1The notice of deficiency contained a number of adjustments

to decedent’s estate tax return. The parties have agreed to a

stipulation of settled issues which disposes of most of the

(continued...)

T.C. Memo. 2001-109

UNITED STATES TAX COURT

ESTATE OF MARCIA P. HOFFMAN, DECEASED, ELISABETH HOFFMAN,

PERSONAL REPRESENTATIVE, Petitioner v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 8632-98. Filed May 9, 2001.

Joseph D. Edwards and Albert P. Silva, for petitioner.

Michael A. Pesavento, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

RUWE, Judge: Respondent determined a deficiency of $930,864

in the Federal estate tax of the estate of decedent Marcia P.

Hoffman. After concessions,1 the issues for decisions are: (1)
- 2 -

1(...continued)

adjustments. The remaining adjustments proposed by respondent

remain disputed by the estate and are addressed in this opinion.

2Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect as of the date of decedent’s

death, and all Rule references are to the Tax Court Rules of

Practice and Procedure.

Whether guaranteed distributions under a marital settlement

agreement survived decedent’s death and are includable in her

gross estate under section 2031;2 and (2) the fair market value

of certain property interests held by decedent at the time of her

death.

FINDINGS OF FACT

Some of the facts have been stipulated and are so found. 

The stipulation of facts, stipulation of settled issues, and the

attached exhibits are incorporated herein by this reference. 

Marcia P. Hoffman (decedent) died testate on February 18,

1994. The beneficiaries of her estate are her children and

grandchildren. At the time of her death, decedent resided in

Pinellas County, Florida. A Federal estate tax return was filed

on behalf of decedent’s estate on February 21, 1995, wherein the

alternate valuation date, August 18, 1994, was selected. Donald

F. Chamberlain, Sr. (Mr. Chamberlain), and Elisabeth Hoffman (Ms.

Hoffman), decedent’s daughter, were listed as the executors on

decedent’s estate tax return. Respondent sent notices of

deficiency to both Mr. Chamberlain and Ms. Hoffman. In the
- 3 -

3Art. XV of the marital settlement provided that “The laws

of the State of Florida shall govern the validity, construction,

interpretation and effect of this Agreement.”

petition, Ms. Hoffman was listed as the executrix of decedent’s

estate. At the time the petition was filed, Mr. Chamberlain

resided in Michigan, and Ms. Hoffman resided in Illinois.

Decedent married Alfred Hoffman, Jr. (Mr. Hoffman), on June

2, 1961, and they had three children during their marriage. On

January 15, 1992, the marriage between decedent and Mr. Hoffman

was dissolved in the Circuit Court of Pinellas County, Florida. 

Decedent and Mr. Hoffman entered into a “Marital Settlement

Agreement” (the marital settlement), effective as of October 17,

1991, which was incorporated into the divorce decree.3 The

presiding judge did not interpret the marital settlement or

impose any conditions in addition to those set forth in the

marital settlement. The presiding judge noted that the marital

settlement was fair and reasonable and was freely and voluntarily

entered into by both parties with the full benefit of counsel and

other experts.

Marital Settlement Agreement

The marital settlement was divided into 20 articles. 

Article I provided that the marital settlement was intended to be

a full settlement of all matters pending in the divorce

proceedings, including a division of the marital assets and

provisions for the support of decedent. 
- 4 -

Article IV, entitled “Alimony”, required Mr. Hoffman to pay

decedent, as permanent alimony, the annual sum of $300,000,

payable bimonthly in equal installments of $12,500. The combined

amount of the bimonthly installments, $25,000, was referred to as

the “INITIAL BASE MONTHLY ALIMONY AMOUNT.” The payments

commenced on January 1, 1992, and only the death of decedent or

Mr. Hoffman would act to terminate the alimony due. The payments

to decedent were described as alimony for spousal support and

were intended by the parties to be taxable to decedent as income

and deductible by Mr. Hoffman for Federal income tax purposes.

Article VI, entitled “Equitable Division of Marital Estate”, 

divided the existing marital property of decedent and Mr. Hoffman

and was intended to settle all issues regarding the marital

property. In addition to other obligations, Mr. Hoffman was

required to convey to decedent: (1) One-half of his 55-percent

interest in Clubside Partnership (Clubside); (2) 100 percent of

the stock of Hoffman Associates, Inc. (Hoffman Associates), and a

loan receivable from Hoffman Associates; (3) 770 shares of stock

in Walden Lake, Inc. (WLI); and (4) 560 shares of stock in Sun

City Center, Inc. (SCC). 

