EFTA01184123

From: Paul Moths <paul.morris@db.com> To: "'Jeffrey Epstein"' <jeevacation@gmail.com> Subject: FW: The FMV Valuation Alert - Estate of Sarah D. Holliday v. Commissioner Date: Tue, 22 Mar 2016 00:03:06 +0000 Original Message From: Lance S. Hall, ASA [info@fmv-value.com] Sent: Monday, March 21, 2016 07:46 PM Eastern Standard Time To: Paul Moths Subject: The FMV Valuation Alert - Estate of Sarah D. Holliday v. Commissioner Please click here if you cannot view this page. gt: First Retiewjarugalkawta ion 2036 (Estate of Saralr D. Holliday v. Commissioner)n By Carsten Hoffmann, ASA, TEP Preamble In 2011 I wrote a FMV Alert that an asteroid had narrowly missed the earth, which was the only way to get your attention when the real topic was another 2036 IRS victory in the Estate of Paul H. Liljestrand. Five years later there is still no asteroid in sight, but we do have the Estate of Sarah D. Holliday ("Estate") v. Commissioner ("Service"); T.C. Memo. 2016-51; No. 8143-1 to remind us that 2036 still has teeth. Background Sarah D. Holliday ("Decedent" or "Mrs. Holliday") had acquired significant assets due to her husband's HVAC business and real estate activity. Her husband had passed in 1999. Failing health had caused Mrs. Holliday to move into a nursing home in 2003. In 2006, Mrs. Holliday formed the Oak Capital LP ("Partnership") and funded it one week later with approximately $6 million of marketable securities. The decedent received a .1 percent general partner interest and a 99.9 percent limited partner interest in the Partnership. On the same day, the Decedent assigned her .1 percent general partner interest to her two sons as well as gifting a 10 percent limited partner interest to an irrevocable trust for the benefit of her two sons. Mrs. Holliday passed on January 7, 2009, holding an 89.9 percent majority interest in the Partnership. Issues raised by the IRS EFTA01184123 The IRS issued a determination of deficiency in the amount of $785,000 under a ection 2036(a) argument that the assets transferred by the Decedent were includable in her gross estate. The purpose of Section 2036(a) is to include in a decedent's gross estate the values of inter vivos transfers that are essentially testamentary in nature. Section 2036(a) applies when three conditions are satisfied: (1) the decedent made an inter vivos transfer of property, (2) the decedent retained an interest or right in the transferred property, and (3) the decedent's transfer was not a bona fide sale for adequate and full consideration. Since the Estate acknowledges the inter vivos transfers to the Partnership, the Courts' analysis focused on the second and third condition of 2036(a). Did the decedent retain an interest or right in the transferred property? Property is included in a decedent's gross estate if the decedent retained, by express or implied agreement, possession, enjoyment, of the right to income from the transferred property. The Estate's primary argument was that the Decedent held only a limited partner interest that according to the operating agreement had no right or power to participate in the Partnership's business or operations. Further, the Decedent had no right to designate who would possess or enjoy the assets of the Partnership or the income thereof. The Service on the other hand argued that the Decedent retained possession of the property and the right to income. The Service supported this argument by pointing to the operating agreement that allowed for periodic distributions to the partners when needed. The Court agreed with the Service, stating: Mr. Holliday's testimony makes it clear that had Decedent required a distribution, one would have been made... on the basis of the facts we believe that there was an implied agreement that Decedent retained the right to the possession or enjoyment of, or the right to the income from, the property. Accordingly, the second condition necessary for Section 2036(a) to apply has been met. Was the transfer a bona fide sale? The bona fide sale exception depends on two requirements: (1) A bona fide sale, meaning an arm's-length transaction, and (2) adequate and full consideration. The Court went on to state that in the context of a family limited partnership the bona fide sale exception is satisfied "where the record establishes the existence of a legitimate and significant nontax reason for creation of the partnership." The Estate put forth three arguments to support the nontax reason for creation: asset protection from trial attorney extortion, asset protection from undue influence of caregivers, and preservation of assets of heirs. not find any of the above arguments supported by the record. The Court made several observations to the contrary, including: • Decedent had never been sued and held significant assets outside the Partnership that could have also been subject to extortion. • The potential threat from caregivers was never discussed with Mrs. Holliday. • Assets were already held in trust and the Partnership structure did not yield significant advantages over the trust structure. EFTA01184124 • Decedent was not involved in selecting the Partnership structure. • Decedent stood on both sides of the transaction as she made the only contribution to the Partnership and there was no negotiation or bargaining associated with the formation of the Partnership. • The Partnership failed to maintain books and records and failed to have official meetings. • The Partnership did not follow the terms of its operating agreement. • The Partnership held only marketable securities that were not actively managed and were traded only on limited occasions. The Court concluded: Taking all of the facts and circumstances surrounding the Partnership formation into account, we find that Decedent did not have a legitimate and significant nontax reason for transferring assets to the Partnership. On the basis of the foregoing, we hold that the value of the assets Decedent transferred to the Partnership should be included in the value of Decedent's gross estate pursuant to Section 2036(a)(1). Conclusion I struggle a little bit with the Court's reasoning that the Decedent retained a right to the income of the property due to an operating agreement that granted distributions to the limited partners. An operating agreement section that allows the general partner to make distributions on a pro rata basis to the limited partners of excess cash flow is pretty standard and certainly does not provide a personal checkbook to the limited partner. The theory that the distributions would have been made, had the decedent needed them, is a theoretical one and should not have been given such weight. Maybe the Court was willing to be aggressive in its interpretation of the distribution section because the Decedent had made the transfer the same day as the funding and only transferred a small portion of the interests, remaining the majority unit holder. Or maybe the disenchantment was with an entity structure that held only marketable securities that were not actively traded. One option for the planner might be to borrow on margin and purchase some real estate to be held in the entity. Active management almost always seems to trump no management. Speculation will not get us very far — but needless to say, this case is a reminder of the teeth that continue to bite under Section 2036. [11 Estate of Sarah D. Holliday v. Commissioner - T.C. Memo. 2016-51; No. 8143-1 ! Carsten Hoffmann, ASA, TEP, is a Managing Director with FMV Opinions, Inc. - a national valuation and financial advisory services firm with offices in New York, San Francisco, Irvine, and Dallas. 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