J.C. Shepherd v. Commissioner , 115 T.C. No. 30 ( 2000 )

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115 T.C. No. 30
UNITED STATES TAX COURT
J. C. SHEPHERD, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 2574-97. Filed October 26, 2000.
P transferred to a newly formed family partner-
ship, of which P is 50-percent owner and his two sons
are each 25-percent owners, (1) P’s fee interest in
timberland subject to a long-term timber lease and
(2) stocks in three banks.
Held: P’s transfers represent separate indirect
gifts to his sons of 25 percent undivided interests in
the leased timberland and stocks. Held, further, the
fair market value of petitioner’s gifts determined.
David D. Aughtry, James M. Kane, and Howard W. Neiswender,
for petitioner.
Robert W. West, for respondent.
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THORNTON, Judge: Respondent determined a $168,577
deficiency in petitioner’s Federal gift tax for calendar year
1991. The issues for decision are: (1) The characterization,
for gift tax purposes, of petitioner’s transfers of certain real
estate and stock into a family partnership of which petitioner is
50-percent owner and his two sons are each 25-percent owners;
(2) the fair market value of the transferred real estate
interests; and (3) the amount, if any, of discounts for
fractional or minority interests and lack of marketability that
should be recognized in valuing the transferred interests in the
real estate and stock.
Section references are to the Internal Revenue Code as in
effect on the date of the gifts. Rule references are to the Tax
Court Rules of Practice and Procedure.
FINDINGS OF FACT
The parties have stipulated some of the facts, which are so
found.
Petitioner is married to Mary Ruth Shepherd and has two
adult sons, John Phillip Shepherd (John) and William David
Shepherd (William). When he filed his petition, petitioner
resided in Berry, Alabama.
Petitioner’s Acquisition of Interests in Land and Bank Stock
Beginning in 1911, petitioner’s grandfather–-at first singly
and later with petitioner’s father--acquired a great deal of land
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in and around Fayette County, Alabama. In April 1949,
petitioner’s grandfather died and left petitioner, his only
grandchild, a 25-percent interest in all that he owned. Among
the grandfather’s possessions was an interest in more than 9,000
acres spread over numerous parcels in and around Fayette County,
Alabama (the land), and stock (the bank stock) in three
rural Alabama banks-–the Bank of Parish, the Bank of Berry, and
the Bank of Carbon Hill (the banks).
Prior to 1957, petitioner’s father gave petitioner an
additional 25-percent interest in the land, thereby increasing
petitioner’s ownership interest to 50 percent. As described in
more detail below, on January 3, 1957, petitioner and his father
leased the land to Hiwassee Land Co. (Hiwassee) under a 66-year
timber lease. On June 2, 1965, petitioner’s father died, leaving
all his property–-including his 50-percent interest in the land
and an undisclosed amount of stock in the banks--to petitioner’s
mother. Petitioner’s mother died shortly thereafter, devising to
petitioner her 50-percent interest in the land and the bank
stock. Petitioner then owned the entire interest in the land,
subject to Hiwassee’s leasehold interest. Petitioner also owned
more than 50 percent of the common stock of the banks, of which
he was then president.1
1
The record does not specify when petitioner first became
president of the banks.
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Long-Term Timber Lease of Family Land
As described above, by 1957 petitioner and his father each
owned a 50-percent interest in the family land. On January 3,
1957, petitioner and his father entered into a long-term timber
lease with Hiwassee, granting Hiwassee the right to cut and
remove timber on 9,091 acres (the leased land).2 The term of the
lease is for 66 years, expiring on January 1, 2023.
Hiwassee agreed to pay annual rent of $1.75 per acre,
payable for each calendar year by February 1 of that year. The
annual rent is to be adjusted each year by the same percentage as
the annual average of the Wholesale Price Index for all
commodities (now the Producer Price Index) (PPI) increases or
decreases relative to the Wholesale Price Index for 1955. The
annual rents are adjusted “only for increments of increase or
decrease equaling or exceeding five percent (5%) from the 1955
2
Bowater, Inc., is the successor in interest to the rights
of Hiwassee Land Co. (Hiwassee) under the lease on the subject
property. References to Hiwassee hereinafter also include
references to Bowater, Inc., as successor in interest.
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average or from the average resulting in the previous
adjustment.”3
Under the lease, the lessors retain all mineral rights on
the land but must obtain the lessee’s consent (“which shall not
be unreasonably withheld”) to develop the minerals.4
The lease allows the lessors to sell the leased land,
subject to Hiwassee’s right of first refusal; if Hiwassee elects
not to purchase, then the sale is to be made subject to the terms
of the lease.
3
Hiwassee paid rents under the lease as follows:
Year Amount Year Amount
1957 $16,199.25 1977 $31,475.61
1958 15,902.25 1978 34,907.40
1959 17,901.39 1979 37,613.40
1960 16,886.94 1980 42,188.43
1961 16,877.64 1981 48,125.39
1962 16,877.64 1982 52,299.54
1963 16,877.64 1983 52,299.54
1964 16,877.64 1984 52,299.54
1965 16,877.64 1985 55,344.37
1966 16,874.44 1986 55,344.37
1967 17,947.41 1987 55,344.37
1968 17,947.41 1988 55,344.37
1969 17,947.41 1989 55,344.37
1970 19,119.86 1990 59,911.63
1971 19,119.86 1991 59,911.63
1972 20,472.68 1992 59,911.63
1973 20,472.68 1993 59,911.63
1974 24,350.76 1994 63,493.79
1975 28,769.97 1995 62,858.88
1976 31,475.61
4
The lease states that “It is understood” that
approximately three-quarters of the mineral rights are held by
parties other than the lessors.
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The lease contains no requirement that Hiwassee reseed or
reforest the leased land at the expiration of the lease.
The Shepherd Clifford Trust
On or about December 22, 1980, petitioner and his wife
established the J. C. Shepherd “Clifford” Trust Agreement (the
trust), an inter vivos trust with a term of 10 years. Upon
creation of the trust, petitioner and his wife conveyed an
undivided 25-percent interest in the leased land to the trust.
On January 5, 1981, they conveyed a second 25-percent undivided
interest in the leased land to the trust.5
John and William were equal income beneficiaries of the
trust. During the term of the trust, they each received one-half
of the income from one-half of the Hiwassee lease (i.e., each
received 25-percent of the Hiwassee lease income).
On or about April 1, 1991, the trust terminated. The
trustee reconveyed the two previously transferred 25-percent
undivided interests in the leased land to petitioner and his
wife.
5
The deeds conveying the two 25-percent interests in the
land show that the land was conveyed by petitioner and his wife.
Petitioner’s wife, however, owned no record title or interest in
the property. Her only interests were spousal rights and
benefits created under Alabama State law. The parties have
stipulated that in Alabama real estate transactions, it is
customary for the owner’s spouse to sign all documents to
eliminate questions regarding retention of dower or other spousal
benefits or rights.
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The Shepherd Family Partnership
On August 1, 1991, petitioner executed the Shepherd Family
Partnership Agreement (the partnership agreement). On August 2,
1991, John and William executed it. The Shepherd Family
Partnership (the partnership) is a general partnership
established pursuant to Alabama State law. The partnership
agreement designates petitioner as the managing partner, with
power to “implement or cause to be implemented all decisions
approved by the Partners, and shall conduct or cause to be
conducted the ordinary and usual business and affairs of the
Partnership”. The partners’ interests in the partnership’s net
income and loss, capital, and partnership property are as
follows: Petitioner--50 percent; John–-25 percent; and William–-
25 percent. The partnership agreement provides that these
partnership interests will continue throughout the existence of
the partnership unless the partners mutually agree to change
their respective interests.
The partnership agreement provides that each partner shall
have three capital accounts–-a permanent capital account, an
operating capital account, and a drawing capital account. The
partnership agreement states that the initial permanent capital
account for each partner, as of August 1, 1991, is $10 for
petitioner and $5 each for William and John. In this same
section, captioned “INITIAL CAPITAL CONTRIBUTIONS”, the
partnership agreement also states: “Each Partner shall be
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entitled to make voluntary additional permanent capital
contributions. Each such contribution shall be allocated in the
Partnership Interests to the Partners’ permanent capital
accounts.”
In a section captioned “DEBITS/CREDITS”, the partnership
agreement provides that the permanent capital account of each
partner shall consist of each partner’s initial capital
contribution as described above increased by the “Partner’s
Partnership Interest in the adjusted basis for federal income tax
purposes of any additional permanent capital contribution of
property by a Partner (less any liabilities to which such
property is subject)”.
The partnership agreement provides that “Any Partner shall
have the right to receive a distribution of any part of his
Partnership permanent capital account in reduction thereof with
the prior consent of all the other Partners.”
The partnership agreement also provides that all property
acquired by the partnership shall be owned by the partners as
tenants in partnership in accordance with their partnership
interests, with no partner individually having any ownership
interest in the partnership property. Additionally, each partner
waives any right to require partition of any partnership
property.
Under the partnership agreement, any partner may withdraw
from the partnership at any time, upon written notice to the
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other partners. The partnership agreement states that the effect
of the withdrawal is to terminate the relationship of the
withdrawing partner as a partner and thereby eliminate the
withdrawing partner’s right to liquidate the partnership. The
withdrawing partner may transfer all or any part of his
partnership interest with or without consideration, but only
after providing the other partners the first option to purchase
his interest at fair market value, generally as determined by an
independent appraiser.
Upon dissolution of the partnership, proceeds from the
liquidation of partnership property, after satisfaction of
partnership debts, are to be applied to payment of credit
balances of the partners’ capital accounts.
Transfer of the Leased Land to the Partnership
On August 1, 1991–-one day before John and William had
executed the partnership agreement--petitioner and his wife
executed two deeds purporting to transfer the leased land to the
partnership.6 Each deed purported to transfer to the partnership
an undivided 50-percent interest in the leased land (for an
aggregate transfer of the entire interest in the leased land).
On August 30, 1991, the deeds conveying the leased land to the
partnership were recorded.
6
Again, as far as is revealed in the record, petitioner’s
wife owned no record title or interest in the leased land but
signed the deeds as a formality to eliminate any question as to
spousal benefits under Alabama law.
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Transfer of the Bank Stock to the Partnership
On September 9, 1991, petitioner transferred to the
partnership some of his stock in each of the three banks.7 The
parties have stipulated that the bank stock had a fair market
value at the time of transfer (prior to any consideration of any
partnership adjustment) as follows:
Stock No. of Shares Fair Market Value
Bank of Berry, AL 313 shares $186,633
Bank of Carbon Hill, AL 136 shares 279,140
Bank of Parrish, AL 262 shares 466,446
Total 932,219
Petitioner’s Gift Tax Return and Respondent’s Determination
Petitioner filed Form 709, United States Gift (and
Generation-Skipping Transfer) Tax Return, for calendar year 1991,
reporting gifts to John and William of interests in the leased
land and the bank stock. On the Form 709, petitioner valued the
leased land at $400,000. Petitioner listed the total appraised
value of the transferred bank stock as $932,219, less a 15-
percent minority discount, for a gift value of $792,386.
