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Charles (Chuck) Rubin: Hidden Gift in Merger Transaction

By: Charles (Chuck) Rubin

Summary: Disguised gifts found in a merger transaction, along with an interesting story on how the gifts came about.

Most tax practitioners are trained to look behind the transfers occurring in family corporate transactions to determine if a disguised gift is being made. A recent Tax Court case provides a real world example of such gifts

In the case, the parents’ manufacturing company was merged with another company owned by their sons. The Tax Court found that the parents’ company was substantially undervalued in the merger. Therefore, the parents received less stock in the resulting entity (and the sons received more) than was appropriate based on the relative values of the two companies. This resulted in a taxable gift of $29.6 million from the parents to the sons.

We could stop here and view this as an instructive case on how, if the IRS can successfully challenge values in mergers involving family entities, gifts can arise. However, this case has another interesting aspect.

This is that it is possible that this taxable gift would not have arisen but for the involvement of estate planning attorneys. At a point in time prior to the merger, estate planning attorneys determined that it would be more beneficial for the family if certain intellectual property relating to a manufacturing process for computer circuit boards belonged to the sons’ company and not the parents’ company. This is because the value of the process would thus not need to be transferred from the parents to the sons during their lifetime or at death in a taxable gift or taxable transfer at death. Factually, however, there was no transfer documentation showing a transfer of ownership of the process from the parents’ company where it had been originally developed. Nonetheless, through interviews with the principals and other review of available evidence, the estate planning law firm believed there was enough support to treat the process as having previously been transferred to the sons’ company at the time of the formation of that company. They were able eventually to convince the CPAs of the same, even though prior tax returns did not support such a change in ownership of the process. To have some documentation for the ownership in the event of a later IRS examination, the law firm prepared a bill of sale to memorialize a prior transfer of the process to the sons’ company.

In valuing the companies in the merger, the position was taken that the ownership of the process was in the sons’ company. The Tax Court determined that such a transfer of ownership to the sons’ company never took place and thus that the parents’ company was worth a lot more in the merger (per the substantial value of the process) than the parents received stock for. This was the source of the large gift found by the Tax Court. One has to wonder whether this gift would have arisen if the estate planning attorneys had not gotten involved.

This case was just resolved. However, the merger and resulting gift occurred in 1995. Thus, in addition to the large gift tax liability, there will be a substantial interest amount due on that gift tax liability. Luckily for the taxpayers, the Tax Court found that based on their reliance on counsel they had reasonable cause for their underpayments of gift tax and are not liable for accuracy -related penalties.

William Cavallaro et ux. v. Commissioner, T.C. Memo. 2014-189

Link to Original Source Post

Finance Lab: They have a pension, long-term care insurance and savings. But, with Alzheimer’s & Parkinson’s is it enough?

The Washington Post ran an article analyzing financial and retirement planning where one spouse has Alzheimer’s and Parkinson’s.  The article begins as follows:

We recently asked readers to tell us about their financial planning for retirement and promised to have experts review readers’ plans and offer advice. One of the first responses we received was from Betsy Campana, 63, who works fulltime as a pharmacist at a hospital in Milford, De., where she and her husband moved after he retired. Ken Campana, 72, is a retired meteorologist with the National Weather Service.

The Campanas are relatively well off in many ways, but they face challenges, including the cost of Ken’s care for Alzheimer’s and Parkinson’s diseases in a long-term care facility and Betsy’s concerns about how much longer she will be able to work.

“My concern is that as long as I am able to work, I seem to be okay financially,” Betsy wrote. “But I am worried that he will outlive my ability/desire to work, and I don’t know if I can survive if that happens.”

We asked two experts to take a look at the Campanas’ situation and to share their thoughts and suggestions. Our experts are Richard W. Johnson, director of the Urban Institute’s Program on Retirement Policy, and Mehmood Nathani, who in 2001 founded Altius Financial Advisors, a Bethesda-based fee-only firm that provides financial advice and manages investments.

via Finance Lab: They have a pension, long-term care insurance and savings. But is it enough? – The Washington Post.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

Chained to the Title: Why the UPC Should Allow Real Property to Transfer by Small Estate Affidavit by Faith Elizabeth Alvarez

Faith Elizabeth Alvarez has published her Note, “Chained to the Title: Why the UPC Should Allow Real Property to Transfer by Small Estate Affidavit.”  The abstract reads as follows:

This Note questions whether the Uniform Probate Code must necessarily exclude real property from small estates, and proposes that the UPC adopt a change, similar to Indiana’s deviation, that allows real property to be considered an asset for small estates. This Note also discusses the background of the UPC, the probate process, and the housing market. This note additionally provides an analysis of transferring the title of low-value real property upon death. Finally, this Note provides the contribution of revising the UPC to allow low-value real property to transfer by small estate affidavit.