Paragraph 6.6B of article VI provided for distributions to

decedent from WLI and SCC. In the event that WLI and SCC did not

make the distributions by certain dates, Mr. Hoffman personally

guaranteed payment of specific amounts to decedent on or before
- 5 -

the dates. Paragraph 6.6B provided:

B. The parties contemplate that there shall be to

each of them, as shareholders in * * * [WLI and SCC],

distributions, from time to time, that will otherwise

be effectuated pursuant to the articles and bylaws of

the subject corporations, as well as Florida law. In

that regard, the Husband hereby personally guarantees

to the Wife, the following distributions on or before

the time hereinafter provided * * * 

The dates and amounts of the distributions provided as part of

Mr. Hoffman’s guaranty obligation were as follows:

 Date Amount 

12/31/1994 $100,000

12/31/1996 250,000

12/31/1998 300,000

12/31/2000 400,000

12/31/2002 500,000

12/31/2004 450,000

 Total 2,000,000

The remainder of paragraph 6.6B provided:

The parties’ current relationship as shareholders

of * * * [SCC and WLI] as well as the current financing

relationships with the Bank of Boston authorize and

contemplate distributions to the shareholders for the

purpose of paying income taxes on undistributed,

taxable income to the shareholders. None of the

foregoing guaranteed distribuitions [sic] shall be

deemed to be reduced by any distributions to the

shareholders made solely for the purpose of paying

federal income taxes due upon undistributed, taxable

income to said shareholders from the Subchapter S

corporations. It is the intention of this paragraph

that the Husband shall personally guarantee to the

Wife, the distributions as set forth above from the

corporations, on a cumulative basis, on or before the

dates indicated. In the event such distributions are

not made pursuant to the aforementioned paragraph

consistent with the articles and bylaws of the

applicable corporations, then Husband shall be

personally obligated to pay the aforementioned funds to

the Wife, on or before the dates above. In the event

that the Husband is required to personally fund such
- 6 -

money in lieu of corporate distributions, then, and in

that event, he shall be entitled to be repaid by the

Wife, without interest, from such distribution

ultimately received by the Wife, at such time these

distributions are received and exceed the guaranteed

amounts of payments pursuant to § 6.6(B) due as of that

time. Further, in the event that the Wife should sell

all or a portion of her stock in either of the

corporations, Husband shall also be entitled to be

repaid by the Wife for any personally guaranteed

amounts funded in lieu of corporate distributions,

without interest, from the net after tax proceeds of

any such sale to the extent such net after tax

proceeds, together with all personally guaranteed

amounts and prior distributions to her pursuant to §

6.6(B) exceed the sum of Two million ($2,000,000.00)

dollars.

Paragraph 6.6D provided that nothing in the marital

settlement, “except for the cumulative receipt by the Wife” of

the payments specified in paragraph 6.6B, would satisfy Mr.

Hoffman’s obligation for the payment of $2 million in personal

guaranties. The marital settlement did not state that the $2

million guaranty was in the form of alimony and was silent as to

whether Mr. Hoffman’s obligation to decedent terminated at the

death of either party.

Article IV contained an offset provision related to article

VI. Paragraph 4.2 provided that the annual alimony received by

decedent would be reduced by $80 per year (at a rate of $6.67 per

month) for each $1,000 received by decedent after January 1,

1992, pursuant to the terms of paragraph 6.6B. Article IV

further provided:

4.3 Notwithstanding the fact that all amounts

received by the Wife as the INITIAL BASE MONTHLY
- 7 -

ALIMONY AMOUNT shall be deemed taxable to the Wife and

deductible by the Husband for federal income tax

purposes, it is the intent of the parties that all

amounts received by the Wife pursuant to Paragraph

6.6(B), although they may operate to ultimately reduce

the alimony amount payable by the Husband, shall not be

deemed taxable to the Wife as income nor deductible by

the Husband for federal income tax purposes. It is

intended by the parties that the * * * [guaranteed

payment under paragraph 6.6B for $300,000 due on or

before December 31, 1998], upon being paid, will create

a principal sum for the Wife which, if invested at the

rate of eight percent (8%), will create sufficient

income to reduce her need for permanent alimony

contemplated by this Agreement, based upon the

aforementioned terms.

Paragraph 6.6E contained another offset provision. This

provision related to compensation received by Mr. Hoffman for his

performance of all services related to SCC and WLI or other

investments. Paragraph 6.6E provided that decedent was to

receive 35 percent of any and all posttax amounts received by Mr.

Hoffman as direct or indirect compensation in connection with his

employment, to the extent that such compensation amounts exceeded

$600,000 for any 1 calendar year. To the extent decedent

received any payments pursuant to this provision, the amounts

received would constitute partial satisfaction of Mr. Hoffman’s

guaranty obligation under paragraph 6.6B. At such time as Mr.

Hoffman paid all the amounts as required under paragraph 6.6B,

the obligation that Mr. Hoffman pay decedent the excess

compensation over $600,000 annually would terminate.
- 8 -

4The parties stipulated that decedent was a partner of

Clubside at the time of her death. In its brief, the estate

argues for the first time that the partnership interest was owned

by decedent’s revocable trust. Our analysis and valuation of the

property interests in issue are the same regardless of whether

decedent or decedent’s revocable trust was the owner of the

partnership interest. Because the partnership interest is

includable in decedent’s gross estate in either situation and our

valuation analysis is not affected by such a determination, we

shall refer to the partnership interest as being owned by

decedent.