Petitioner reported a gift to John and William of $298,097 each
(25 percent of the total reported $400,000 value of the leased
land and $792,386 value of the transferred bank stock).
Petitioner reported no gift tax due on these transfers, the gift
7
Petitioner testified that he did not know what percentage
of his stock in the three banks he transferred to the partnership
in 1991 but that after the transfers he still owned a greater
than 50-percent interest in each bank.
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tax computed ($187,966) being more than offset by his claimed
maximum unified credit ($192,800).
In the notice of deficiency, respondent determined that the
fair market value of the 50-percent interest in the leased land
that petitioner gifted to his sons was $639,300 (implying a value
of $1,278,600 for petitioner’s entire interest in the leased
land). Respondent made no adjustment to the gift value of the
bank stock reported on the return. Respondent determined that
petitioner had a gift tax deficiency of $168,577.
OPINION
A. General Legal Principles
Section 2501 generally imposes an excise tax on the transfer
of property by gift during the taxable year. The gift tax is
imposed only upon a completed and irrevocable gift. See Burnet
v. Guggenheim, 288 U.S. 280 (1933). A gift is complete as to any
property when “the donor has so parted with dominion and control
as to leave in him no power to change its disposition, whether
for his own benefit or for the benefit of another”. Sec.
25.2511-2(b), Gift Tax Regs.
A gift of property is valued as of the date of the transfer.
See sec. 2512(a). If property is transferred for less than
adequate and full consideration, then the excess of the value of
the property transferred over the consideration received is
generally deemed a gift. See sec. 2512(b). The gift is measured
by the value of the property passing from the donor, rather than
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by the property received by the donee or upon the measure of
enrichment to the donee. See sec. 25.2511-2(a), Gift Tax Regs.
For gift tax purposes, the value of the transferred property
is generally the “price at which the 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.” United States v. Cartwright, 411
U.S. 546, 551 (1973); see sec. 25.2512-1, Gift Tax Regs.
The determination of property value for gift tax purposes is
an issue of fact, and all relevant factors must be considered.
See Anderson v. Commissioner, 250 F.2d 242, 249 (5th Cir. 1957),
affg. in part and remanding T.C. Memo. 1956-178; LeFrak v.
Commissioner, T.C. Memo. 1993-526.
B. The Parties’ Contentions
The parties disagree about the characterization, for gift
tax purposes, of petitioner’s transfers of the leased land and
bank stock. The parties also disagree about the fair market
value of the leased land at the time petitioner transferred it.
In addition, the parties disagree as to what valuation discounts
should apply to petitioner’s transfer of the leased land and bank
stock. The nub of the parties’ disagreement in this last regard
is whether petitioner’s transfers to the partnership should
reflect minority and marketability discounts attributable to the
sons’ minority-interest status in the partnership.
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In his petition, petitioner not only assigns error to
respondent’s determination in the statutory notice but also seeks
a partial restoration of his unified credit. Petitioner contends
that the gifts to his sons of interests in the leased land
represent two separate gifts of partnership interests and that
the gifts of bank stock represent two separate indirect gifts
bestowed through enhancements of the previously gifted
partnership interests. Viewed thus, petitioner contends, these
gifts should be valued giving effect to a 33.5-percent minority
and marketability discount applicable to each son’s 25-percent
partnership interest. The bottom line, petitioner argues, is
that the gifts of both the leased land and the bank stock, as
reported on his 1991 gift tax return, were overvalued.
Respondent does not dispute that the partnership exists or
that it is a legitimate partnership.8 Respondent also agrees
that if the gifts of land were to be valued giving effect to
minority and marketability discounts in recognition of the 25-
percent partnership shares, then the appropriate discount would
be 33.5 percent. Respondent contends, however, that this
discount rate is inapplicable, because the gifts should not be
measured by reference to the sons’ partnership interests. In
8
Moreover, respondent has not argued and we do not consider
the applicability of chapter 14 (secs. 2701-2704), relating to
special valuation rules that apply to, among other things,
transfers of certain interests in partnerships and certain
lapsing rights and restrictions.
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support of his position, respondent contends that petitioner did
not give his sons partnership interests but rather gave them
either: (1) Indirect gifts of real estate, accomplished by means
of a transfer to the partnership, or alternatively (2) direct
gifts of real estate, accomplished before the partnership ever
came into existence.
C. Characterization of the Transfers
The parties agree that the partnership came into existence
on August 2, 1991, when John and William executed the partnership
agreement, rather than on the previous day, when only petitioner
had executed it. The parties disagree, however, about the effect
of petitioner’s executing deeds on August 1, 1991, purporting to
transfer the leased land to the then-nonexistent partnership.
Respondent argues that on August 1, 1991, petitioner effectively
gave an undivided 50-percent interest in the leased land to his
sons, either directly or indirectly. Petitioner argues that the
gift was not completed until August 2, 1991. We look to
applicable State law, in this case Alabama law, to determine what
property rights are conveyed. See United States v. National Bank
of Commerce, 472 U.S. 719, 722 (1985) (“‘in the application of a
federal revenue act, state law controls in determining the nature
of the legal interest which the taxpayer had in the property’”
(quoting Aquilino v. United States, 363 U.S. 509, 513 (1960));
LeFrak v. Commissioner, supra.
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We agree with petitioner that any gift to his sons was not
completed before August 2, 1991.9 On August 1, 1991, there was
no completed gift, because there was no donee, and petitioner had
not parted with dominion and control over the property.
Petitioner could not make a gift to himself. See Kincaid v.
United States, 682 F.2d 1220, 1224 (5th Cir. 1982).
We disagree with petitioner’s contention, however, that his
gifts to his sons of interests in the leased land represented
gifts of minority partnership interests because, as just
discussed, the creation of the partnership (and therefore the
creation of the sons’ partnership interests) preceded the
completion of petitioner’s gift to the partnership. To adopt
petitioner’s contention would require us to recognize the
existence, however fleeting, of a one-person partnership,
contrary to Alabama law, which defines a partnership as “An
association of two or more persons to carry on as co-owners a
9
The Alabama Recording Act, Ala. Code sec. 35-4-90(a)
(1991), generally provides that the conveyance of land is void as
to the grantee unless the deed transferring the land is recorded.
Here, the deeds conveying the land to the partnership were not
recorded until Aug. 30, 1991. Neither party has raised, and we
do not reach, the issue of whether petitioner’s gifts were not
completed until the date of recordation. Cf. Estate of Whitt v.
Commissioner, 751 F.2d 1548, 1561 (11th Cir. 1985) (facts
indicated that gifts were not intended to be completed until the
recordation of the deeds of conveyance), affg. T.C. Memo. 1983-
262. It is of little consequence to our analysis, however,
whether petitioner’s gifts of interests in the leased land were
completed on Aug. 2 or Aug. 30, 1991.
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business for profit.” Ala. Code sec. 10-8-2 (1994); see LeFrak
v. Commissioner, supra.
Nor do we agree with petitioner’s contention that his
transfers should be characterized as enhancements of his sons’
existent partnership interests. The gift tax is imposed on the
transfer of property. See sec. 2501. Here the property that
petitioner possessed and transferred was his interests in the
leased land and bank stock. How petitioner’s transfers of the
leased land and bank stock may have enhanced the sons’
partnership interests is immaterial, for the gift tax is imposed
on the value of what the donor transfers, not what the donee
receives. See Robinette v. Helvering, 318 U.S. 184, 186 (1943)
(the gift tax is “measured by the value of the property passing
from the donor”); Stinson Estate v. United States, 214 F.3d 846,
849 (7th Cir. 2000); Citizens Bank & Trust Co. v. Commissioner,
839 F.2d 1249 (7th Cir. 1988) (for gift and estate tax purposes,
value of stock transferred to trusts was determined without
regard to terms or existence of trust); Goodman v. Commissioner,
156 F.2d 218, 219 (2d Cir. 1946), affg. 4 T.C. 191 (1944); Ward
v. Commissioner, 87 T.C. 78, 100-101 (1986); LeFrak v.
Commissioner, supra; sec. 25.2511-2(a), Gift Tax Regs.; cf.
Estate of Bright v. United States, 658 F.2d 999, 1001 (5th Cir.
1981) (for estate tax purposes, “the property to be valued is the
property which is actually transferred, as contrasted with the
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interest held by the decedent before death or the interest held
by the legatee after death”).
1. Petitioner’s Constitutional Challenge
Petitioner argues that the gift tax must be measured not by
reference to the value of the property in the hands of the donor
but “by the value of the property in gratuitous transit.”
Otherwise, petitioner argues, the gift tax would be a direct tax
on the transferred property, in contravention of the
constitutional restraint on the imposition of direct taxes (the
Direct Tax Clause). See U.S. Const. art. I, sec. 9, cl. 4 (“No
capitation, or other direct, Tax shall be laid, unless in
Proportion to the Census or Enumeration herein before directed to
be taken.”).
Petitioner’s argument is without merit. In upholding the
Federal gift tax against a challenge based on the Direct Tax
Clause, the Supreme Court stated in Bromley v. McCaughn, 280 U.S.
124, 136-138 (1929):
While taxes levied upon or collected from persons
because of their general ownership of property may be
taken to be direct, * * * this Court has consistently
held, almost from the foundation of the government,
that a tax imposed upon a particular use of property or
the exercise of a single power over property incidental
to ownership, is an excise which need not be
apportioned, and it is enough for present purposes that
this tax is of the latter class * * *
* * * * * * *
It is said that since property is the sum of all
the rights and powers incident to ownership, if an
unapportioned tax on the exercise of any of them is
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upheld, the distinction between direct and other
classes of taxes may be wiped out, since the property
itself may likewise be taxed by resort to the expedient
of levying numerous taxes upon its uses; that one of
the uses of property is to keep it, and that a tax upon
the possession or keeping of property is no different
from a tax on the property itself. Even if we assume
that a tax levied upon all the uses to which property
may be put * * * would be in effect a tax upon
property, * * * and hence a direct tax requiring
apportionment, that is not the case before us.
* * * * * * *
* * * [The gift tax] falls so far short of taxing
generally the uses of property that it cannot be
likened to the taxes on property itself which have been
recognized as direct. It falls, rather, into that
category of imposts or excises which, since they apply
only to a limited exercise of property rights, have
been deemed to be indirect and so valid although not
apportioned.
In short, the gift tax is not a direct tax because it is not
levied on the “general ownership” of property but rather applies
only to “a limited exercise of property rights”; i.e., the
exercise of the “power to give the property owned to another.”
Id. at 136. Here, petitioner’s dispute is not with the fact that
he made a donative transfer that is properly the subject of the
Federal gift tax, but rather with the characterization of the
property for purposes of measuring its value–-a consideration
that is irrelevant for purposes of determining the
constitutionality of the tax.10
10
Indeed, in a closely analogous context, the Supreme Court
has held that the constitutionality of the Federal estate tax
does not depend upon there even being a transfer of the property
at death. See Fernandez v. Wiener, 326 U.S. 340, 355 (1945);
(continued...)
