle Foundation as transferees, and one for Terry’s
trust, which named it and the Seattle Foundation as transferees. The relevant sections of Terry’s sale document—Recital
C, the dollar formula clause (section 1.1), and the reallocation
clauses (sections 1.2 and 1.3)—provide:
C. Transferor wishes to assign 8,459 Class T
Membership Units in the Company (the “Units”)
including all of Transferor’s right, title and interest
in the economic, management and voting rights in
the Units by sale to the Trust and as a gift to The
Seattle Foundation.
....
1.1 Subject to the terms and conditions of this
Agreement, Transferor:
1.1.1 assigns and sells to the Trust the
number of Units described in Recital C
above that equals a value of $4,085,190 as
finally determined for federal gift tax purposes; and
1.1.2 assigns to The Seattle Foundation
as a gift . . . the difference between the total
number of Units described in Recital C
above and the number of Units assigned
and sold to the Trust in Section 1.1.1.
1.2 The Trust agrees that, if the value of the
Units it initially receives is finally determined to
Case: 10-71854
10196
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 8 of 20
ESTATE OF PETTER v. CIR
exceed $4,085,190, Trustee will, on behalf of the
Trust and as a condition of the sale to it, transfer the
excess Units to The Seattle Foundation as soon as
practicable.
1.3 The Seattle Foundation agrees that, if the
value of the Units the Trust initially receives is
finally determined to be less than $4,085,190, The
Seattle Foundation will, as a condition of the gift to
it, transfer the excess units to the Trust as soon as
practicable.
Donna’s sale document substitutes Class D units for Class T
units, but is otherwise identical.
Shortly after these documents were executed, LeMaster
requested that Moss Adams Advisory Services, a Seattle valuation firm, determine the fair market value of the membership
units as of the transfer dates. Moss Adams concluded that the
fair market value was $536.20 per unit. Based on this
appraisal, the Kitsap Community Foundation received 93.47
units, the Seattle Foundation received 1773.91 units, and
Terry’s and Donna’s trusts each received 8465.31 units.
The Taxpayer filed a Form 709 gift tax return for 2002,
which reported no gift tax liability as a result of the transfers.
The return listed gifts of $453,910 each to Donna’s trust and
Terry’s trust; gifts worth $50,128, $450,618, and $450,618 to
the Seattle Foundation; and a gift worth $50,128 to the Kitsap
Community Foundation. Along with her return, Anne
included a disclosure statement and supporting documents
detailing the nature of the gifts as transfers of LLC units subject to defined-value allocations and reallocations “if the
value of the . . . Units transferred was later finally determined
for federal gift tax purposes to differ from the estimated value
as determined by the Moss Adams appraisal.” The Taxpayer
further disclosed that “the value of the limited liability company [as reflected in the Moss Adams appraisal] is based on
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 9 of 20
10197
the fair market value of the underlying assets with a 46% nonmarketability discount and a 13.3% net asset value adjustment
applied.”
The IRS audited the return in 2005 and concluded that the
LLC units had been undervalued. Specifically, the IRS determined that the correct value was $794.39 per unit. From the
IRS’s perspective, this higher valuation had two significant
gift tax consequences. First, it meant that the Taxpayer had
underreported the value of the units transferred as gifts to the
trusts and, accordingly, that the Taxpayer’s gifts exceeded the
unused portion of her lifetime unified tax exemption. Second,
it meant that the shares sold to the trusts were sold for “less
than full and adequate consideration,” and thus were transferred partly by sale and partly by an additional $1,967,128
gift to each trust, computed by deducting the price of the
installment notes from the fair market value of the shares
transferred. Additionally, the IRS concluded that the dollar
formula clauses were void as against public policy and
refused to allow the Taxpayer to take an additional charitable
deduction for the value of the additional units that would pass
to the foundations following the upward valuation. As a result
of its audit, the IRS issued a notice of tax deficiency for
$2,115,797.
The Taxpayer petitioned the United States Tax Court for a
redetermination of the deficiency. Approximately two weeks
before trial, Anne and the IRS settled the valuation issue by
stipulating that the value of the LLC units was $744.74 per
unit at the time of the transfer. As a result of the stipulated
value and the reallocation clauses of the transfer agreements,
the Seattle Foundation and the Kitsap Community Foundation
must receive an additional 4503.82 units and 237.04 units,
respectively, from the trusts. After a trial, the tax court determined that the Taxpayer was entitled to a charitable deduction
based on the value of the additional LLC units the foundations
will receive. Specifically, the tax court held that the dollar formula clauses used to effect the additional transfers were not
Case: 10-71854
10198
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 10 of 20
ESTATE OF PETTER v. CIR
void as against public policy and that the foundations’ receipt
of additional units was not subject to a condition precedent.