5The Cathead property included a two-story house located on

an 8.5-acre site with 300 feet of lake frontage which was owned

at the time of the appraisal by decedent and Mr. Hoffman, not

Clubside.

Property Interests Held by Decedent at Time of Death

At the time of her death, decedent owned a 27.5-percent

interest in Clubside, a partnership owned collectively by

decedent and her family.4 Mr. Hoffman owned a 27.5-percent

interest in Clubside, and the three children each held 15-percent

interests.

As of August 18, 1994, the asset-to-liability ratio of

Clubside was approximately 3 to 1. As of that date, it appears

Clubside had cash of approximately $3,176. Clubside’s only

significant asset was certain real property (Cathead property)

located on North Cathead Point Road in Northport, Michigan. The

Cathead property consisted of approximately 102 acres of

waterfront property on Lake Michigan.5 As of December 30, 1992,

the highest and best use of the Cathead property was the

development of the land into 20 waterfront improved sites which
- 9 -

6The Carbonell and Tarnow report compared the Cathead

property to other properties with similar uses and utility that

had recently been sold. Next, dollar adjustments were made to

account for the differences between the Cathead property and the

comparables. The adjustments were totaled and factored into the

sales prices of the comparables to indicate a probable sales

price for the Cathead property.

7The 9-percent discount rate was arrived at by taking the

prime interest rate (6 percent) plus 1 percent and adding 1

percent each for risk and nonliquidity factors.

could be built upon. At that time, the Cathead property was not

listed for sale, and there were no known offers to purchase. An

appraisal of the Cathead property, as of December 30, 1992, was

performed by Juan Carbonell and Michael Tarnow (the Carbonell and

Tarnow report). The Carbonell and Tarnow report based its

valuation on a sales comparison approach6 and assumed that the

waterfront lots could be sold over a 5-year period. The retail

sales prices realized during each year of the sale period were

discounted by 9 percent to estimate their net present value.7 On

the basis of the considerations above, the Carbonell and Tarnow

report valued the entire Cathead Property at $3,417,092. Of this

amount, $870,000 was attributed to the house owned by decedent

and Mr. Hoffman.

As of December 31, 1993, Clubside’s liabilities consisted of

accounts payable of $499 and the following promissory notes:

 Note Payable Amount Interest Rate Maturity Date

Melissa Hoffman Trust $24,000 7.61% 1/01/2012

Matthew Hoffman Trust 24,000 7.61% 1/01/2012

Elisabeth Hoffman Trust 24,000 7.61% 1/01/2012

Hoffman Associates 278,147 7.61% 1/01/2012
- 10 -

8The promissory notes payable to decedent and Hoffman

Associates were created on Jan. 1, 1992. It appears from the

evidence in the record that the remaining promissory notes were

also created on Jan. 1, 1992.

Marcia Hoffman 173,063 7.61% 1/01/2012

Al Hoffman, Jr. 189,053 7.61% 1/01/2012

Melissa Hoffman 62,333 7.61% 1/01/2012

Matthew Hoffman 62,334 7.61% 1/01/2012

Elisabeth Hoffman 62,333 7.61% 1/01/2012

 Total 899,263

The notes were unsecured, interest was to accrue, and no interest

or principal payments were required until January 1, 2012.8

However, at least with respect to the promissory notes payable to

decedent and Hoffman Associates, Clubside could prepay in full or

in part, without penalty, with any such prepayment first applied

to accrued interest and the balance applied to principal.

Additionally, approximately $20,000 a year in taxes and

maintenance on the Cathead property was paid by Mr. Hoffman. 

Clubside’s obligations to Mr. Hoffman were increased by these

amounts. In a financial statement dated June 3, 1994, Mr.

Hoffman’s accountant estimated the value of Mr. Hoffman’s 27.5-

percent interest in Clubside at $491,966 as of December 31, 1993. 

At the time of her death, decedent owned all 7,500 shares of

stock in Hoffman Associates, an S corporation. The principal

asset owned by Hoffman Associates was the Clubside promissory

note with a value at the date of maturity of $278,147, plus

accrued interest at a rate of 7.61 percent over 20 years.

At the time of her death, decedent owned 560 shares of
- 11 -

common stock of SCC, representing 16.09 percent of the

outstanding common stock. Decedent also owned 770 of the 3,480

outstanding shares of common stock of WLI, constituting a 22.13-

percent interest in WLI. As of the valuation date, WLI was an S

corporation whose principal business was the development and sale

of home sites and improved acreage within the Walden Lake

Development, located in Plant City, Florida. WLI had the

following net earnings for the years 1990 through 1993:

Year Net Earnings

1990 $1,682,795

1991 455,706

1992 1,025,958

1993 423,769 

For the years 1990, 1991, 1992, and 1993, financial statements

with independent auditor’s reports were prepared on behalf of

WLI, SCC, and other affiliated companies sharing common

ownership. For the years 1990 through 1992, separate audits were

made of WLI. For 1993, the audit combined the activities of WLI

with SCC and other affiliated companies sharing common ownership.