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2. Did Petitioner Make Direct Gifts to His Sons?
Petitioner deeded the leased land and bank stock to the
partnership. Whatever interests his sons acquired in this
property they obtained by virtue of their status as partners in
the partnership. Clearly, then, contrary to one of respondent’s
alternative arguments, petitioner did not make direct gifts of
these properties to his sons. Cf. LeFrak v. Commissioner, supra
(transfer by donor-father of buildings to himself and his
children as tenants in common, “d.b.a.” (doing business as) one
of various partnerships formed later the same day to hold the
particular building conveyed, represented direct gifts to the
children of the father’s interest in the buildings).
3. Did Petitioner Make Indirect Gifts to His Sons?
A gift may be direct or indirect. See sec. 25.2511-1(a),
Gift Tax Regs. The regulations provide the following example of
a transfer that results in an indirect taxable gift, assuming
that the transfer is not made for adequate and full
consideration: “A transfer of property by B to a corporation
generally represents gifts by B to the other individual
shareholders of the corporation to the extent of their
10
(...continued)
Bittker & Lokken, Federal Taxation of Income, Estates and Gifts,
par. 120.1.3, at 120-6 (2d ed. 1993) (the transfer of property at
death is “a sufficient condition–-but not a necessary one–-for a
constitutional tax. By holding that a tax on a transfer at death
is not a direct tax, the Court did not imply that a tax on
something other than a transfer at death is a direct tax”).
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proportionate interests in the corporation.” Sec. 25.2511-
1(h)(1), Gift Tax Regs.
Application of this general rule is well established in case
law. For instance, in Kincaid v. United States, 682 F.2d at
1225, the taxpayer transferred her ranch to a newly formed
corporation in which she and her two sons owned all the voting
stock. In exchange for the ranch, the taxpayer received
additional shares of the corporation’s stock. The stock was
determined to be less valuable than the ranch. The court
concluded that the difference between what she gave and what she
got represented a gift to the shareholders. Noting that the
taxpayer could not make a gift to herself, the court held that
she made a gift to each of her sons of one-third of the total
gift amount. See also Heringer v. Commissioner, 235 F.2d 149,
151 (9th Cir. 1956) (transfers of farm lands to a family
corporation of which donors were 40-percent owners represented
gifts to other shareholders of 60 percent of the fair market
value of the farm lands), modifying and remanding 21 T.C. 607
(1954); CTUW Georgia Ketteman Hollingsworth v. Commissioner, 86
T.C. 91 (1986) (mother’s transfer to closely held corporation of
property in exchange for note of lesser value represented gifts
to the other five shareholders of five-sixths the difference in
values of the property transferred and the note the mother
received); Estate of Hitchon v. Commissioner, 45 T.C. 96 (1965)
(father’s transfer of stock to a family corporation for no
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consideration constituted gift by father of one-quarter interest
to each of three shareholder-sons); Estate of Bosca v.
Commissioner, T.C. Memo. 1998-251 (father’s transfer to a family
corporation of voting common stock in exchange for nonvoting
common stock represented gifts to each of his two shareholder-
sons of 50 percent of the difference in the values of the stock
the father transferred and of the stock he received); cf. Chanin
v. United States, 183 Ct. Cl. 745, 393 F.2d 972 (1968) (two
brothers’ transfers of stock in their wholly owned corporation to
the subsidiary of another family corporation constituted gifts to
the other shareholders of the family corporation, reduced by the
portion attributable to the brothers’ own ownership interests in
the family corporation).
Likewise, a transfer to a partnership for less than full and
adequate consideration may represent an indirect gift to the
other partners. See Gross v. Commissioner, 7 T.C. 837 (1946)
(taxpayer’s and spouse’s transfer of business assets into a newly
formed partnership among themselves, their daughter, and son-in-
law resulted in taxable gifts to the daughter and son-in-law).
Obviously, not every capital contribution to a partnership
results in a gift to the other partners, particularly where the
contributing partner’s capital account is increased by the amount
of his contribution, thus entitling him to recoup the same amount
upon liquidation of the partnership. In the instant case,
however, petitioner’s contributions of the leased land and bank
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stock were allocated to his and his sons’ capital accounts
according to their respective partnership shares. Under the
partnership agreement, each son was entitled to receive
distribution of any part of his capital account with prior
consent of the other partners (i.e., his father and brother), and
was entitled to sell his partnership interest after granting his
father and brother the first option to purchase his interest at
fair market value. Upon dissolution of the partnership, each son
was entitled to receive payment of the balance in his capital
account.
In these circumstances, we conclude and hold that
petitioner’s transfers to the partnership represent indirect
gifts to each of his sons, John and William, of undivided 25-
percent interests in the leased land and in the bank stock.11 In
reaching this conclusion, we have effectively aggregated
petitioner’s two separate, same-day transfers to the partnership
of undivided 50-percent interests in the leased land to reflect
11
We do not suggest, and respondent has not argued, that
such an analysis necessarily entails disregarding the
partnership. Similarly, in Kincaid v. United States, 682 F.2d
1220 (5th Cir. 1982), and in the other cases cited supra treating
gifts to corporations as indirect gifts to the other
shareholders, the courts did not necessarily disregard the donee
corporations. In either case, characterizing the subject gift as
comprising proportional indirect gifts to the other partners or
shareholders, as the case may be, rather than as a single gift to
the entity of which the donor is part owner, reflects the
exigency that the donor cannot make a gift to himself or herself.
See id. at 1224 (“Mrs. Kincaid cannot, of course, make a gift to
herself”).
- 23 -
the economic substance of petitioner’s conveyance to the
partnership of his entire interest in the leased land. We have
not, however, aggregated the separate, indirect gifts to his
sons, John and William. See Estate of Bosca v. Commissioner,
T.C. Memo. 1998-251 (for purposes of the gift tax, each separate
gift must be valued separately), and cases cited therein; cf.
Estate of Bright v. United States, 658 F.2d 999 (5th Cir. 1981)
(rejecting family attribution in valuing stock for estate tax
purposes).
D. Valuation of the Leased Land
The parties rely on expert testimony to value petitioner’s
interest in the leased land at the time he transferred it to the
partnership. We evaluate expert opinions in light of all the
evidence in the record and may accept or reject the expert
testimony, in whole or in part, according to our own judgment.
See Helvering v. National Grocery Co., 304 U.S. 282, 295 (1938);
Estate of Mellinger v. Commissioner, 112 T.C. 26, 39 (1999).
“The persuasiveness of an expert’s opinion depends largely upon
the disclosed facts on which it is based.” Estate of Davis v.
Commissioner, 110 T.C. 530, 538 (1998). We may be selective in
our use of any part of an expert’s opinion. See id.
Petitioner presented testimony of three expert witnesses:
Mr. Norman W. Lipscomb (Lipscomb), Mr. Gene Dilmore (Dilmore),
and Mr. Harry L. Haney, Jr. (Haney).
- 24 -
Lipscomb valued petitioner’s 100-percent interest in the
leased land under both a sales comparison approach12 and an
income capitalization approach,13 and then reconciled the two
results. Under his sales comparison approach, Lipscomb valued
the leased land at $958,473. In arriving at this value, Lipscomb
determined an indicated value of the leased land on the basis of
each of four comparable sales, then discounted each indicated
value by 45 percent on the theory that buyers would demand a
significant discount for property encumbered by a lease for 32
years. Under his income capitalization approach, Lipscomb valued
the leased land at $795,364. Treating the values determined
under the sales comparison approach and the income capitalization
approach as establishing upper and lower boundaries,
respectively, of a range of possible values, and weighing the
income capitalization approach most heavily, Lipscomb determined
that the value of a 100-percent interest in the leased land, as
of the date of the gifts, was $850,000. Lipscomb then determined
that a 50-percent undivided interest should be subject to a 27-
percent discount for a fractional ownership interest, as
determined by a range of adjustments suggested by his analysis of
12
Under a sales comparison approach, property is valued by
identifying sales of comparable properties and making appropriate
adjustments to the sales prices.
13
Under an income capitalization approach, income-producing
property is valued by estimating the present value of anticipated
future economic benefits; i.e., cash flows and reversions.
- 25 -
what he deemed to be three comparable sales of fractional real
estate interests. The net result was that Lipscomb valued a 50-
percent undivided interest in the leased land as of March 31,
1991, at $310,250.
Dilmore used an income capitalization approach to arrive at
a $210,000 value for an undivided one-half fee interest in the
leased land as of March 31, 1991, after applying a 15-percent
discount for an undivided interest in the property.
Haney’s report is limited to identifying various factors
that could negatively affect the value of the reversionary
interest in the leased land at the expiration of the long-term
timber lease on January 1, 2023 (the reversion); he provided no
specific dollar estimate of the reversion’s value.
Respondent’s expert, Mr. Richard A. Maloy (Maloy), also used
an income capitalization approach, valuing petitioner’s entire
fee interest in the leased land, as of March 31, 1991, at
$1,547,000, calculated as the present value of the income stream
(contract rents) plus the present value of the reversion.
Maloy’s determination of present value reflects no discounts for
fractional interests or limited marketability.
On brief, petitioner argues that the proper and most
realistic way to value land subject to a long-term timber lease
is to use an income capitalization methodology such as was
employed in Saunders v. United States, 48 AFTR 2d 81-6279, 81-2
USTC par. 13,419 (M.D. Ga. 1981). Accordingly, the parties are
- 26 -
in substantial agreement that the leased land should be valued as
of the time the subject gift was made as the sum of: (a) The
present value of the projected annual rental income from the
lease, plus (b) the present value of the reversion. The parties
disagree, however, about numerous assumptions made by the experts
at each step of the valuation methodology. We address these
disagreements below.
1. Present Value of Projected Lease Rents
The value of the lease income stream may be estimated by
determining the rental payments petitioner was receiving at the
time of the gifts, then projecting those rents into the future
based upon an anticipated growth rate, and finally discounting
the future rents payments to a 1991 present value using an
appropriate discount rate. See Saunders v. United States, supra;
see also Estate of Barge v. Commissioner, T.C. Memo. 1997-188
(using an income capitalization approach to value gift of 25-
percent undivided interest in timberland); cf. Estate of Proctor
v. Commissioner, T.C. Memo. 1994-208. We estimate the present
value of the projected income stream from the lease based upon
events, expectations, and market conditions as they existed at
the time of the gifts in August 1991.
a. Projected Annual Income From the Lease
It is undisputed that when petitioner made the gifts, the
remaining term of the lease was approximately 32 years. The
parties have also stipulated the actual rental amounts received
- 27 -
by petitioner from 1957 through 1995. The parties disagree,
however, about the anticipated growth rate of the annual rent
payments over the remaining life of the lease.
Under the lease, rents are adjusted to reflect changes
relative to the average 1955 Wholesale Price Index but only after
there has been a cumulative adjustment of at least 5 percent from
the last change. In projecting future rents, Maloy, Lipscomb,
and Dilmore each rely on historical changes in the PPI. Maloy
and Lipscomb agree that historical changes in the PPI averaged
1.87 percent for the 10 years before 1991.14 Maloy ends his
analysis there, projecting rental increases of 5.6 percent (1.87
times 3) every 3 years for the duration of the lease.