Petter v. Comm’r, 98 T.C.M. (CCH) 534, 2009 WL 4598137,
at *16-17 (2009). The IRS has timely appealed from the tax
court’s decision to this court, though the IRS now argues only
that part of the gifts to the foundations were subject to a condition precedent—an IRS audit—in violation of Treasury
Regulation 25.2522(c)-3(b)(1).
II
We review the tax court’s findings of fact for clear error
and its conclusions of law de novo. Xilinx, Inc. v. Comm’r,
598 F.3d 1191, 1194 (9th Cir. 2010). Whether a gift is “dependent upon . . . a precedent event,” Treas. Reg.
§ 25.2522(c)-3(b)(1), is a question of law that we review de
novo.
III
[1] Although gifts are generally taxable, taxpayers may
deduct “the amount of all gifts made . . . to or for the use of”
a charitable organization from the total amount of taxable
gifts made during the relevant calendar year. I.R.C. § 2522(a).
However, no charitable deduction is allowed “[i]f, as of the
date of the gift, a transfer for charitable purposes is dependent
upon the performance of some act or of the happening of a
precedent event in order that [the transfer] might become
effective.” Treas. Reg. § 25.2522(c)-3(b)(1). Here, the IRS
argues that “[t]he adjustment feature of the defined-value
clauses—requiring the trusts to transfer additional LLC units
to the foundations, if the value of the units, as ‘finally determined for federal gift tax purposes,’ exceeds a defined value
—make the additional charitable gifts subject to the occurrence of a condition precedent”: an IRS audit that ultimately
determines that the reported value of the LLC units is too low.
Accordingly, the IRS claims that Treasury Regulation
§ 25.2522(c)-3(b)(1) disallows the additional charitable
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 11 of 20
10199
deduction at issue in this case—the charitable deduction the
Taxpayer claims as a result of the post-audit reallocation of
units between the foundations and the trusts.
[2] A condition precedent is one that must occur before a
transfer to a charity “become[s] effective.” Treas. Reg.
§ 25.2522(c)-3(b)(1); cf. Wien Consol. Airlines, Inc. v.
Comm’r, 528 F.2d 735, 737 n.4 (9th Cir. 1976) (stating that
a condition precedent is, in contract law, “one which ‘must
exist before a duty of immediate performance arises,’ ” or, in
property law, one that is “necessary for an estate to vest”)
(citations omitted). We do not think that the dollar formula
clauses in the Taxpayer’s transfer documents contain a condition precedent. Contrary to the IRS’s argument, the Taxpayer’s transfer documents do not make the additional transfers
of LLC units to the foundations dependent upon the occurrence of an IRS audit. Rather, the Taxpayer’s transfers
became effective immediately upon the execution of the transfer documents and delivery of the units.6 The only possible
open question was the value of the units transferred, not the
transfers themselves.
[3] The dollar formula clauses of the gift documents assign
to each of the two foundations the difference between 940
units and “the number of Units . . . that equals [$453,910].”
Thus, if X is the value of an LLC unit, these clauses assign
6
Although “[a] mere promise to make a gift is not enforceable” under
Washington law, a completed gift is. Oman v. Yates, 422 P.2d 489, 494
(Wash. 1967). “The essential elements of a [completed] gift are: (1) an
intention on the part of the donor to presently give; (2) a subject matter
capable of passing by delivery; and (3) an actual delivery at the time.”
Henderson v. Tagg, 412 P.2d 112, 115 (Wash. 1966). Here, these elements
are clearly met: Anne intended to make a gift, LLC units can pass by
delivery, and the units were delivered (most likely when the transfers were
recorded on the PFLLC’s books). See id. (stating that “[w]ith respect to
the requirement of delivery, the modern rule is far more flexible than the
traditional concept of manual delivery applied by early-day courts” and
“delivery may be either actual, constructive, or symbolical” (citation omitted)).
Case: 10-71854
10200
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 12 of 20
ESTATE OF PETTER v. CIR
to each foundation 940 - (453,910/X) units. Similarly, the two
dollar formula clauses of the sale documents assign to one
foundation—the Seattle Foundation—the difference between
8459 units and “the number of Units . . . that equals a value
of $4,085,190 as finally determined for federal gift tax purposes.” Thus, each clause assigns to the Seattle Foundation
8459 - (4,085,190/X) units. Under the terms of all dollar formula clauses, the foundations receive a set number of LLC
units; there are no contingencies that must be satisfied before
the transfers to the foundations become effective.