For the years 1991, 1992, and 1993, the earnings of WLI included

profits from intercompany transactions with SCC and the

affiliates.

OPINION

The Internal Revenue Code imposes a Federal estate tax on

the transfer of the taxable estate of a decedent who is a citizen

or resident of the United States. See secs. 2001 and 2002. The
- 12 -

value of the gross estate includes the value of all property to

the extent of the decedent’s interest therein on the date of

death. See sec. 2033. The executor, however, may elect to value

a decedent’s property as of an alternate valuation date; i.e., 6

months after death. See sec. 2032. The election to value

decedent’s property as of the alternate valuation date was made

in the instant case. The term value means fair market value,

which is defined for Federal estate tax purposes as “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); sec.

20.2031-1(b), Estate Tax Regs. The parties dispute: (1) Whether

the guaranty obligation of Mr. Hoffman is includable in

decedent’s gross estate, and (2) the value of certain property

interests includable in decedent’s gross estate.

A. Guaranty Provision in Marital Settlement Agreement

The estate argues that the guaranty obligation of Mr.

Hoffman is not includable in the gross estate because it

terminated on the death of decedent. The estate contends that

the marital settlement is ambiguous, and, when read in

conjunction with the testimony of its witnesses, the marital

settlement contemplates that the guaranty was to terminate on

decedent’s death. Respondent argues that the marital settlement
- 13 -

9The Danielson rule provides:

a party can challenge the tax consequences of his

agreement as construed by the Commissioner only by

adducing proof which in an action between the parties

to the agreement would be admissible to alter that

construction or to show its unenforceability because of

mistake, undue influence, fraud, duress, etc. * * *

[Commissioner v. Danielson, 378 F.2d 771, 775 (3d Cir.

1967), vacating and remanding 44 T.C. 549 (1965).]

10Under the strong-proof rule, a taxpayer can ignore

unambiguous terms of a binding agreement only if he presents

“strong proof”, that is, more than a preponderance of the

evidence that the terms of the written instrument do not reflect

the actual intentions of the contracting parties. Elrod v.

Commissioner, 87 T.C. 1046, 1066 (1986). This Court generally

applies the strong-proof rule. See id. at 1065; Coleman v.

Commissioner, 87 T.C. 178, 202 (1986), affd. without published

opinion 833 F.2d 303 (3d Cir. 1987); Ullman v. Commissioner, 29

T.C. 129 (1957), affd. 264 F.2d 305 (2d Cir. 1959). However, if

the case is appealable to a circuit which has adopted the

Danielson rule, then we are bound to apply that rule. See Golsen

v. Commissioner, 54 T.C. 742, 756-757 (1970), affd. 445 F.2d 985

(10th Cir. 1971).

is unambiguous and provides for guaranteed payments which survive

decedent’s death and are includable in the gross estate.

The parties presented arguments on brief regarding whether

we should apply the rule enunciated in Commissioner v. Danielson,

378 F.2d 771 (3d Cir. 1967), vacating and remanding 44 T.C. 549

(1965),9 or the less stringent “strong proof” rule.10 However,

the Danielson rule and the strong-proof rule apply only in the

case of an unambiguous agreement. See Gerlach v. Commissioner,

55 T.C. 156, 169 (1970); Pettid v. Commissioner, T.C. Memo. 1999-

126. Because we find the terms of the marital settlement

ambiguous, we do not apply either the Danielson rule or the
- 14 -

11This Court has been reluctant to apply either rule in

situations involving the interpretation of a divorce settlement

agreement. See Weiner v. Commissioner, 61 T.C. 155, 159-160

(1973); Mirsky v. Commissioner, 56 T.C. 664, 674-675 (1971);

Gerlach v. Commissioner, 55 T.C. 156, 169 (1970); Hopkinson v.

Commissioner, T.C. Memo. 1999-154.

strong-proof rule.11 See Pettid v. Commissioner, supra. 

The marital settlement, in reference to the guaranty

obligation of Mr. Hoffman, consistently refers to payments made

“to the Wife”, and the possibility that “the Wife” would have to

repay amounts to Mr. Hoffman if corporate distributions from SCC

and WLI exceeded guaranteed payments made by Mr. Hoffman under

the guaranty provision. There is no reference to decedent’s

heirs or assigns in connection with decedent or Mr. Hoffman’s

obligations under the guaranty provision. Additionally, the

offset provisions found in the alimony section, and the guaranty

obligation found in the division of marital property section, are

dependent on each other for purposes of determining the amount of

spousal support decedent was required to receive. The alimony

payments, which were intertwined with the guaranty obligation and

excess compensation provisions, terminated on the death of either

decedent or Mr. Hoffman. On the basis of the language in the

guaranty provision and the dependent relationship between that

provision and the alimony section, we find that the terms of the

marital settlement are unclear with respect to whether the

guaranty obligation of Mr. Hoffman survived decedent’s death.
- 15 -

The estate is not attempting to alter the unambiguous terms

of the marital settlement and thus avoid the tax consequences

which flow from it. Rather, the estate introduced the testimony

of three witnesses with personal knowledge of the marital

settlement in order to show that the parties intended the

guaranty obligation of Mr. Hoffman to be personal to decedent

only and to terminate upon the death of either party. For

purposes of this case, the relevant inquiry is whether, under the

terms of the marital settlement, the guaranty obligation of Mr.