Lipscomb and Dilmore also take into account historical data
showing that the rate of actual rent increases has lagged behind
the rate of changes in the PPI, ostensibly as a result of
inconstant annual rates of increase in the PPI in combination
with the requirement that rents adjust only after there has been
a 5-percent cumulative change in the average price index. On the
basis of this analysis, Lipscomb projects lease rent increases
of 5.2 percent every 3 years, and Dilmore estimates an average
long-term growth rate of approximately 1.5 percent per year.
14
Mr. Gene Dilmore (Dilmore) determined that increases in
the Producer Price Index (PPI) averaged 1.41 percent over the 10
years prior to petitioner’s gifts.
- 28 -
Because rent increases under the lease historically have
lagged behind increases in the PPI, and in light of the
uncertainty about the magnitude and direction of changes in PPI
annual averages over a period as long as the 32 years remaining
on the lease term at the time of petitioner’s gifts, we conclude
that it is appropriate to take into account historical patterns
of actual rents under the lease. On the basis of our review of
all the expert reports and testimony, we conclude that Lipscomb’s
projection of a 5.2-percent rent increase every 3 years for the
duration of the lease is fair and reasonable.
b. Present Value of Projected Rental Payments
In determining the 1991 present value of the projected
rental payments, a critical factor is the discount rate applied
to the projected lease income stream.
Lipscomb selected a discount rate of 8 percent, as
representing “what a typical investor would have expected for
investments of this type of land.” His report indicates that
although the investment was “low-risk”, a higher discount rate
was warranted owing to the limited marketability of the
investment. Lipscomb applied the 8-percent discount rate to the
after-tax lease income stream (assuming a 35-percent tax rate).
Dilmore selected a discount rate of 13.5 percent, consisting
of a 12.5-percent “basic discount rate” and an additional 1
percent to reflect the lack of a reforestation clause in the
lease. Dilmore’s report states that he selected the 12.5-percent
- 29 -
basic rate as being 3.5 percent over the prime lending rate of 9
percent and approximately 1.5 times the 30-year bond rate. His
report indicates that this basic discount rate is consistent with
the somewhat lower yields on a land lease at a Birmingham
shopping center and with a national survey of 1991 real estate
yields for all real estate types. His report states that a
higher discount is appropriate for the leased land than for these
other real estate comparables because the lease income “is
dependent upon the stability or lack thereof in the timber
business.” His report indicates that an additional 1-percent
discount should be added to his 12.5-percent basic rate to
reflect the absence of any lease term requiring the lessee to
reseed or reforest the land upon termination of the lease.
Dilmore applied the 13.5-percent discount rate to the pretax
lease income stream.
Maloy selected a discount rate of 8 percent on the basis of
interviews with Federal Land Bank appraisers and forestry
economics professors. Unlike Lipscomb, but like Dilmore, Maloy
applied his selected discount rate to the pretax lease income
stream.
i. Pretax Versus After-Tax Present Value
Analysis
Respondent argues that Lipscomb’s use of an after-tax
analysis is inappropriate for determining fair market value.
Respondent argues that an after-tax analysis is “used only to
- 30 -
determine the internal rate of return of a particular investor.”
Respondent cites Estate of Proctor v. Commissioner, T.C. Memo.
1994-208, for the proposition that “investment” analysis does not
equate to fair market value analysis.
In Estate of Proctor, we held that in determining the fair
market value of a ranch subject to a lifetime lease option, a
“conventional lease analysis method” was preferable to an
“investment differential method”,15 because the latter method
“attempts to measure ‘investment value’ rather than market value.
Investment value is more subjective because it is predicated on
the investment preferences of the individual investor.” Id. We
did not hold, however, as a matter of law that income
capitalization under the conventional lease analysis method must
be done on a pretax basis, or that particular factors that are
relevant for investment purposes are irrelevant in determining
fair market value. Rather, we determined the applicable discount
rate based on our conclusion that it was “a better reflection of
risks associated with investing in ranch property, and is a more
accurate estimate of the rate of return investors expect to earn
when investing in ranch property.” Id.
15
We defined the “investment differential method” as a
“method of valuation frequently used by appraisers to compare one
potential investment to the whole spectrum of other investment
opportunities available to a client.” Estate of Proctor v.
Commissioner, T.C. Memo. 1994-208.
- 31 -
There is no fixed formula for applying the factors that are
considered in determining fair market value of an asset. See
Estate of Davis v. Commissioner, 110 T.C. 536 (in determining
the fair market value of minority blocks of stock in a
corporation, it was appropriate to take into consideration built-
in capital gains tax on the stock). The weight given to each
factor depends upon the facts of each case. See id. at 536-537.
Here, the relevant inquiry is whether a hypothetical willing
seller and a hypothetical willing buyer, as of the date of
petitioner’s gifts, would have agreed to a price for the lease
income stream that took no account of tax consequences. See id.
at 550-554; see also Eisenberg v. Commissioner, 155 F.3d 50
(2d Cir. 1998); Estate of Borgatello v. Commissioner, T.C. Memo.
2000-264; Estate of Jameson v. Commissioner, T.C. Memo. 1999-43.
A treatise relied upon by both parties states:
Present value can be calculated with or without
considering the impact of * * * income taxes as long as
the specific rights being appraised are clearly
identified. The techniques and procedures selected are
determined by the purpose of the analysis, the
availability of data, and the market practices.
[Appraisal Institute, The Appraisal of Real Estate 462
(11th ed. 1996).16]
16
In his rebuttal report, Maloy cites the above-cited
treatise for the different proposition that present value
analysis is properly applied using before-tax income streams.
Maloy has provided no page reference for his interpretation of
the treatise, and we conclude that his reliance on the treatise
is in error.
- 32 -
Lipscomb testified convincingly that in his experience it
was customary practice in the timber industry to apply an after-
tax analysis.17 In his rebuttal report, Maloy includes as an
appendix portions of a treatise (Bullard, Basic Concepts in
Forest Valuation and Investment Analysis, sec. 6.2 (1998)) that
describe the use of an after-tax analysis for forestry
investments, whereby one converts all costs and revenues to an
after-tax basis and calculates all present values using an after-
tax discount rate. Accordingly, authorities relied upon by
respondent’s own expert appear to acknowledge that an after-tax
analysis, consistently utilizing after-tax income and after-tax
discount rates, may be appropriate.18
It is true, as Maloy indicates in his rebuttal report, that
an after-tax analysis requires an assumption as to whether the
hypothetical buyer is taxable and at what rate. It appears,
however, that in selecting his discount rate, Maloy himself has
17
Dilmore testified that in this case he had used a before-
tax analysis to determine the present value of the lease income
stream, but “you could do it either way.”
18
In his rebuttal report filed before trial, Maloy contends
that Lipscomb inconsistently used an 8-percent pretax discount
rate against after-tax income. Although Lipscomb’s expert report
is not explicit in this regard, it is clear from Lipscomb’s
testimony that his income capitalization method was an after-tax
method, entailing use of an after-tax discount rate.
- 33 -
assumed that the hypothetical buyer is taxable at rates
consistent with those used in Lipscomb’s after-tax analysis.19
Accordingly, we reject respondent’s suggestion that in
determining the present value of a projected income stream for
gift tax purposes, the determination must as a matter of law be
made on a pretax basis.
Given Lipscomb’s assumed 35-percent tax rate, his 8-percent
after-tax discount rate may be converted to a pretax discount
rate of approximately 12.3 percent (8 divided by (1.0-.35)),
which is very close to the 12.5-percent pretax “basic rate”
selected by Dilmore for use in his pretax analysis. In the
instant circumstances, the critical question, we believe, is not
whether to use a pretax or after-tax analysis, but whether it is
more appropriate to apply the pretax discount rate selected by
Maloy (8 percent), or by Dilmore (13.5 percent), or the
equivalent pretax discount rate selected by Lipscomb (12.3
percent).
19
Maloy’s report indicates that, on the basis of his
research, yield rates associated with investments like the
subject lease range from 6 to 8 percent, with the lower yields
more likely associated with investors who are tax-exempt. Maloy
selects an 8-percent rate associated with taxable investors.
Moreover, an 8-percent rate is approximately 33 percent higher
than the 6-percent rate that he associates with tax-exempt
investors, implying a 33-percent tax rate, which coincides
roughly with the 35-percent tax rate that Lipscomb assumes in his
analysis.
- 34 -
ii. Nominal Versus Real Discount Rates
The lease terms adjust the annual rent payments for
inflation. The parties disagree over whether, in light of this
inflation-adjustment feature, it is appropriate to use a “real”
discount rate (i.e., a discount rate that eliminates the effects
of inflation) or a higher “nominal” discount rate (i.e., the real
rate plus the inflation rate). Maloy’s expert report states that
the appropriate discount rate to apply here is a real rate. On
brief, respondent argues that the discount rates used by
petitioner’s experts are too high because they are nominal rates.
Petitioner and his experts counter that in the instant
circumstances only nominal discount rates and not real rates are
appropriate.
The differences between the parties appear rooted at least
partly in semantics. Acknowledging that these matters are not
self-evident to those unbaptized in the murky waters of actuarial
science, we agree with petitioner and his experts, whose views
align with the aforementioned learned treatise, Appraisal
Institute, supra at 460-461, relied upon for different purposes
by both parties, which states as follows:
Because lease terms often allow for inflation with
* * * adjustments based on the Consumer Price Index
(CPI), it is convenient and customary to project income
and expenses in dollars as they are expected to occur,
and not to convert the amounts into constant dollars.
Unadjusted discount rates, rather than real rates of
return, are used so that these rates can be compared
with other rates quoted in the open market–-e.g.,
mortgage interest rates and bond yield rates. * * *
- 35 -
* * * * * * *
Projecting the income from real estate in nominal
terms allows an analyst to consider whether or not the
income potential of the property and the resale price
will increase with inflation. The appraiser must be
consistent and not discount inflated dollars at real,
uninflated rates. When inflated nominal dollars are
projected, the discount rate must also be a nominal
discount rate that reflects the anticipated inflation.
[Emphasis added.]
We conclude that Maloy’s 8-percent discount rate is
understated as a result of his inappropriate use of a real
discount rate rather than a higher nominal discount rate.
iii. Adjustment of Discount Rate for Lack of
Marketability
It also appears that the differences between respondent’s
and petitioner’s experts are partly attributable to the fact that
they are valuing different things. Maloy’s report states that he
has determined the market value of petitioner’s leased fee
interest. Dilmore and Lipscomb, on the other hand, have each
valued an undivided one-half interest in the leased fee interest.
Lipscomb, like Maloy but unlike Dilmore, acknowledges that the
leased land is a “low-risk” investment, which would suggest a
relatively low discount rate. Lipscomb’s recommended discount
rate reflects an upward adjustment to reflect the limited
marketability of an undivided one-half interest.