[4] The IRS, however, points out that the transfer agreements impose an obligation on the trusts to transfer excess
units to the foundations if the value of Units the trusts receive
by gift is finally determined for federal gift tax purposes to
exceed $453,910 or if the value of the Units the trusts receive
by sale is finally determined to exceed $4,085,190. In the
IRS’s view, these reallocation clauses—which were triggered
once the IRS determined and the Taxpayer agreed that the
LLC units had been undervalued—establish that “the gifts of
the additional units to the foundations were dependent upon
an IRS audit and a successful challenge of the value of the
units as too low” because “[o]nly then do the foundations
have a right to the additional units.” We disagree. Although
the reallocation clauses require the trusts to transfer excess
units to the foundations if it is later determined that the units
were undervalued, these clauses merely enforce the foundations’ rights to receive a pre-defined number of units: the difference between a specified number of units and the number
of units worth a specified dollar amount. And that particular
number of LLC units was the same when the units were first
appraised as when the IRS conducted its audit because the fair
market value of an LLC unit at a particular time never
changes. Thus, the IRS’s determination that the LLC units
had a greater fair market value than what the Moss Adams
appraisal said they had in no way grants the foundations rights
to receive additional units; rather, it merely ensures that the
foundations receive those units they were already entitled to
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 13 of 20
10201
receive. The number of LLC units the foundations were entitled to was capable of mathematical determination from the
outset, once the fair market value was known.
[5] Ultimately, the IRS argues that because the foundations
would not have received the additional units but for the IRS
audit, the additional transfer of units to the foundations was
dependent upon a condition precedent. Adopting the IRS’s
“but for” test would revolutionize the meaning of a condition
precedent. In one sense, the IRS is correct that but for its
audit, the foundations would not have obtained additional
LLC units, but that is because the IRS believed the estimated
value was not the true fair market value. Either of the trusts
or either of the foundations could also have challenged the
Moss Adams valuation of the LLC units, although it was
unlikely that they would have done so. But this practical reality does not mean that the foundations’ rights to additional
LLC units were contingent for their existence upon the IRS
audit. Treasury Regulation § 25.2522(c)-3(b)(1) asks whether
a transfer “is dependent upon . . . a precedent event in order
that it might become effective,” not whether a transfer is
dependent upon the occurrence of an event so that the transferred assets actually change hands. An analogy to a simple
contract illustrates this point. Consider a contract between A
and B, in which A agrees to pay B $1000 in exchange for B’s
services. If A enters into this contract knowing that he has no
intention to pay and if B then performs his side of the bargain,
B will receive the $1000 only if he sues A in court. But for
B’s lawsuit, B would not receive the money he deserves. But
B’s filing of the lawsuit—though an event that must occur for
B to be paid—is not a condition precedent to B’s receiving
the $1000. That is so because B’s entitlement to this sum is
in no way dependent upon the filing of a lawsuit; A’s duty to
perform arose when B performed under the contract.
Citing I.R.C. § 2001(f)(2), the IRS further argues that a
value as finally determined for gift tax purposes means the
value shown on a taxpayer’s return, unless the IRS conducts
Case: 10-71854
10202
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 14 of 20
ESTATE OF PETTER v. CIR
a timely audit and challenges that value. Because the Taxpayer used the term “as finally determined for federal gift tax
purposes,” the IRS claims that rather than transferring a particular number of units whose fair market value added up to
the dollar amounts specified in the transfer agreements, the
Taxpayer actually transferred a particular number of units
whose pre-defined value—$536.20 per unit, the value
reported on the Taxpayer’s gift tax return—added up to those
dollar amounts. “And at that value, the foundations had rights
to 1,773.91 and 93.47 units, and no more. The additional
4,503.82 and 237.04 units that the foundations subsequently
were to receive were the result of the audit and the parties’
agreement that the value of each unit was $744.74.”