via Chained to the Title: Why the UPC Should Allow Real Property to Transfer by Small Estate Affidavit by Faith Elizabeth Alvarez :: SSRN.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

In Partial Defense of Probate: Evidence from Alameda County, California by David Horton

David Horton has made available his forthcoming article, “In Partial Defense of Probate: Evidence from Alameda County, California.”  The abstract reads as follows:

For five decades, probate — the court-supervised administration of decedents’ estates — has been condemned as unnecessary, slow, expensive, and intrusive. This backlash has transformed succession in the U.S., as probate avoidance has become a booming industry and contract-like devices such as life insurance, transfer-on-death accounts, and revocable trusts have become the primary engines of intergenerational wealth transmission. Despite this hunger to privatize the inheritance process, we know very little about what happens in contemporary probate court. This Article improves our understanding of this issue by surveying every estate administration stemming from individuals who died in Alameda County, California in 2007. This original dataset of 668 cases challenges some of the most entrenched beliefs about probate. For one, although succession is widely seen as a tranquil process in which beneficiaries settle disputes amicably and pay a decedent’s debts voluntarily, both litigation and creditor’s claims are common. In addition, attorneys’ and personal representatives’ fees are far lower than assumed. The Article then uses these insights to critique the demand for probate avoidance, to contend that probate’s cautious approach to creditors should also govern non-probate transfers, and to suggest reforms to the probate process.

via In Partial Defense of Probate: Evidence from Alameda County, California by David Horton :: SSRN.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

IRS Denies Extension for Carryover Basis Election

The executor of an estate meant to file a timely Form 8939 for a Section 1022 election (which would allow the estate to elect out of the federal estate tax, thereby not needing to file a Form 706 return).  However, the IRS never received the Form 8939, and therefore requested the executor produce a Form 706 return.  When asked, the executor indicated he had sent the Form 8939, but not by registered or certified mail.  He instead submitted affidavits from his accounting firm claiming they timely mailed the form.

The IRS found that the affidavits were not prima facie evidence of delivery to the IRS, and therefore the Veteran would have to seek relief under I.R.C. 301.9100, which requires that the taxpayer show he acted reasonably and in good faith, and that granting relief will not prejudice the interests of the Government.

Section 301.9100-3(b)(1) provides, in relevant part, that a taxpayer is deemed to have acted reasonably and in good faith if (a) the taxpayer failed to make the election because of intervening events beyond the taxpayer’s control, or (b) the taxpayer reasonably relied on a qualified tax professional, including a tax professional employed by the taxpayer, and the tax professional failed to make, or advise the taxpayer to make, the election. Section 301.9100-3(b)(1)(ii) and (v).

The IRS ruled that because the executor could have sent the form by certified or registered mail, he could have prevented the form from being allegedly lost in the mail, and therefore that nondelivery was not the result of intervening events beyond the executor’s control.  Furthermore, the executor’s attempt to hide behind his accounting firm’s failure to inform him of preferred mailing methods which would ensure timely filing was also found inadequate; the IRS ultimately ruled he had not acted reasonably and in good faith.

See “Estate Denied Extension to Make Carryover Basis Election,” 2014 TNT 202-46 (Oct. 20, 2014).

Posted by Morgan Yuan, Esq., Associate Editor, Wealth Strategies Journal.

Regina A. DeMeo: Why Do Second Marriages Fail So Often?

While many say falling in love is sweeter the second time around, the statistics are quite staggering– over 70% of second marriages fail. Here are the 4 main reasons these unions do not last:

1. Not Enough Time to Reflect- After experiencing a divorce, most people avoid the pain or sorrow associated with this loss by avoiding things like coming home to an empty house and spending some quiet time alone with their thoughts.  Instead of allowing ourselves time to grieve a major loss, we often pack our calendars with things to do and go out of our way to stay busy and entertained with others.  While it is definitely important to rebuild a social life, it is just as important to take time to ask some big questions like: why did my marriage fail? What role did I play in the demise of our relationship? What should I do differently the next time around? Before embarking on  the next marriage, people should take time to fully process their emotions and thoughtfully consider ways they can avoid making the same mistakes again.