As previously discussed, we have determined that
petitioner’s transfer of the leased land to the partnership
should be characterized as two separate undivided 25-percent
- 36 -
interests in the leased land. We agree with Lipscomb that an
undivided fractional interest in the leased land will make it a
less favorable investment than the entire interest, by making it
less marketable and more illiquid, and that these factors may be
appropriately considered in selecting the discount rate.20 See
Saunders v. United States, 48 AFTR 2d 81-6279, 81-2 USTC par.
13,419 (M.D. Ga. 1981). Accordingly, we conclude that Lipscomb’s
selected discount rate is fair and reasonable. Our conclusion is
bolstered by the fact that, when converted to a pretax rate,
Lipscomb’s discount rate nearly coincides with the “basic rate”
determined by Dilmore using a different methodology based on
comparisons with various other types of investments.21
20
Alternatively, where the value of the transferred
property is to be determined with adjustments for lack of
marketability, it could be appropriate in some circumstances to
value the donor’s entire interest in the transferred property
employing a discount rate that reflects no adjustment for lack of
marketability, and then to adjust the value so determined for
lack of marketability with appropriate valuation discounts. As
discussed infra, however, it is inappropriate to make redundant
adjustments to both the discount rate and the valuation discount.
See Bittker & Lokken, Federal Taxation of Income, Estates, and
Gifts, par. 135.3.2, at 135-30 (2d ed. 1993) (“When property is
valued by capitalizing its anticipated net earnings, no
marketability discount is needed if the capitalization factor
reflects not only the earnings in isolation, but also the fact
that the investor may find it difficult to liquidate the
investment.”).
21
We reject Dilmore’s additional 1-percent discount for the
lack of a reforestation clause at the end of the lease. As
discussed infra, respondent has allowed, and we have accepted, an
allowance for reforestation in determining the value of the
reversion, thus making Dilmore’s additional 1-percent discount
for this purpose unnecessary.
- 37 -
We hold and conclude, therefore, that Lipscomb has fairly
and reasonably determined the net present value of the lease
income stream to be $566,773.
2. Present Value of the Reversion
Lipscomb’s income capitalization approach assumes that the
leased land will have a January 1, 2023, pretax reversion value
of $4,127,687. Lipscomb then purports to arrive at a January 1,
2023, after-tax value of the reversion by assuming a 35-percent
tax on $4,127,687, and then discounting this after-tax amount to
1991 present value using an 8-percent discount rate. Nothing in
the record explains Lipscomb’s derivation of his estimated
January 1, 2023, pretax conversion value.22 Furthermore, we
22
On brief, petitioner alleges that to arrive at the
$4,127,687 value for the reversion of the leased land, Lipscomb
applied a growth rate of 4 percent to comparable 1991 values.
The parts of the record that petitioner’s brief cites in support
of this proposition, however, do not yield this information, nor
have we discovered it elsewhere in the record. Statements in
briefs do not constitute evidence. See Rule 143(b). Even if we
were to assume arguendo that petitioner’s representation about
Lipscomb’s derivation of the reversion value were accurate, the
record is inadequate to allow us to identify with certainty the
comparables Lipscomb used for this purpose or to meaningfully
evaluate the appropriateness of either the comparables or the
assumed growth rate that petitioner alleges Lipscomb employed in
his analysis.
If we were to assume arguendo that the comparables in
question were the same comparables Lipscomb used in his sales
comparison approach, the facts disclosed in his report and
testimony are inadequate to persuade us that those comparables
were determined appropriately. As previously discussed, using
the sales comparison approach, Lipscomb determined that
petitioner’s interest in the leased land had a 1991 fair market
value of $958,473. Lipscomb derived this number by applying a
45-percent marketability discount to what he deemed to be
comparable sales. Lipscomb testified that he determined the 45-
(continued...)
- 38 -
disagree with Lipscomb’s implicit premise, otherwise unsupported
by the record or common sense, that in determining the fair
market value of the reversion–-either in 2023 or in 1991–-a
hypothetical willing buyer and seller would have adjusted the
price downward to account for the seller’s income tax liability
on the sale. Cf. Estate of Davis v. Commissioner, 110 T.C. 530
(1998).
Dilmore calculates the January 1, 2023, value of the
reversion by projecting lease rental income to be $95,052 in
2023, and then capitalizing it at a rate of 12.6 percent, to
yield an estimated January 1, 2023, value of $754,381. He then
discounts the January 1, 2023, value to 1991 present value.
Dilmore’s method improperly seeks to determine the January 1,
2023, value of the reversion on the basis of the final year’s
lease payments. We are unconvinced that the fair market value of
the land in 2023, when the lease expires, is properly computed
on the basis of the last year’s rent payments under the lease.
Accordingly, we reject Dilmore’s conclusions in this regard.
Respondent’s expert Maloy calculates the value of the
reversion by first establishing a $238 per acre “baseline”
22
(...continued)
percent discount based on analysis of sales of other leased
properties, which showed a range of discounts from 30 percent to
“almost 100 percent”. The record does not reveal how Lipscomb
chose the 45-percent discount from this wide range. Moreover,
the data underlying his analysis of these other sales are not
part of the record. Accordingly, we are unable to assess or
accept the appropriateness of the 45-percent discount that
Lipscomb applied.
- 39 -
estimate of the value of a 100-percent fee simple interest in the
leased land in 1991. Maloy determines this baseline estimate on
the basis of comparisons with numerous property sales in the same
counties as the leased land. Maloy then applies a growth rate of
5 percent to project a future value for the reversion in 2023 of
$10,245,020.23 From this amount, Maloy subtracts $2,454,315 for
estimated replanting costs in 2023, to yield net future value in
2023 of $7,790,706.24 Maloy then applies a discount rate of 8
percent to yield a present value of the reversion of $663,768.
As previously discussed, we disagree with Maloy’s selected
discount rate as being understated. We conclude, however, that
Maloy’s valuation of the reversion is in all other respects
reasonable and is based on sound assumptions and methodology,
taking into consideration, among other things, reasonable costs
of reforesting the land at the end of the lease.25 Accordingly,
23
Maloy’s assumption of a 5-percent growth rate is based on
his determination that timberland in general would benefit from
increased timber prices, Federal programs, and the leasing of
hunting rights.
24
Maloy estimates replanting costs in 2023 by determining
an estimated $150 per acre replanting cost in 1990 and then
adjusting this number upward to reflect an estimated annual
inflation rate of 1.87 percent.
25
Petitioner’s own witness, Charles Irwin, testified that
in 1991 it probably would have cost $75-$80 per acre to prepare
the land for planting if it lay fallow for under 1 year, and $50-
$55 per acre to plant the land, resulting in a total cost of
$125-$135 per acre. Thus, Maloy’s replanting estimate is
actually greater than Irwin’s. Irwin does claim that the costs
to prepare the land could “probably double” if the fallow period
was 4 or 5 years. It seems unlikely, however, that the lessee
(continued...)
- 40 -
employing Maloy’s methodology but substituting the pretax
equivalent of Lipscomb’s selected discount rate (12.3 percent),
we hold that at the time of petitioner’s gifts, the present value
of the reversion in the leased land was $190,291.26
E. Discounts for Fractional Interests
The parties have stipulated that if we were to measure
petitioner’s gifts by reference to the sons’ interests in the
partnership, the correct minority and marketability discount
would be 33.5 percent. We have determined, however, that
petitioner’s transfers represented separate, indirect gifts to
his sons of interests in the leased land and bank stock, rather
than gifts of partnership interests or enhancements thereto. As
previously discussed, the gift tax is imposed on the value of
what the donor transfers, not what the donee receives. See
Robinette v. Helvering, 318 U.S. at 186 (the gift tax is
“measured by the value of the property passing from the donor”);
25
(...continued)
under a long-term timber lease would allow the land to lie fallow
for a number of years before the end of the lease, rather than
managing timber harvesting to maximize the timber’s growth
potential for the full duration of the lease.
26
On brief, petitioner–-agreeing wholly with none of his
several experts, but instead relying selectively on discrete
aspects of their several reports--urges that the 1991 value of
the reversion was only $30,024. In defense of this small number,
petitioner argues that “no one in their right mind is going to
pay anything in 1991 for a residual interest in the year 2023”.
Petitioner argues, among other things, that there may be a
reduced market for timber, because we may have a paperless
society by 2023. Maybe sooner, judging by the size of the record
in this case. Nevertheless, we are unpersuaded that a future fee
interest in more than 9,000 acres of Alabama timberland has
little or no value.
- 41 -
Stinson Estate v. United States, 214 F.3d at 849; Citizens Bank &
Trust Co. v. Commissioner, 839 F.2d 1249 (7th Cir. 1988) (for
gift and estate tax purposes, value of stock transferred to
trusts was determined without regard to terms or existence of
trust); Goodman v. Commissioner, 156 F.2d at 219; Ward v.
Commissioner, 87 T.C. 100-101; LeFrak v. Commissioner, T.C.
Memo. 1993-526; sec. 25.2511-2(a), Gift Tax Regs. Accordingly,
the subject gifts are not measured by reference to the sons’
partnership interests. Because the conditions of the stipulation
are not met, we must consider what valuation discounts, if any,
are applicable.
1. The Leased Land
Lipscomb opined that a 27-percent discount was appropriate
in recognition of the fractionalized ownership of the leased
land because of the resulting reduction in marketability and
control.27 As previously discussed, however, in performing his
analysis of the 1991 present value of the lease income, Lipscomb
had previously taken lack of marketability into account in
adjusting his discount rate upward. Consequently, his 27-percent
valuation discount is redundant insofar as it reflects lack of
marketability and to that extent is excessive. Lipscomb’s
analysis is insufficiently detailed to permit us to isolate the
27
Lipscomb determined the 27-percent discount rate by
analyzing sales of what he deemed to be similar properties, which
indicated a range of adjustments from 25 percent to 100 percent.
- 42 -
redundant elements. Accordingly, we reject his recommended 27-
percent valuation discount.
Dilmore testified that an undivided interest in the leased
land should be subject to a discount of 15 percent, comprising
these three elements:
(1) Operation–-a 3-percent discount for lack of complete
control of the management of the property and of decisions made
about it;
(2) Disposition of the property–-a 10-percent discount to
reflect the possibility of disagreement between the co-owners and
the necessity of getting them to agree on the sale; and
(3) Partitioning–-a 2-percent discount in recognition of the
eventuality that partitioning of the physical property might
become necessary. Dilmore indicated that “This would appear to
be a fairly minor factor” for the leased land.
On brief, respondent argues that no valuation discount for
fractional interests is warranted with respect to the leased
land, but, if it were, it should be measured solely by the cost
of partitioning the land, which Maloy opined would probably be
about $25,000. We reject respondent’s argument as failing to
give adequate weight to other reasons for discounting a
fractional interest in the leased land, such as lack of control
in managing and disposing of the property. See Estate of Stevens
v. Commissioner, T.C. Memo. 2000-53; Estate of Williams v.
Commissioner, T.C. Memo. 1998-59.