[6] But the Taxpayer’s transfer agreements do not specify
the value of an individual LLC unit. The gift documents
assign to each of the two foundations the difference between
940 units and “the number of Units . . . that equals
[$453,910],” while the sale documents assign to one foundation the difference between 8459 units and “the number of
Units . . . that equals a value of $4,085,190 as finally determined for federal gift tax purposes.” Aside from the fact that
only the dollar formula clause of the sale documents uses the
phrase “as finally determined for federal gift tax purposes,” a
taxpayer who files a return cannot conjure up a value for federal gift tax purposes out of thin air; rather, she must use federal gift tax valuation principles. Under these principles, the
value of an asset “as finally determined for federal gift tax
purposes” is the fair market value of that asset. See Treas.
Reg. § 25.2512-1 (“[I]f a gift is made in property, its value . . .
is the price at which such property would change hands
between a willing buyer and a willing seller, neither being
under any compulsion to buy or to sell, and both having reasonable knowledge of relevant facts.”); cf. Succession of
McCord v. Comm’r, 461 F.3d 614, 627 n.34 (5th Cir. 2006)
(“There is no material difference between fair market value
determined under Federal gift tax valuation principles and fair
market value as finally determined for Federal gift tax pur-
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 15 of 20
10203
poses.” (citation and internal quotation marks omitted)). Thus,
the Taxpayer did not transfer to the foundations the number
of units equal to a defined dollar amount divided by $536.20;
rather, she transferred the number of units equal to the defined
dollar amount divided by the fair market value of a unit. The
Moss Adams appraisal confirms this point; it states, on the
first page, that its purpose “is to express an opinion of the fair
market value of the [units].”
[7] There are two additional problems with the government’s reliance on I.R.C. § 2001(f)(2). First, although this
section does state that “a value shall be treated as finally
determined for purposes of [the gift tax chapter] . . . if . . . the
value is shown on the return . . . and such value is not contested by the Secretary,” id. § 2001(f)(2)(A), this definition
applies “[f]or purposes of paragraph (1),” id. § 2001(f)(2).
Paragraph (1), in turn, addresses the valuation of gifts in a
particular circumstance: “if the time has expired . . . within
which a tax may be assessed under [the gift tax chapter].” Id.
§ 2001(f)(1). In such circumstance, it makes sense to treat the
value of a gift as the value reported on the taxpayer’s return
since, after all, the statute of limitations for assessing gift tax
has passed. But I.R.C. § 2001(f)(2) does not purport to specify
what is meant by a value “as finally determined for federal
gift tax purposes” where the IRS may still assess tax. Second,
I.R.C. § 2001(f)(2) also provides that “a value shall be treated
as finally determined for purposes of [the gift tax chapter] if
. . . the value is determined by a court.” This language is
broad enough to encompass the value of an LLC unit determined by a Washington court in an action by the foundations
challenging the Moss Adams valuation as too low. See Oman,
422 P.2d at 493-94 (holding that the donee may enforce a
completed gift). Accordingly, we reject the IRS’s assertion
that a value as finally determined for gift tax purposes is necessarily the value a taxpayer reports on her return.
[8] The result we reach—that Treasury Regulation
§ 25.2522(c)-3(b)(1) does not bar the charitable deduction at
Case: 10-71854
10204
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 16 of 20
ESTATE OF PETTER v. CIR
issue in this case—is consistent with the Eighth Circuit’s
decision in Estate of Christiansen v. Comm’r, 586 F.3d 1061
(8th Cir. 2009), which involved an estate tax regulation similar to § 25.2522(c)-3(b)(1). In Christiansen, the decedent’s
will left her estate to her only child and “provided that
twenty-five percent of any disclaimed amounts were to go to
a charitable foundation.” Id. at 1062. After the taxpayer’s
death, her daughter disclaimed her interest in the estate as to
all amounts over $6.35 million “as finally determined for federal estate tax purposes” and the estate filed a tax return that
indicated the estate had a particular value. Id. After the IRS
challenged “the amount reported as the estate’s overall value”
on the estate’s tax return, “[t]he parties eventually settled
regarding a substantially increased valuation for the estate.”
Id. This higher valuation “resulted in a corresponding increase
in the valuation of the contribution to the charitable foundation,” but the IRS “denied the estate an increased charitable
deduction.” Id. The IRS argued that “because the overall
value of the estate was not finally determined at the time of
[the decedent’s] death, but only after the Commissioner’s partially successful challenge, the transfer to the foundation was,
ultimately, ‘dependent upon the performance of some act or
the happening of a precedent event’ in violation of Treasury
Regulation § 20.2055-2(b)(1).” Id. Accordingly, the IRS
sought to limit the estate’s charitable deduction to the amount
originally claimed on the estate tax return.