2. Rushing Into Things- The desire to re-establish a partnership is strong for many, especially those that enjoy being in a committed relationship.  Indeed, 75% of men and approximately 66% of women will remarry, usually within 2-5 years after their divorce, but obviously no one should feel pressured to follow these trends, especially if they are not successful.  Divorced individuals need to pace themselves after suffering a major setback in life.  They often are a bit emotionally vulnerable, and their filters may be a bit off, therefore it is important to put any new relationship through the test of time.  Big changes should be taken in baby steps, otherwise taking on too much at once can cause a lot of instability, especially when discussing significant issues about merging households and managing joint budgets.  If the couple is indeed a good fit, then time will always be on their side.

3. Money- The financial devastation caused by divorce cannot be overstated. Regardless of whether someone only had $100 or $100Mn to divide, the fact is after a divorce s/he will often find there is significantly less available post-divorce.  Maintaining two separate households adds a considerable amount to the family’s expenses, meanwhile many will also feel the sting of lingering support obligations either for the children or a former spouse in need of alimony.   Sadly, these ongoing payments will weigh on people for many years after their divorce becomes final, and they will drain the resources available in a second marriage, which is very often a source of conflict.

4. Kids- Hands down this is the biggest challenge to any marriage. The fact is when kids are involved, it is impossible to always make a partner fee like a #1 priority. Children have needs and require attention that will take time away from a spouse. In an intact house we are more forgiving of this fact because we are both responsible for bringing the children into the mix, but with blended families, the dynamics are far more complicated and can be very tricky. Step-children will not always take to their new step-parents or siblings, and the age of the children plays a huge factor in terms of not just their demands, but also their openness to adding new members to their families. Studies show that after age 13, a child is far less likely to bond with a step parent– not that it is a bad thing to strive for, but the fact is that they already have an established notion of how they define family and their peers matter more, so they simply will not be too interested in re-creating the Brady Bunch, and trying to force this is a recipe for disaster.

As you can see, navigating all these complicated issues involving emotions, finances and children can be very tricky, and so it is easy to understand why so many second marriages fall apart. But perhaps if we were more open and honest upfront about the challenges second marriages will face, then we can prevent major disasters from occurring later down the line. By identifying the problematic issues and addressing them early on– both from an emotional and financial perspective, perhaps we can improve the odds of happily ever after the second time around.

The Shift from Estate Planning to Estate Probating

Mary Merrell Baily writes, on WealthManagemetn.com, that there is a business opportunity for estate lawyers who shift from estate planning to probate.  Her article begins as follows:

Surveys confirm that avoiding probate is the primary reason that clients engage in estate planning today.  Yet, the estates of the majority of Americans will go into probate.

In March 2014, Trusts & Estates published the findings from the 7th Annual Industry Trends Survey conducted by WealthCounsel and WealthManagement.com.  The survey looked at the business challenges of estate-planning professionals and provided insight on what motivates clients to engage in planning.  The survey found that the top three reasons that clients engage in planning are to: (1) avoid probate (59 percent), (2) minimize discord among beneficiaries (57 percent), and (3) protect children from mismanaging their inheritances (39 percent).

Yet, in spite of the survey results indicating that probate avoidance is foremost in the mind of those who engage in planning, the bad news is that the majority of Americans don’t plan because they lack awareness as to why they should.  (See 4th Annual Industry Trends Survey.)

New Business Opportunity

More than 2.5 million people (comprised mostly of seniors) die each year in the U. S—a number that’s expected to increase dramatically over the next 10 to 20 years due to the aging baby boom population.  And, according to the U. S. Census Bureau, more people were 65 and over in 2010 than in any previous census.

Combine those figures with the estimated 55 percent to 70 percent of Americans who don’t have an estate plan or a simple will, and it becomes clear that large numbers of people will die intestate over the next 20 years.

While these sobering statistics present a challenge to the estate attorney’s current business model built around trust planning, the new reality is that it simultaneously presents a new business opportunity.

Read the full article at The Shift from Estate Planning to Estate Probating | Business Planning content from WealthManagement.com.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

FiveThirtyEight Reports Gay Marriage Is Now Legal In 31 States And For Almost 200 Million Americans

Allison McCann, of FiveThirtyEight, reports that on Friday, Arizona and Alaska became the latest states to allow same-sex marriages, bringing the total number of states with gay marriage up to 31 and the collective population of these states to almost 200 million, up from 165 million last week, according to 2013 census figures.

See Ms. McCann’s demographic analysis at Gay Marriage Is Now Legal In 31 States And For Almost 200 Million Americans | FiveThirtyEight.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

Retirement-Planning Tips for Singles

The Wall Street Journal provides retirement planning tips for singles.  The article notes that senior singles are at much greater risk of not saving enough for retirement than married couples.   Specifically, it notes that 20% of married couples won’t save enough for retirement, but that some 35% of single men and 49% of single women will enter retirement financially unprepared.