- 43 -
Accordingly, on the basis of our review of all the expert
testimony and reports, we conclude and hold that Dilmore’s 15-
percent valuation discount for an undivided fractional interest
in the leased land is fair and reasonable.28
2. The Bank Stock
With regard to the bank stock, respondent has not contested
the 15-percent minority interest discount as claimed on
petitioner’s gift tax return. Accordingly, we hold that the
stipulated value of the bank stock on the date of petitioner’s
gifts ($932,219) is subject to a 15-percent minority interest
discount for the gifts to his sons of undivided interests.
F. Summary and Conclusion
On the basis of all the evidence in the record, we conclude
and hold that petitioner made separate gifts to each of his two
sons of 25-percent undivided interests in the leased land and the
bank stock. The value of the total separate gifts to each son is
28
On brief, petitioner argues that because Lipscomb (and by
extension Dilmore) selected valuation discounts based upon a 50-
percent undivided interest in the leased land, as opposed to a
25-percent undivided interest, their recommended valuation
discounts are understated. Petitioner also argues that various
other cases have allowed fractional-interest discounts greater
than those recommended by petitioner’s own experts. We must
determine the applicable valuation discount on the basis of the
facts in the record before us. Here, petitioner has presented no
concrete, convincing evidence as to what additional amount of
discount, if any, should be attributable to a 25-percent
undivided interest as opposed to a 50-percent undivided interest.
- 44 -
$358,973, and the value of petitioner’s aggregate gifts is
$717,946, calculated as follows:
Leased Land
1991 present value of lease income $566,773
1991 present value of 2023 reversion 190,291
Combined present value 757,064
Pro rata interest 25%
Undiscounted pro rata value 189,266
Valuation discount adjustment (1-.15) .85
Value of separate indirect gifts 160,876
Bank Stock
Stipulated value 932,219
Pro rata interest 25%
Undiscounted pro rata interest 233,055
Valuation discount adjustment (1-.15) .85
Value of separate indirect gifts 198,097
Combined Value of Separate Indirect Gifts
Leased land 160,876
Bank stock 198,097
Total 358,973
Total Indirect Gifts
John 358,973
William 358,973
717,946
We have considered all other arguments the parties have
advanced for different results. Arguments not expressly
addressed herein we conclude are irrelevant, moot, or without
merit.
To reflect the foregoing,
Decision will be entered
under Rule 155.
Reviewed by the Court.
WELLS, CHABOT, COHEN, PARR, WHALEN, COLVIN, HALPERN,
CHIECHI, LARO, and GALE, JJ., agree with this majority opinion.
- 45 -
WHALEN, J., concurring: I agree with both the reasoning and
result of the majority opinion, but I write separately to make
the point that this case does not present the same issues
concerning the valuation of the indirect gifts as were presented
in Estate of Bosca v. Commissioner, T.C. Memo. 1998-251, and to
comment on the position of Judges Beghe and Ruwe, who make
interesting and worthwhile points, especially in light of the
increasing use of family partnerships.
In this case, the majority opinion decides two principal
issues. First, it rejects petitioner’s contention that the
transfers of leased land and bank stock made by petitioner should
be characterized as gifts to petitioner’s two sons of minority
interests in a family partnership, or as enhancements of his
sons’ existing partnership interests. Petitioner sought
that characterization of the transfers to justify the application
of substantial discounts in valuing the property. Contrary to
petitioner’s position, the majority characterizes the transfers
as indirect gifts to the sons of the leased land and bank stock.
The majority relies on section 25.2511-1(h)(1), Gift Tax Regs.,
which provides:
A transfer of property by B to a corporation generally
represents gifts by B to the other individual
shareholders of the corporation to the extent of their
proportionate interests in the corporation.
Based thereon, the majority holds that the transfers represent an
indirect gift to each of petitioner’s two sons of an undivided
25-percent interest in the leased land and bank stock. To my
- 46 -
knowledge, there is no disagreement as to this aspect of the
majority opinion.
Second, the majority opinion values the two gifts made by
petitioner. In the case of the bank stock, the parties
stipulated that before the transfer to the partnership the
aggregate value of the stock of the three banks that was included
in the transfer was $932,219. In view of the fact that the stock
of each of the three banks represented a minority interest in the
bank, the majority reduced or discounted the value of the stock
by 15 percent. This discount was claimed on petitioner’s gift
tax return, and respondent did not contest it in these
proceedings. There is nothing to suggest that the amount of this
discount would vary depending on whether the gifts were valued in
the aggregate or separately. The majority then, in effect,
treats 50 percent of the remaining value as having been retained
by petitioner through his interest in the family partnership and
treats 25 percent of the remaining value, $198,097, as a gift to
each son in accordance with section 25.2511-1(h)(1).
In the case of the leased land, after resolving various
factual disputes between and among the parties’ expert witnesses,
the majority opinion concludes that the present value of the
leased land, before the transfer to the partnership, was
$757,064. In view of the fact that the gifts made by petitioner
were gifts of undivided interests in the leased land, the
majority agrees that the value of the leased land should be
reduced or discounted by 15 percent due to the fact that the
- 47 -
donees did not have complete control over the property. In
footnote 28 of the opinion, the majority notes that the 15-
percent discount is based upon “a 50-percent undivided interest
in the leased land, as opposed to a 25-percent undivided
interest” due to petitioner’s failure to provide evidence as to
“what additional amount of discount, if any, should be
attributable to a 25-percent undivided interest as opposed to a
50-percent undivided interest.” Thus, based upon the record at
trial, the same discount is applicable regardless of whether the
gifts of the leased land are valued on an aggregate basis or
separately. The majority opinion then, in effect, treats 50
percent of the remaining value as having been retained by
petitioner through his interest in the partnership and treats 25
percent of the remaining value, $160,876, as a gift to each son
in accordance with section 25.2511-1(h)(1).
The majority opinion, at page 23, states as follows:
We have not, however, aggregated the separate, indirect
gifts to his sons, John and William. See Estate of
Bosca v. Commissioner, T.C. Memo. 1998-251 (for
purposes of the gift tax, each separate gift must be
valued separately), and cases cited therein; cf. Estate
of Bright v. United States, 658 F.2d 999 (5th Cir.
1981) (rejecting family attribution in valuing stock
for estate tax purposes).
As the author of the Estate of Bosca v. Commissioner, I
appreciate the approval of that opinion by the majority.
However, the approach of the majority in the instant case, as
discussed above, is different from the approach used in Estate of
- 48 -
Bosca because, in this case, there is no difference between the
valuation of petitioner’s gifts to his sons depending on whether
the gifts are valued on an aggregate basis or separately. The
value of 50 percent of the gifted property, or $378,532 (50
percent of $757,064), less a 15-percent discount is the same as
two 25-percent undivided interests in the leased land, $378,532,
less a 15-percent discount.
In valuing the gifts in Estate of Bosca, it was necessary
for the Court to decide whether the gifts should be valued on an
aggregate basis; i.e., as part of a 50-percent block of stock, or
whether they should be valued separately; i.e., as two 25-percent
blocks of stock. In deciding to take the latter approach, we
followed the long-standing position of this Court that separate
gifts must be valued separately. See, e.g., Calder v.
Commissioner, 85 T.C. 713 (1985); Rushton v. Commissioner, 60
T.C. 272, 278 (1973), affd. 498 F.2d 88 (5th Cir. 1974); Standish
v. Commissioner, 8 T.C. 1204 (1947); Phipps v. Commissioner, 43
B.T.A. 1010-1022 (1941), affd. 127 F.2d 214 (10th Cir. 1942);
Hipp v. Commissioner, T.C. Memo. 1983-746.
As I understand their position, Judges Ruwe and Beghe agree
that, under the facts of this case, petitioner made a gift to
each of his two sons, but they do not agree with the approach
used by the majority in valuing the gifts. They appear to take
the position that in computing the difference between the value
of the property transferred by the donor and the value of the
consideration received by the donor, as required by section
- 49 -
2512(b), the property is to be valued in the donor’s hands prior
to the transaction with no discounts or reductions permitted.
For example, in the case of the leased land, the only asset
as to which respondent has raised an issue in this case, it
appears that Judges Ruwe and Beghe take the position that the
value of the property in the donor’s hands before the transfer,
$757,064, must also be the value of the property transferred by
the donor. Presumably, they would take the position that the
value of the consideration received by the donor is 50 percent of
the value of the property transferred or $378,532, based upon the
fact that petitioner retained a 50-percent interest in the
partnership. Under this approach the aggregate value of the
gifts would be $378,532 and that amount must be included in
computing the amount of gifts made by petitioner during the
calendar year. Thus, they disagree that a discount of 15 percent
is proper to reflect the reduced value of undivided interests in
the leased land.
Their view appears to be at odds with the fact that
discounts and reductions are permitted in the case of direct
gifts. If a donor makes a direct gift to one or more donees, the
sum of the gifts may be less than the value of the property in
the donor’s hands before the transfer. For example, we have held
that the sum of all the fractional interests in real property
gifted by a donor was less than the value of the whole property
in the donor’s hands. In Mooneyham v. Commissioner, T.C. Memo.
1991-178, the donor owned 100 percent of a certain parcel of real
- 50 -
property worth $1,302,000 before transferring a 50-percent
undivided interest in the property to her brother. We held that
the value of the gift, the 50-percent fractional interest, was
“50 percent of the total less a 15-percent discount or $553,350.”
Thus, the property transferred by the donor was worth $97,650
less than it was in the donor’s hands. Similarly, in Estate of
Williams v. Commissioner, T.C. Memo. 1998-59, the owner of two
parcels of property transferred 50-percent undivided interests in
each of the parcels. We held that each of the two gifts in that
case should be valued as 50 percent of the fair market value of
the property less aggregate discounts of 44 percent. See also
Heppenstall v. Commissioner, a Memorandum Opinion of this Court
dated Jan. 31, 1949 (minority discount). These cases show
that, in appropriate cases, the minority discount and
fractionalized interest discount can be taken into account for
purposes of valuing direct gifts under section 2512(a). This
suggests that such discounts can also be taken into account in
valuing indirect gifts under section 2512(b). Otherwise, there
would be a difference in the application of the willing buyer,
willing seller standard depending on whether the valuation is of
a direct gift or an indirect gift.
As described above, in valuing the gifts of bank stock, the
majority opinion applied a minority interest discount to reflect
the fact that a willing buyer would pay less for the minority
interests in the three banks that petitioner transferred. In
valuing the leased land, the majority opinion applied a
- 51 -
fractional interest discount to reflect the fact that a willing
buyer would pay less for the undivided interest in the leased
land that petitioner transferred. These discounts are
attributable to the nature of the property transferred by the
donor. They are not attributable to restrictions imposed by the
terms of the conveyance. See Citizens Bank & Trust Co.
v. Commissioner, 839 F.2d 1249 (7th Cir. 1988). In my view,
neither of these discounts is inconsistent with section 25.2511-
2(a), Gift Tax Regs., and the corresponding case law which
require that the gift be measured by the value of the property
passing from the donor, and not by what the donee receives.