[9] The Eighth Circuit held that Treasury Regulation
§ 20.2055-2(b)(1) “is clear and unambiguous and it does not
speak in terms of the existence or finality of an accounting
valuation at the date of death or disclaimer. Rather, it speaks
in terms of the existence of a transfer at the date of death.”
Id. Applying the regulation to the case at hand, the court then
stated that “all that remained uncertain following the disclaimer was the valuation of the estate, and therefore, the
value of the charitable donation.” Id. at 1063. But “[t]he foundation’s right to receive twenty-five percent of those amounts
in excess of $6.35 million was certain.” Id. Additionally, the
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 17 of 20
10205
court observed that the IRS “fails to distinguish between
events that occur post-death that change the actual value of an
asset or estate and events that occur post-death that are merely
part of the legal or accounting process of determining value
at the time of death.” Id. Although “the estate and the IRS
bickered about the value of the property being transferred,”
this bickering did not mean that “the transfer itself was contingent in the sense of dependent for its existence on a future
event.” Id. (citation omitted). The court adopted the tax
court’s view that “[r]esolution of a dispute about the fair market value of assets on the date [the decedent] died depends
only on a settlement or final adjudication of a dispute about
the past, not the happening of some event in the future.” Id.
(internal quotation marks omitted). We agree with the Eighth
Circuit’s reasoning and find that it is equally applicable to this
case.
The IRS offers three reasons to disregard Christiansen, but
none are persuasive. First, the IRS argues that I.R.C.
§ 2518(a)—which provides that a qualified disclaimer relates
back to the time of death by allowing the disclaimed amounts
to pass as though the initial transfer had never occurred—
ensured in Christiansen that “the disclaimed property passed
to the foundation at the time of the decedent’s death as
opposed to being subject to a post-mortem condition precedent.” As the IRS explains, “this ‘relation-back’ rationale is
inapplicable in the instant case, which does not involve a
qualified disclaimer.” However, it is clear from reading Christiansen that the court’s analysis focused on the word “transfer” in Treasury Regulation § 20.2055-2(b)(1), a regulation
that closely mirrors the one applicable in this case. Though
I.R.C. § 2518(a) buttressed the court’s reasoning, it did not
control the outcome. See Christiansen, 586 F.3d at 1062-63.
Second, the IRS argues that the Eighth Circuit “relied on language in Treas. Reg. § 20.2055-2(e)(2)(vi)(a), an estate tax
regulation that has no parallel in the gift tax regulations.” We
agree, but that regulation did not determine the outcome of
the case; Treasury Regulation § 20.2055-2(b)(1)’s language
Case: 10-71854
10206
08/04/2011
ID: 7843514
DktEntry: 29-1
Page: 18 of 20
ESTATE OF PETTER v. CIR
did. See Christiansen, 586 F.3d at 1062 (“[Treasury Regulation § 20.2055-2(b)(1)] is clear and unambiguous and it does
not speak in terms of the existence or finality of an accounting
valuation at the date of death or disclaimer. Rather, it speaks
in terms of the existence of a transfer at the date of death.”).
Third, the IRS argues that Christiansen was wrongly decided
because the court “overlooked the critical point that, but for
the increase in the value of the estate ‘as finally determined
for federal estate tax purposes,’ the foundation would not
have had the right to any property beyond what it initially
received.” This is the same argument the IRS presses here,
and we have already addressed it above.
[10] The IRS next argues that “[t]he application of Treas.
Reg. § 25.2522(c)-3(b)(1) [to this case] is confirmed by longstanding Supreme Court precedent that a charitable deduction
is allowable only with respect to amounts that charities are
assured of receiving.” But as Christiansen recognized, the
Supreme Court cases the IRS relies on do not “stand for the
proposition that deductions are to be disallowed if valuations
involve lengthy or disputed appraisal efforts or if the Commissioner’s actions in challenging a return result in determination of an adjusted value.” 586 F.3d at 1063. For example,
in Humes v. United States, 276 U.S. 487 (1928), the Court
disallowed a deduction for a gift a charity would have
received if the decedent’s niece died childless before the age
of 40. Id. 492-94. Similarly, in Comm’r v. Estate of Sternberger, 348 U.S. 187 (1955), the Court disallowed a deduction
where a bequest to charity was dependent upon the testator’s
daughter dying without descendants. Id. at 187-88, 199-200.