Hoffman terminated on the death of decedent.

Mr. Hoffman testified that the guaranteed payments were tied

to alimony and that he did not intend for the guaranty obligation

to survive decedent’s death. He stated that the guaranty

provision was inserted into the marital settlement because he did

not have enough cash up front to pay the amount of alimony that

decedent wanted; thus, the parties to the marital settlement

negotiated lower monthly alimony payments in the initial years

after the divorce in return for larger payments of cash in future

years. Mr. Hoffman testified that on the date the final

guaranteed payment was due, decedent would presumably have been

able to sell the SCC and WLI stock and liquidate her holdings,

thereby meeting her financial needs. Mr. Hoffman testified that

he had not made any payments pursuant to the guaranty obligation

because he believed the guaranty obligation ceased at decedent’s
- 16 -

12We note that Mr. Hoffman is not a beneficiary of

decedent’s estate.

death, and, further, that he did not intend to make any payments

to the estate under the guaranty.12 

The estate also presented the testimony of Stephen Sessums

(Mr. Sessums), the attorney who represented Mr. Hoffman in his

divorce proceedings with decedent. Mr. Sessums testified that he

participated in the drafting of the marital settlement and that

the guaranty obligation was intended to run personally to

decedent and to terminate on her death. He noted that the

guaranty provision did not preserve the right to the guaranteed

payments for decedent’s heirs or assigns and that death was not

inserted into the agreement as a condition terminating the

guaranteed payments because it was not contemplated that the

guaranties would flow to anyone else. Mr. Sessums testified that

he believed that neither party intended for Mr. Hoffman to make

the guaranteed payments after the death of decedent and that the

guaranty provision was simply a backup for the alimony and was

intended to give decedent self-sufficiency.

Finally, the estate presented the testimony of Mark Ossian

(Mr. Ossian), one of decedent’s attorneys in her divorce

proceedings. Mr. Ossian testified that the guaranty obligation

of Mr. Hoffman was tied to the alimony provision and that the

whole intention of the guaranteed payments was to provide
- 17 -

decedent assistance for her support. He stated that once

decedent received the guaranteed payments during her lifetime,

her need for support would be decreased and her need for alimony

would be offset. Mr. Ossian testified that it was his

understanding that, upon death of decedent, Mr. Hoffman would not

be required to make any payments because the payments were only

for the support of decedent.

The marital settlement provides that the guaranteed payments

were to be made “to the Wife” and that “the Wife” would be

required to repay corporate distributions in excess of the

guaranteed payments. The guaranteed payments were connected with

specific alimony payments in a manner which allowed the amount of

the alimony payments to be reduced in the event that the

guaranteed payments were made. The portions of the marital

settlement relating to the alimony and guaranty obligation of Mr.

Hoffman are unclear because the guaranty obligation could either

survive decedent’s death, or terminate at the time of that event,

depending on how one reads the provision. The estate presented

testimony from three witnesses with personal knowledge of the

circumstances surrounding the negotiation and drafting of the

marital settlement. All three witnesses were credible and

consistent in their testimony that the intention of the parties

was that the guaranteed payments were to terminate on the death

of decedent. On the basis of the evidence in the record, we hold
- 18 -

13Permanent periodic alimony is most commonly used to

provide support, although its use may be appropriate in limited

circumstances to balance inequities which may result from the

allocation of income-generating property acquired during the

marriage. See Canakaris v. Canakaris, 382 So.2d 1197, 1202 (Fla.

1980). As a general rule, permanent periodic alimony terminates

on the death of either spouse or the remarriage of the receiving

spouse. See id.

14Fla. Stat. Ann. sec. 61.08(1) (West 1997) authorizes the

trial judge to “grant alimony to either party, which alimony may

be rehabilitative or permanent in nature. In any award of

alimony, the court may order periodic payments or payments in

lump sum or both.” Canakaris v. Canakaris, supra at 1200. 

that the guaranteed payments were intended to, and did, terminate

on the death of decedent.

Alternatively, respondent argues that even if the guaranty

obligation were not part of the division of marital property, the

value of the payments required under the guaranty obligation is

still includable in decedent’s gross estate because the

guaranteed payments were in the form of lump-sum alimony. 

Florida recognizes three types of alimony: (1) Lump-sum alimony;

(2) periodic alimony;13 and (3) rehabilitative alimony. See Fla.

Stat. Ann. sec. 61.08(1) (West 1997).14 Under Florida law, lumpsum alimony is essentially the payment of a definite sum (which

may be paid in installments). See Mann v. Commissioner, 74 T.C.