See, e.g., Ahmanson Found. v. United States, 674 F.2d 761, 767-
769 (9th Cir. 1981).
CHABOT, COLVIN, HALPERN, and THORNTON, JJ., agree with this
concurring opinion.
- 52 -
HALPERN, J., concurring: I write to state my agreement
with the majority opinion and to respond to the suggestion that
in allowing a fractional interest discount with respect to the
leased land, the majority opinion has deviated from the valuation
rule of section 2512(b). The threshold question under section
2512(b) is what “property is transferred”. As germane to the
facts of the case under review, the question is whether
petitioner’s transfer of land to the partnership should be deemed
to represent a single transfer of petitioner’s 100-percent
interest in the land, or whether it should be viewed as separate,
indirect transfers of fractional interests to his two sons.
The instant case, like Kincaid v. United States, 682 F.2d
1220 (5th Cir. 1982), is based on application of an indirect gift
rule as provided in the regulations: “A transfer of property by
B to a corporation [for less than full and adequate
consideration] generally represents gifts by B to the other
shareholders of the corporation to the extent of their
proportionate interests in the corporation.” Gift Tax Regs.
sec. 25.2511-1(h)(1) (emphasis added). Applying this regulation,
the court in Kincaid concluded that the taxpayer’s single
transfer of a ranch to the family-owned corporation represented
“a gift to each of her sons” to the extent of their proportionate
interests. Id. at 1224. Given the unambiguous premise of the
cited regulation, as applied in Kincaid, that the transfer gives
rise to separate “gifts”, it follows that for purposes of valuing
those separate gifts, the “property transferred” should be viewed
- 53 -
as the property transferred by virtue of each of the deemed
separate gifts. Otherwise, we must construe section 2512(b) to
apply not on a gift-by-gift basis, but on the basis of aggregate
gifts made by the donor to different donees–-a result without
basis in law or common sense.
It would seem beyond cavil that if the petitioner had made
direct gifts to his sons of 25-percent undivided interests in the
land, we would permit appropriate fractional interest discounts
in valuing the gifts. It would be anomalous if by making the
same gifts indirectly, through a partnership, instead of
directly, such fractional interest discounts were precluded.
Having applied the indirect gift rule to deny the donor entity-
level discounts on the basis that the transfer to the entity was
in essence multiple transfers to the individual objects of the
donor’s bounty, it would be unfair then to ignore the operation
of that rule in concluding that in considering the availability
of a fractional interest discount, the transfer should be treated
as a unitary transfer to the entity.
Finally, it is true, as Judge Ruwe notes, that neither
Kincaid nor several of its progeny allowed any fractional
interest discount with respect to the transferred property.
There is no indication in any of these cases, however, that the
taxpayer raised or that the court considered such an issue. The
only case in the Kincaid line of cases to expressly consider the
issue was Estate of Bosca v. Commissioner, T.C. Memo. 1998-251,
which concluded, consistent with the majority opinion, that
- 54 -
fractional interest discounts were permissible. I see no reason
why we should now abandon this precedent, which is soundly
reasoned.
CHABOT, COHEN, WHALEN, COLVIN, LARO, GALE, and THORNTON,
JJ., agree with this concurring opinion.
- 55 -
RUWE, J., concurring in part and dissenting in part: I
agree with the majority opinion except for its allowance of a 15-
percent valuation discount with respect to what the majority
describes as “indirect gifts [by petitioner] to each of his sons,
John and William, of undivided 25-percent interests in the leased
land”. Majority op. p. 22. In my opinion, no such discount is
appropriate because undivided interests in the leased land were
never transferred to petitioner’s sons. The transfer in question
was a transfer of petitioner’s entire interest in the leased land
to the partnership. This transfer was to a partnership in which
petitioner held a 50-percent interest. Except for enhancing the
value of petitioner’s 50-percent partnership interest, he
received no other consideration for the transfer.
Section 2512(b) provides:
SEC. 2512. Valuation of Gifts.
(b) Where property is transferred for less than an
adequate and full consideration in money or money’s
worth, then the amount by which the value of the
property exceeded the value of the consideration shall
be deemed a gift, and shall be included in computing
the amount of gifts made during the calendar year.
The Supreme Court has described previous versions of the
gift tax statutes (section 501 imposing the tax on gifts and
section 503 which is virtually identical to present section
2512(b)) in the following terms:
- 56 -
Sections 501 and 503 are not disparate provisions.
Congress directed them to the same purpose, and they
should not be separated in application. Had Congress
taxed “gifts” simpliciter, it would be appropriate to
assume that the term was used in its colloquial sense,
and a search for “donative intent” would be indicated.
But Congress intended to use the term “gifts” in its
broadest and most comprehensive sense. H. Rep. No.
708, 72d Cong., 1st Sess., p.27; S. Rep. No. 665, 72d
Cong., 1st Sess., p.39; cf. Smith v. Shaughnessy, 318
U.S. 176; Robinette v. Helvering, 318 U.S. 184.
Congress chose not to require an ascertainment of what
too often is an elusive state of mind. For purposes of
the gift tax it not only dispensed with the test of
“donative intent.” It formulated a much more workable
external test, that where “property is transferred for
less than an adequate and full consideration in money
or money’s worth,” the excess in such money value
“shall, for the purpose of the tax imposed by this
title, be deemed a gift...” And Treasury Regulations
have emphasized that common law considerations were not
embodied in the gift tax. [Commissioner v. Wemyss, 324
U.S. 303, 306 (1945); fn. ref. omitted.]
The Supreme Court described the objective of these statutory
provisions as follows:
The section taxing as gifts transfers that are not made
for “adequate and full [money] consideration” aims to
reach those transfers which are withdrawn from the
donor’s estate. * * * [Id. at 307.]
Under the applicable statutory provisions, it is unnecessary
to consider the value of what petitioner’s sons received in order
to determine the value of the property that was transferred.
Indeed, the regulations provide that it is not even necessary to
identify the donee.1 The regulations provide that the gift tax
1
Sec. 25.2511-2(a), Gift Tax Regs.:
SEC. 25.2511-2. Cessation of donor’s dominion and
control. (a) The gift tax is not imposed upon the
receipt of the property by the donee, nor is it
necessarily determined by the measure of enrichment
(continued...)
- 57 -
is the primary and personal liability of the donor, that the gift
is to be measured by the value of the property passing from the
donor, and that the tax applies regardless of the fact that the
identity of the donee may not be presently known or
ascertainable. See sec. 25.2511-2(a), Gift Tax Regs.2
The majority correctly states the formula for valuing
transfers of property:
If property is transferred for less than adequate and
full consideration, then the excess of the value of the
property transferred over the consideration received is
generally deemed a gift. See sec. 2512(b). The gift
is measured by the value of the property passing from
the donor, rather than by the property received by the
donee or upon the measure of enrichment to the donee.
See sec. 25.2511-2(a), Gift Tax Regs. [Majority op.
pp. 11-12.]
This is exactly the formula used in the cases on which the
majority relies for the proposition that a gift was made. See
Kincaid v. United States, 682 F.2d 1220 (5th Cir. 1982); Heringer
1
(...continued)
resulting to the donee from the transfer, nor is it
conditioned upon ability to identify the donee at the
time of the transfer. On the contrary, the tax is a
primary and personal liability of the donor, is an
excise upon his act of making the transfer, is measured
by the value of the property passing from the donor,
and attaches regardless of the fact that the identity
of the donee may not then be known or ascertainable.
2
See also Robinette v. Helvering, 318 U.S. 184 (1943), in
which the taxpayer argued that there could be no gift of a
remainder interest where the putative remaindermen (prospective
unborn children of the grantor) did not exist at the time of the
transfer. The Supreme Court rejected this argument stating that
the gift tax is a primary and personal liability of the donor
measured by the value of the property passing from the donor and
attaches regardless of the fact that the identity of the donee
may not be presently known or ascertainable.
- 58 -
v. Commissioner, 235 F.2d 149 (9th Cir. 1956); Ketteman Trust v.
Commissioner, 86 T.C. 91 (1986). In each of these cases,
property was transferred to a corporation for less than full
consideration. All or part of the stock of the transferee
corporations was owned by persons other than the transferor. In
each case, the value of the gift was found to be the fair market
value of the property transferred to the corporation, minus any
consideration received by the transferor. None of these cases
allowed a discount based upon a hypothetical assumption that
fractionalized interests in the transferred property were given
to the individual shareholders of the transferee corporations.
Unfortunately, the majority does not follow its own formula, as
quoted above, or the above-cited cases.
The only case cited by the majority where a discount was
given based on a hypothetical assumption that fractionalized
interests in the transferred property were given to the indirect
beneficiaries (shareholders or partners) is Estate of Bosca v.
Commissioner, T.C. Memo. 1998-251. I believe that Estate of
Bosca was incorrectly decided on this point. That opinion
improperly relied upon cases that dealt with determining the
number of annual gift tax exclusions and blockage discounts.
Opinions dealing with the number of annual gift tax
exclusions under section 2503(b)3 have no application in
3
Sec. 2503(b) provides in part:
SEC. 2503(b). Exclusions From Gifts.--In the case
(continued...)
- 59 -
determining the value of gifts under section 2512(b). Under the
annual gift tax exclusion, the first $10,000 of gifts made to any
person is excluded from total taxable gifts. Unlike section
2512(b), section 2503(b) focuses on the identity of the donee.
Section 2503(b) specifically addresses “gifts * * * made to any
person” and excludes “the first $10,000 of such gifts to such
person”. In explaining the meaning of “gift” in the statute
providing for the annual exclusion, the Supreme Court explained:
But for present purposes it is of more importance
that in common understanding and in the common use of
language a gift is made to him upon whom the donor
bestows the benefit of his donation. One does not
speak of making a gift to a trust rather than to his
children who are its beneficiaries. The reports of the
committees of Congress used words in their natural
sense and in the sense in which we must take it they
were intended to be used in § 504(b) when, in
discussing § 501, they spoke of the beneficiary of a
gift upon trust as the person to whom the gift is
made.* * * Helvering v. Hutchings, 312 U.S. 393, 396
(1941).
The Supreme Court’s interpretation of the term “gift” for
purposes of the annual exclusion was based upon the common
meaning and understanding of the term gift. The Supreme Court’s
interpretation of the term gift in section 2503(b) must be
contrasted with the Supreme Court’s broad interpretation of
3
(...continued)
of gifts (other than gifts of future interests in
property) made to any person by the donor during the
calendar year, the first $10,000 of such gifts to such
person shall not, for purposes of subsection (a), be
included in the total amount of gifts made during such
year. * * *
- 60 -
section 2512(b). Section 2512(b) specifies a formula for
determining when a transfer will be deemed a gift and for
determining the amount of the gift for gift tax purposes. In
explaining the broad reach of the predecessor of section 2512(b),
the Supreme Court in Commissioner v. Wemyss, 324 U.S. 303 (1945),
explained that Congress was applying the gift tax to transfers
that were beyond the common meaning of the term gift.