In both of these cases, the charities had only a future interest
in the donor’s gifts because the gifts were contingent upon
someone dying without begetting issue; in other words, a
future event—having children—could have defeated the gifts
to the charities. By contrast, the Taxpayer’s gifts in this case
were not contingent upon any future event; as discussed
above, the Taxpayer assigned to the trusts and the foundations, on the date the transfer agreements were executed, that
Case: 10-71854
08/04/2011
ID: 7843514
DktEntry: 29-1
ESTATE OF PETTER v. CIR
Page: 19 of 20
10207
number of LLC units whose fair market value added up to
certain defined values.
[11] Ultimately, the cases cited by the IRS stand for the
unremarkable proposition that “[w]here the amount of a
bequest to charity has not been determinable, the deduction
properly has been denied.” Estate of Sternberger, 348 U.S. at
199. But “[w]here the amount has been determinable, the
deduction has, with equal propriety, been allowed.” Id. Here,
the Taxpayer’s gifts to the foundations fall within the latter
category. The foundations received a particular number of
units: that number of units whose fair market value on the
date of the transfers added up to a defined dollar amount.
Because the fair market value of an LLC unit on a particular
date is a constant, the foundations received gifts of a determinable amount. Therefore, Supreme Court precedent does
not foreclose the Taxpayer’s entitlement to a charitable
deduction for the full value of her gifts.
Finally, the IRS argues that public policy supports the
application of Treasury Regulation § 25.2522(c)-3(b)(1).
Because, as we explained above, the regulation’s text clearly
does not preclude the charitable deduction at issue in this
case, public policy cannot save the IRS. Accordingly, we need
not address the government’s numerous public policy concerns.7
7
Before the tax court, the IRS made a separate, stand-alone public policy argument unrelated to Treasury Regulation § 25.2522(c)-3(b)(1). Relying on Comm’r v. Procter, 142 F.2d 824 (4th Cir. 1944), the IRS argued
that the Taxpayer was not entitled to a charitable deduction for the additional units the foundations will receive because the Taxpayer’s dollar formula clauses and reallocation clauses are void as against public policy.
Although the Taxpayer’s estate addresses this argument extensively in its
answering brief, the IRS has now abandoned it because the IRS explicitly
disclaims pursuing this argument on appeal. Accordingly, we do not
address whether the Taxpayer’s dollar formula clauses and reallocation
clauses are void as against public policy. See Wilcox v. Comm’r, 848 F.2d
1007, 1008 n.2 (9th Cir. 1988) (holding that arguments made before the
tax court but not pursued on appeal have been waived); McCord, 461 F.3d
at 623 (holding that the IRS waived its void-as-against-public-policy argument where it made this argument before the tax court but chose not to
pursue it on appeal).
Case: 10-71854
08/04/2011
10208
ID: 7843514
DktEntry: 29-1
Page: 20 of 20
ESTATE OF PETTER v. CIR
Cf. United States v. Tohono O’Odham Nation, 131 S. Ct.
1723, 1731 (2011) (“Even were some hardship to be shown,
considerations of policy divorced from the statute’s text and
purpose could not override its meaning.”).
*****
[12] Contrary to the IRS’s argument, the additional transfer of LLC units to the foundations was not subject to a condition precedent within the meaning of Treasury Regulation
§ 25.2522(c)-3(b)(1). Under the terms of the transfer documents, the foundations were always entitled to receive a predefined number of units, which the documents essentially
expressed as a mathematical formula. This formula had one
unknown: the value of a LLC unit at the time the transfer documents were executed. But though unknown, that value was
a constant, which means that both before and after the IRS
audit, the foundations were entitled to receive the same number of units. Absent the audit, the foundations may never have
received all the units they were entitled to, but that does not
mean that part of the Taxpayer’s transfer was dependent upon
an IRS audit. Rather, the audit merely ensured the foundations
would receive those units they were always entitled to
receive. Accordingly, we hold that Treasury Regulation
§ 25.2522(c)-3(b)(1) does not bar a charitable deduction equal
to the value of the additional units the foundations will
receive. “[W]e expressly invite[ ] the Treasury Department to
‘amend its regulations’ if troubled by the consequences of our
resolution of th[is] case.” Mayo Found. for Med. Educ. &
Research v. United States, 131 S. Ct. 704, 713 (2011) (quoting United Dominion Indus., Inc. v. United States, 532 U.S.
822, 838 (2001)).
AFFIRMED.
Disclaimer: Justia Dockets & Filings provides public litigation records from the federal appellate and district courts. These filings and docket sheets should not be considered findings of fact or liability, nor do they necessarily reflect the view of Justia.
Why Is My Information Online?