1249, 1260 (1980); see also Canakaris v. Canakaris, 382 So.2d

1197, 1201 (Fla. 1980). Lump-sum alimony creates a vested right

which survives death. See Mann v. Commissioner, supra at 1260;
- 19 -

Estate of Gary v. Commissioner, T.C. Memo. 1991-38; Canakaris v.

Canakaris, supra at 1201.

Respondent argues that the guaranteed payments were in the

form of lump-sum alimony; thus, they survived decedent’s death

and are includable in the gross estate. We disagree. The

marital settlement was entered into by decedent and Mr. Hoffman

after lengthy negotiations. The terms of the marital settlement

were freely and voluntarily entered into by the parties with the

full benefit of advice from counsel and other experts. In the

“Final Judgment of Dissolution of Marriage”, the presiding judge

dissolved the marriage between decedent and Mr. Hoffman and

approved, ratified, and confirmed the marital settlement. The

presiding judge did not interpret the marital settlement or

impose additional conditions. The term “lump-sum alimony” is not

used in the marital settlement or in the final judgment to

describe the guaranty obligation. The payments described in the

alimony section pertaining to the initial base monthly alimony

amount were described as “permanent alimony”. As we discussed

earlier, the guaranty obligation was linked to these payments by

an offset provision. After reviewing the evidence in the record,

we find no indication that the guaranty obligation was intended

by either the parties or the presiding judge to constitute “lumpsum alimony” under Florida law. Because the form of the

guaranteed payments was not specifically defined by the marital
- 20 -

settlement or the presiding judge, we rely on our prior findings

with respect to the intentions of the parties. As we held

earlier, the guaranty obligation was not intended to survive

decedent’s death, and we do not find evidence establishing that

the guaranteed payments were in the form of lump-sum alimony. 

Accordingly, we hold that the guaranty obligation is not

includable in decedent’s gross estate.

B. Property Interests Held by Decedent at Time of Death

Both parties relied on the reports and testimony of experts

to determine the value of decedent’s property interests for

estate tax purposes. While expert opinions may assist in

evaluating a claim, we are not bound by these opinions and may

reach a decision based on our own analysis of all the evidence in

the record. See Helvering v. National Grocery Co., 304 U.S. 282,

295 (1938); Estate of Newhouse v. Commissioner, 94 T.C. 193, 217

(1990). Where experts offer conflicting estimates of fair market

value, we examine the factors they used and decide the

appropriate weight given to each. See Casey v. Commissioner, 38

T.C. 357, 381 (1962). We may accept the opinion of an expert in

its entirety, see Buffalo Tool & Die Manufacturing Co. v.

Commissioner, 74 T.C. 441, 452 (1980), or we may be selective in

the use of any portion, see Parker v. Commissioner, 86 T.C. 547,

562 (1986).
- 21 -

The parties dispute the value of: (1) Two promissory notes,

(2) decedent’s 27.5-percent interest in Clubside, and (3)

decedent’s stock interest in WLI.

1. Value of Clubside Promissory Notes

The parties dispute the value of two promissory notes of

Clubside, one payable to decedent and the other payable to

Hoffman Associates (of which decedent owned 100 percent of the

outstanding stock). 

For estate tax purposes, “the fair market value of notes,

secured or unsecured, is presumed to be the amount of unpaid

principal, plus interest accrued to the date of death, unless the

executor establishes that the value is lower or that the notes

are worthless.” Sec. 20.2031-4, Estate Tax Regs. The burden of

proof is on the taxpayer to submit satisfactory evidence that the

note is worth less than the face value plus accrued interest

(e.g., because of the date of maturity, interest rate, or other

cause). See Estate of Pittard v. Commissioner, 69 T.C. 391, 399

(1977); Estate of Berkman v. Commissioner, T.C. Memo. 1979-46;

sec. 20.2031-4, Estate Tax Regs. In the instant case, both

parties departed from the presumed fair market value and

discounted the promissory notes from the date of maturity to the

valuation date.

Respondent relies on the report and testimony of his expert

appraiser, Mark Mitchell (Mr. Mitchell), to determine the value
- 22 -

15Mr. Mitchell noted that this rate of return was more than

5 percent above the bank prime loan rate and approximately 2

percent above a B-rated bond, which he explained has

vulnerability to default but currently has the capacity to meet

interest and principal payments.

of the Clubside promissory notes payable to decedent and Hoffman

Associates. Mr. Mitchell determined the value of the notes based

on the timing of payments and the rate of return that a holder of

the notes would require. To determine a proper return rate, he

reviewed: (1) Interest rates of various debt securities; (2)

corporate bonds of various ratings; (3) interest rates for

conventional mortgages, 30-year and 1-year Treasury securities,

and bank prime loans; and (4) venture capital returns. Mr.

Mitchell felt that the promissory notes did not possess

characteristics of bonds that were in default and highly

speculative in nature because the net proceeds from a sale of

Clubside’s assets (the Cathead property) would be sufficient to

satisfy all debt obligations as of the valuation date. Mr.

Mitchell felt that rates ranging from 10-to-15 percent would

adequately account for the risk of the promissory notes and

concluded that 12.5 percent was the appropriate rate.15 Mr.