To read the full article, see Retirement-Planning Tips for Singles – WSJ – WSJ.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

Three Insights for Individuals on IRA Transfers

  • Charitable IRA Transfers: It is yet uncertain if this year the Congress will extend the individual retirement account (IRA) charitable transfer provision, which, if likely, will not happen before November election. The charitable IRA transfer allows individuals to transfer directly from IRA to charity while leaves it aside from counting as income. Past years’ charitable tax break has lowered adjusted gross income and receive special tax treatment for charitable deduction. It would be wise to wait till Congress acts before individuals take steps.
  • Adding Co-owner to Paper Bond: To transfer a U.S. paper bond by adding a co-owner, the paper bond needs to be exchanged for an electronic one, which typically takes around three weeks. Thereafter, an authorized co-owner will have the right to request redemption on the bond. A co-owner won’t be responsible for the tax until a 1099 tax form that reports the income is filed.
  • Roth IRA v. Traditional IRA: While Roth IRA functions as a way to pass down wealth to next generation after retirement, there is no additional requirement for making such contribution. Nor is there any restriction on contribution to a Roth IRA and withdrawal from a traditional IRA. Both of the transactions are taxable.

See Karen Damato, “Rules on IRA transfers to Charity Are in Limbo”, The Wall Street Journal.

Posted by Jiaqi Wang, Associate Editor, Wealth Strategies Journal.

IRS Announced Modified Applicability Dates to Temporary Coordination Regs

The IRS released Notice 2014-59 on October 10, announcing its intention to amend certain provisions of the temporary coordination regulations under Foreign Account Tax Compliance Act (FATCA) regime with regard to modified applicability dates. The IRS stated in the notice that it will provide withholding agents, foreign financial institutions (FFIs) and payers timeframe until January 1, 2015 to coordinate and apply new entity account procedures. The advanced copy of amendment in Notice 2014-59 is applicable to two areas:

• The standards of knowledge applicable to a withholding certificate to document an entity payee; and
• The standards of documentary evidence provided by a payee that a withholding agent or payer may rely on with regard to foreign status of the payee for the purpose of chapters 3 and 61.

See IRS Notice 2014-59.

Posted by Jiaqi Wang, Associate Editor, Wealth Strategies Journal

Conservation Easements: “Trying Times: Important Lessons to Be Learned from Recent Federal Tax Cases” by Nancy A. McLaughlin, Stephen J. Small

Nancy A. McLaughlin and Stephen J. Small have published their paper, “Trying Times: Important Lessons to Be Learned from Recent Federal Tax Cases” in the Land Trust Alliance Rally 2014 Providence, Rhode Island Saturday, September 20, 2014.  The abstract of their paper is as follows:

Since 2005, the courts have collectively issued more than 47 decisions involving challenges to deductions claimed under IRC § 170(h) with regard to conservation easement donations.This outline discusses the practical implications of recent court decisions for conservation easement donors and donees. The outline was prepared for a workshop of the same name at the Land Trust Alliance’s national conference in Providence, Rhode Island, in September 2014. Presenters at the workshop were Nancy A. McLaughlin, Robert W. Swenson Professor of Law, University of Utah S.J. Quinney College of Law; Steve Small, Attorney at Law, Law Office of Stephen J. Small; Karin Gross, Supervisory Attorney, IRS Office of Chief Counsel in DC; and Marc Caine, Senior Counsel, IRS Office of Chief Counsel in NY.

Download the article at Trying Times: Important Lessons to Be Learned from Recent Federal Tax Cases by Nancy A. McLaughlin, Stephen J. Small :: SSRN.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

Estate Planning: Hyperlexis and the Annual Exclusion Rule by Walter D. Schwidetzky

Walter D. Schwidetzky has made available for download his 1998 article, “Estate Planning: Hyperlexis and the Annual Exclusion Rule,” which was originally published in the Suffolk University Law Review.  The abstract reads as follows:

One of the true bonanzas in the Internal Revenue Code is I.R.C. § 2503(b). It permits taxpayers to make gifts of up to $10,000 per donee, per year without the application of a gift tax or the need to use any portion of the applicable exclusion amount. This “annual exclusion” rule of I.R.C. § 2503(b) is quite generous, inasmuch as there is no limit on the total amount of gifts a taxpayer may make. However, I.R.C. § 2503(b) requires that the gift be of a “present interest.” Future interests do not qualify. This distinction has caused a great deal of litigation, and achieved little. As I will discuss in more detail, donors can readily end-run the future interest limitation, giving rise to a recent Clinton Administration proposal to limit how I.R.C. § 2503(b) operates. While there is merit to the Clinton Administration recommendation, which I discuss in the proposal section of the article, I believe a more comprehensive approach is preferable. I would limit the total amount of gifts in a year that a donor can make under I.R.C. § 2503(b) to $30,000. I would also eliminate the “per donee” limitation. To reduce the compliance burden on the Service and the taxpayer, in addition to the $30,000 annual exemption, I would also exclude from taxation gifts of $250 or less per donee. With these changes in effect, there would be little need for the present/future interest dichotomy and I therefore would eliminate it. Finally, I would increase the applicable exclusion amount to offset the revenue increase these changes would otherwise give the government, so that the change would be revenue neutral.