Had Congress taxed “gifts” simpliciter, it would be
appropriate to assume that the term was used in its
colloquial sense, and a search for “donative intent”
would be indicated. But Congress intended to use the
term “gifts” in its broadest and most comprehensive
sense. * * * [Id. at 306.]
Thus, for purposes of the gift tax, a transfer that is deemed to
be a “gift” is statutorily defined in section 2512(b) in broad
and comprehensive terms and is not limited to the common meaning
of that term.
Reliance on cases based on blockage discounts is also
misplaced in the context of section 2512(b). The gift tax
regulations permit an exception to the traditional definition of
fair market value for gifts of large blocks of publicly traded
stock. Under the regulations, a blockage discount can be allowed
“If the donor can show that the block of stock to be valued, with
reference to each separate gift, is so large in relation to the
actual sales on the existing market that it could not be
liquidated in a reasonable time without depressing the market.”
Sec. 25.2512-2(e), Gift Tax Regs. (Emphasis added.) The cases
dealing with blockage discounts are distinguishable because they
- 61 -
were decided on the basis of a specific regulation dealing with
blockage discounts and involved either separate transfers of
properties to various persons or transfers in trust where the
transferor allocated specific properties to the trust accounts of
individual donees. See Rushton v. Commissioner, 498 F.2d 88 (5th
Cir. 1974), affg. 60 T.C. 272 (1973); Calder v. Commissioner, 85
T.C. 713 (1985). In the instant case, there was a single
transfer of petitioner’s property for less than full and adequate
consideration. Pursuant to section 2512(b), such a transfer is
deemed to be a gift to the extent the fair market value of the
transferred property exceeded the value of any consideration
received by the transferor.
The value of the property to which the gift tax applies in the
instant case is the fair market value of the leased property that
petitioner transferred to the partnership, minus the portion of
that value that served to enhance petitioner’s 50-percent
partnership interest. See Kincaid v. United States, supra at
1224; Heringer v. Commissioner, 235 F.2d at 152-153;4 Ketteman
Trust v. Commissioner, 86 T.C. 104. There is nothing in that
formula that would justify a discount for two 25-percent
4
In Heringer v. Commissioner, 235 F.2d 149 (9th Cir. 1956),
the taxpayers held a 40-percent interest in the corporation to
which they transferred property. The taxpayers argued that any
gift should not exceed 60-percent of the value of the transferred
property because the taxpayers’ 40-percent stock interest was
increased proportionately by the transfer and that such increase
was analogous to receipt of consideration. The Court of Appeals
agreed citing sec. 1002, 1939 I.R.C., which contains the same
language as the current version of sec. 2512(b). See id. at 152-
153.
- 62 -
undivided interests in the leased property. Petitioner never
transferred 25-percent fractional interests in the leased
property. His sons never received or owned 25-percent undivided
interests in the leased property. Indeed, no such fractionalized
interests ever existed. After the transfer, the partnership held
the same property interest that petitioner held before the
transfer; there was no fractionalization of ownership; and the
partnership could have sold the leased property for the same fair
market value that petitioner could have realized. Nevertheless,
the majority values the leased property by giving a discount for
hypothetical fractional interests that never existed. On this
point, the majority is in error.
VASQUEZ and MARVEL, JJ., agree with this concurring in part
and dissenting in part opinion.
- 63 -
BEGHE, J., concurring in part and dissenting in part: I
concur in the majority’s conclusion that, in computing the value
of the gifts, the donor is not entitled to entity level
discounts; I dissent from the majority’s conclusion that
petitioner’s transfer of the leased land should be valued as
separate indirect transfers to his sons of individual 25-percent
interests, rather than as a unitary transfer to the partnership.1
With all the woofing these days about using family
partnerships to generate big discounts, the majority opinion
provides salutary reminders that the “gift is measured by the
value of the property passing from the donor, rather than by the
property received by the donee or upon the measure of enrichment
of the donee”, majority op. pp. 11-12, and that “How petitioner’s
transfers of the leased land and bank stock may have enhanced the
sons’ partnership interests is immaterial, for the gift tax is
imposed on the value of what the donor transfers, not what the
donee receives”, majority op. p. 16 (citing section 25.2511-2(a),
1
Although the majority describe the gifts as “undivided 25-
percent interests in the leased land”, majority op. p. 22, the
15-percent discounts allowed by the majority in valuing those
interests amount to no more than the discount petitioner’s
experts attributed to the transfer of a 50-percent interest.
This is because petitioner’s experts “presented no concrete,
convincing evidence as to what additional amount of discount, if
any, should be attributable to a 25-percent undivided interest as
opposed to a 50-percent undivided interest”. Majority op. note
28. For an example of an agreement by the parties as to the
difference in value between a transfer of a 50-percent block and
two 25-percent blocks of the stock of a closely held corporation,
see Estate of Bosca v. Commissioner, T.C. Memo. 1998-251.
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Gift Tax Regs., Robinette v. Helvering, 318 U.S. 184, 186 (1943),
and other cases therein); see also sec. 25.2512-8, Gift Tax Regs.
This is the “estate depletion” theory of the gift tax2,
given its most cogent expression by the Supreme Court in
Commissioner v. Wemyss, 324 U.S. 303, 307-308 (1945):
The section taxing as gifts transfers that are not made
for “adequate and full [money] consideration” aims to
reach those transfers that are withdrawn from the
donor’s estate. To allow detriment to the donee to
satisfy the requirement of “adequate and full
consideration” would violate the purpose of the statute
and open wide the door for evasion of the gift tax.
See 2 Paul, supra [Federal Estate and Gift Taxation
(1942)] at 1114.3
The logic and the sense of the estate depletion theory
require that a donor’s simultaneous or contemporaneous gifts to
or for the objects of his bounty be unitized for the purpose of
2
See, e.g., Lowndes et al., Federal Estate and Gift Taxes
356 (1974); Solomon et al., Federal Taxation of Estates, Trusts
and Gifts 191 (1989).
3
The Paul treatise, cited twice with approval in
Commissioner v. Wemyss, 324 U.S. 307, 308 (1948), put it this
way:
It is Congress’s intention to reach donative
transfers which diminish the taxpayer’s estate. The
existence of “an adequate and full consideration in
money or money’s worth” which is not received by the
taxpayer has that very same effect. Since the section
is aimed essentially at “colorable family contracts and
similar undertakings made as a cloak to cover gifts,”
it is fair to assume that Congress intended to exempt
transfers only to the extent that the taxpayer’s estate
is simultaneously replenished. The consideration may
thus augment his estate, give him a new right or
privilege, or discharge him from liability. [2 Paul,
Federal Estate and Gift Taxation, 1114-1115 (1942);
citations omitted.]
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valuing the transfers under section 2511(a). After all, the gift
tax was enacted to protect the estate tax, and the two taxes are
to be construed in pari materia. See Merrill v. Fahs, 324 U.S.
308, 313 (1945). The estate and gift taxes are different from an
inheritance tax, which focuses on what the individual donee-
beneficiaries receive; the estate and gift taxes are taxes whose
base is measured by the value of what passes from the transferor.
I would hold, contrary to the majority and the approach of
Estate of Bosca v. Commissioner, T.C. Memo. 1998-251,4 that the
gross value of what petitioner transferred in the case at hand is
to be measured by including the value of his entire interest in
the leased land.5 I would then value the net gifts by
4
Contrary also to the Commissioner’s concession, in Rev.
Rul. 93-12, 1993-1 C.B. 202, that a donor’s simultaneous equal
gifts aggregating 100 percent of the stock of his wholly owned
corporation to his five children are to be valued for gift tax
purposes without regard to the donor’s control and the family
relationship of the donees. The ruling is wrong because it
focuses on what was received by the individual donees; what is
important is that the donor has divested himself of control. The
cases relied upon by the ruling–-Estate of Bright v. United
States, 658 F.2d 999 (5th Cir. 1981); Propstra v. United States,
680 F.2d 1248 (9th Cir. 1982); Estate of Andrews v. Commissioner,
79 T.C. 938 (1982); Estate of Lee v. Commissioner, 69 T.C. 860
(1978)--address an arguably different question: whether for
estate tax purposes a decedent’s transfer at death of interests
in real property or shares of a family corporation should be
valued by aggregating them with interests in the same property or
shares already held by the decedent’s spouse or siblings.
5
I acknowledge that my sense of the logic of the estate
depletion theory would require unitization of a donor’s same day
gifts of the stock of the same corporation in determining the
significance of parting with but not conveying control, contrary
to Estate of Heppenstall v. Commissioner, a Memorandum Opinion of
this Court dated Jan. 31, 1949, and arguably contrary to cases
that segregate same day gifts for blockage discount purposes,
(continued...)
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subtracting from the gross value so arrived at the value, at the
end of the figurative day, of the partnership interest that
petitioner received back and retained, sec. 2512(b),6 not 50
percent of the value of the leased land that he transferred to
the partnership.
5
(...continued)
see, e.g., Rushton v. Commissioner, 498 F.2d 88 (5th Cir. 1974),
affg. 60 T.C. 272 (1973); Calder v. Commissioner, 85 T.C. 713
(1985), which may be attributed to the presence of a specifically
targeted regulation. In any event, my sense of what the estate
depletion theory implies for gift tax purposes is consistent with
and supported by the rule that unitizes a block of shares held at
death to determine the value at which they are included in the
gross estate, notwithstanding that they may be bequeathed to more
than one beneficiary. See, e.g., Ahmanson Found. v. United
States, 674 F.2d 761, 768 (9th Cir. 1981); Estate of Chenoweth v.
Commissioner, 88 T.C. 1577, 1582 (1987).
6
I see no problem in harmonizing the above-suggested
approach with the considerations that apply in determining
whether a gift qualifies as a present interest rather than future
interest for the purpose of the annual exclusion under sec.
2503(b). The annual exclusion inquiry necessarily focuses on the
quality and quantity of the donee’s interest. See Stinson Estate
v. United States, 214 F.3d 846 (7th Cir. 2000); sec. 25.2503-3,
Gift Tax Regs.; see also Helvering v. Hutchings, 312 U.S. 393
(1941); Estate of Cristofani v. Commissioner, 97 T.C. 74 (1991).
Analogous considerations apply in computing the value of bequests
entitled to the estate tax charitable or marital deduction. See,
e.g., Ahmanson Found. v. United States, supra; Estate of
Chenoweth v. Commissioner, supra.
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FOLEY, J., dissenting: The majority relies on Kincaid v.
United States, 682 F.2d 1220, 1226 (5th Cir. 1982), where the
court held that Mrs. Kincaid made a gift through an
“unequal exchange [that] served to enhance the value of her sons’
voting stock”. The opinion, however, states: “Nor do we agree
with petitioner’s contention that his transfers should be
characterized as enhancements of his sons’ existent partnership
interests.” Majority op. p. 16. The holding in this case is
premised on Kincaid. The majority opinion, however, rejects
petitioner’s contention, which is the essence of the Kincaid
holding, and fails to explain why the result in this case should
be different from that in Kincaid. Accordingly, I respectfully
dissent.