Mitchell stated that he believed that this rate of return

incorporated the lack of marketability of the promissory notes. 

Mr. Mitchell assumed that the notes would not be paid until the

date of maturity; therefore, he applied the 12.5-percent rate of

return to the values he assigned the promissory notes as of the
- 23 -

16The amount of principal at maturity, plus accrued interest

at a rate of 7.61 percent over 20 years.

17The amount of principal at maturity, plus accrued interest

at a rate of 7.61 percent over 20 years. Although Mr. Mitchell

arrived at a figure of $701,481 as the total payment at the date

of maturity, we note that application of the figures used results

in a value of $701,487. Application of the 12.5-percent rate of

return by Mr. Mitchell results in the same figure, $91,070, that

he determined as the value of this note. 

date of maturity, $436,46516 and $701,481,17 respectively. On the

basis of a 12.5-percent rate of return, Mr. Mitchell concluded

that the values of the promissory notes payable to decedent and

Hoffman Associates were $56,664 and $91,070, respectively, as of

the valuation date.

The estate relies on the report and testimony of its expert

appraiser, Benjamin Bishop (Mr. Bishop), to determine the value

of the Clubside promissory notes payable to decedent and Hoffman

Associates. Mr. Bishop relied on public markets for guidance to

determine an appropriate rate of return that a knowledgeable

investor would require for obligations similar in maturity and

quality to the promissory notes. Specifically, he relied on

Moody’s, Standard & Poor’s, and Fitch rating agencies to find

comparable debt securities. Mr. Bishop felt that the Clubside

notes were most comparable with the lowest-ranked securities,

which required an approximate 18-percent rate of return. Mr.

Bishop felt a lack of marketability discount was appropriate

because the comparable bonds he used could be sold at any time in
- 24 -

18Mr. Bishop assigned values to the promissory notes as of

the date of maturity of $436,464 and $701,487, respectively.

the public market while the Clubside notes lacked a public market

for sale. To account for this lack of marketability, Mr. Bishop

concluded that a knowledgeable investor would require a rate of

return at least 25 percent higher than the 18-percent return

offered by his comparable publicly traded bonds; thus, he

determined that the appropriate rate of return for the Clubside

notes was 22.5 percent. Based on a 22.5-percent rate of return,

Mr. Bishop calculated that the present value of $1 received in 17

years and 4 months; i.e., the length of time between the

valuation date and the date of maturity of the promissory notes,

was $.039. Mr. Bishop applied the present value of $.039 to the

values as of the date of maturity and concluded that the values

of the promissory notes payable to decedent and Hoffman

Associates were $17,022 and $27,358, respectively, as of August

18, 1994.18

We are not persuaded by the analysis and conclusions of Mr.

Bishop. His testimony reflected a lack of knowledge concerning

the comparable companies used, and he failed to properly link

them to Clubside. Mr. Bishop admitted that all the comparables

used were “highly speculative” and that none of the comparables

dealt with real estate. Mr. Bishop testified that he had “no

idea” what the asset-to-liability ratio was for any of the
- 25 -

19Mr. Bishop’s valuation was questionable in another area as

well. Application of a 22.5-percent rate of return to value the

promissory notes produces valuation amounts below those

determined by Mr. Bishop. For example, the $17,022 and $27,358

values determined by Mr. Bishop would have been $12,950 and

$20,813, respectively, based on a 22.5-percent rate of return

over 17 years and 4 months based on maturity values of $436,464

and $701,487, respectively. Application of the values determined

by Mr. Bishop reflects either: (1) A rate of return of 20.58

percent over 17 years and 4 months; or (2) a rate of return of

22.5 percent over 16 years. We note that we have calculated

these figures using basic present value formulae. See, e.g.,

Spera v. Commissioner, T.C. Memo. 1998-225 n.2, supplemented by

T.C. Memo. 1998-299.

companies, and he was unable to provide any type of business

connection between the comparables and Clubside. Furthermore,

Mr. Bishop lacked knowledge of the line of business that some of

the companies were engaged in. Mr. Bishop’s failure to

adequately explain in his report or at trial how the companies

used were comparable to Clubside entitles his findings to little

weight. See, e.g., Estate of Fleming v. Commissioner, T.C. Memo.

1997-484. Overall, the comparable companies used by Mr. Bishop

were riskier in nature and did not accurately reflect the

financial position of Clubside.19

As of the valuation date, the Clubside promissory notes

payable to decedent and Hoffman Associates were unsecured and had

over 17 years remaining until the date of maturity. Interest was

to accrue until the date of maturity; thus, Clubside was not

under any obligation to make interest or principal payments until

January 1, 2012. Clubside had other promissory notes, and there
- 26 -

20At trial, Mr. Bishop admitted that he erred in his

analysis because he did not properly account for the value of the

(continued...)

is no evidence that these notes were subordinate to the notes

payable to decedent and Hoffman Associates. The main asset of

Clubside was the Cathead property, and Clubside’s available cash

was negligible as of the valuation date. However, as of the

valuation date, Clubside’s asset-to-liability ratio was

approximately 3 to 1, and Clubside had the option to prepay the

notes in full or in part, without penalty, at any time. There is

no evidence in the record to indicate that the promissory notes

would not be honored by Clubside as of the date of maturity. We

believe that a willing buyer would consider all these factors in

determining an appropriate rate of return on an investment of

this nature. After reviewing the reports and testimony of both

parties’ experts, we agree with respondent that a 12.5-percent

rate is appropriate and hold that the values of the promissory

notes payable to decedent and Hoffman Associates were $56,664 and

$91,070, respectively, as of the valuation date. 