My specific reasons for these changes, and my analysis of current law which leads me to conclude that the changes are called for, are revealed below. Underlying my proposals is the view that we have a deep-seated need to simplify the Code and the enforcement burdens on the taxpayers and the Service. In a misguided and ultimately unattainable desire for perfection, the Code has become unbelievably complex. It threatens to collapse under its own weight. Bayless Manning coined the term “hyperlexis” two decades ago, and defined it as a “pathological condition caused by an overactive law-making gland. Most federal and state legislatures suffer from hyperlexis. In this article, I borrow and modify the term to describe the seemingly insatiable need to complicate the tax law. We need to aggressively make an effort to simplify the tax law, even if it occasionally comes at the price of perfect equity (which is not achievable regardless) or certainty (though complexity usually creates more uncertainty than it eliminates). This article is thus an effort to do something about hyperlexis in one important and much used part of the Code.

Download the article at Estate Planning: Hyperlexis and the Annual Exclusion Rule by Walter D. Schwidetzky :: SSRN.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

The Uniform Power of Attorney Act: Not a One-Size-Fits-All Solution by Angela M. Vallario

Angela M. Vallario has published her article, “The Uniform Power of Attorney Act: Not a One-Size-Fits-All Solution” and made it available for download.  The abstract reads as follows:

A power of attorney is a staple of the modem estate plan, providing a simple way to avoid a guardianship and allowing an agent to manage a principal’s assets when necessity or incapacity requires it. The nature of the power of attorney is to give an agent legal authority to act on the principal’s behalf for financial matters. However, abuse by agents has caused reluctance among third parties to accept power of attorney documents, and this, in tum, has caused uproar for estate planners and their clients.

This article will examine the UPOA Act and the legislation from the adopting jurisdictions. The Commission identified six specific matters to be addressed by the UPOA Act. In Part II of this Article, those specific matters are identified in the provisions of the UPOA Act and compared to the legislation from the adopting jurisdictions. In analyzing the adopting jurisdictions, the legislative trends and differences amongst the adopting jurisdictions will be identified. Part III of the Article addresses and compares other topics in the UPOA Act and makes additional comparisons and distinctions to the adopting jurisdictions. Part IV identifies further modifications to the UPOA Act by the adopting jurisdictions. The Article also acknowledges the area of complete uniformity between the UPOA Act and the adopting jurisdictions in Part V. Throughout the discussion of the various aspects of the UPOA Act, suggestions and recommendations are made to the Commission in an effort to achieve its stated goal.

Download the full article at The Uniform Power of Attorney Act: Not a One-Size-Fits-All Solution by Angela M. Vallario :: SSRN.

Posted by Lewis J. Saret, Co-General Editor, Wealth Strategies Journal.

The Surviving Spouses Right to Quasi-Community Property: A Proposal Based on the Uniform Probate Code

Howard S. Erlanger & Gregory F. Monday have made available their 1994 article, “The Surviving Spouses Right to Quasi-Community Property: A Proposal Based on the Uniform Probate Code,” originally published  in the Idaho Law Review.  The abstract reads as follows:

This Article will critique the Wisconsin deferred marital proper­ty system and propose an alternative which draws on the elective share provisions of the new Uniform Probate Code. While our proposal may be of primary interest to readers concerned with Wisconsin law, we believe that because it is based on the UPC, the proposal would be an appropriate model for the four remaining community property states – Arizona, New Mexico, Nevada, and Texas – that do not deal with quasi-community property at the death of a spouse. In addition, because our analysis of the Wisconsin system identifies some problems – especially the problem of quasi-communi­ty property held by the surviving spouse – that exist in all current quasi-community systems in the U.S., and because none of these systems appear to cover all non-probate quasi-community property, we hope that readers familiar with the quasi-community property systems of California, Idaho, Louisiana, and Washington will find it useful as well.

Download their article at The Surviving Spouses Right to Quasi-Community Property: A Proposal Based on the Uniform Probate Code by Howard S. Erlanger, Gregory F. Monday :: SSRN.


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