2. Value of 27.5-Percent Interest in Clubside Partnership

At the time of her death, decedent held a 27.5-percent

interest in Clubside. Respondent determined that decedent’s

interest was worth $338,000 as of the valuation date. The

estate determined that decedent’s interest was worth $290,582 as

of the valuation date.20
- 27 -

20(...continued)

promissory notes. After adjusting for this error, Mr. Bishop

testified that the value of the partnership interest was

$289,913. 

For estate tax purposes, the fair market value of an

interest in a partnership “is the net amount which a willing

purchaser, whether an individual or a corporation, would pay for

the interest to a willing seller, neither being under any

compulsion to buy or to sell and both having reasonable knowledge

of relevant facts.” Sec. 20.2031-3, Estate Tax Regs. All

relevant factors are considered, including: (1) A fair appraisal

of all assets of the partnership; (2) the demonstrated earning

capacity of the partnership; and (3) other specific factors, to

the extent applicable, relating to the valuation of corporate

stock. See id. 

Respondent relies on his appraiser, Mr. Mitchell, who valued

the partnership interest under a discounted net asset value

approach. Mr. Mitchell determined the net asset value of the

partnership, applied lack of marketability and minority interest

discounts, and then applied this figure to decedent’s 27.5-

percent interest. The estate relied on its appraiser, Mr.

Bishop, who valued the partnership interest under a liquidation

approach. Mr. Bishop determined the value of decedent’s interest

by projecting the sale of Clubside’s assets over 3 years,

subtracting liabilities, applying decedent’s percentage ownership
- 28 -

21Mr. Bishop reached his determination by subtracting the

value of the house owned by decedent and Mr. Hoffman from the

value of the entire Cathead property.

22Mr. Mitchell reached his determination by making certain

adjustments to the figures determined in the Carbonell and Tarnow

report. Specifically, he adjusted the value of the property

upward to account for its present value and then subtracted the

present value of the house, commissions costs, holding costs, and

road improvement costs.

interest, and then applying a rate of return he felt a

knowledgeable investor would require.

Clubside’s only significant asset as of the valuation date

was the Cathead property. Mr. Bishop and Mr. Mitchell both

relied on the Carbonell and Tarnow report which valued the entire

Cathead property at $3,147,092 as of December 30, 1992, of which

$870,000 was attributed to the house owned by decedent and Mr.

Hoffman. Mr. Bishop determined that the fair market value of the

Cathead property owned by Clubside was $2,547,09221 as of August

18, 1994, while Mr. Mitchell determined that the fair market

value of the property as of that date was $2,685,057.22

The liabilities of Clubside as of the valuation date

consisted of accounts payable of $499 and the following

promissory notes payable:

 Note Payable Amount Interest Rate Maturity Date

Melissa Hoffman Trust $24,000 7.61% 1/01/2012

Matthew Hoffman Trust 24,000 7.61% 1/01/2012

Elisabeth Hoffman Trust 24,000 7.61% 1/01/2012

Hoffman Associates 278,147 7.61% 1/01/2012

Marcia Hoffman 173,063 7.61% 1/01/2012

Al Hoffman, Jr. 189,053 7.61% 1/01/2012

Melissa Hoffman 62,333 7.61% 1/01/2012
- 29 -

23Mr. Mitchell determined that an investor would require a

12.5-percent rate of return for the Clubside promissory notes. 

Mr. Mitchell applied the 12.5-percent rate of return to the other

notes payable to determine the total value of the notes payable

as of the valuation date. The following chart sets forth Mr.

Mitchell’s computations:

 Note Holder Value at Maturity Fair Market Value

Melissa Hoffman Trust $24,000 $7,858

Matthew Hoffman Trust 24,000 7,858

Elisabeth Hoffman Trust 24,000 7,858

Hoffman Associates 278,147 91,070

Marcia Hoffman 173,063 56,664

Al Hoffman, Jr. 189,053 61,899

Melissa Hoffman 62,333 20,409

Matthew Hoffman 62,334 20,409

Elisabeth Hoffman 62,333 20,409

 Totals 899,263 294,434 

24Interest was factored into the property tax liability

because Mr. Hoffman was funding the property tax payments. 

25This figure consists of $360,000 of property taxes and

$206,992 of interest on the property taxes.

Matthew Hoffman 62,334 7.61% 1/01/2012

Elisabeth Hoffman 62,333 7.61% 1/01/2012

 Total 899,263

Mr. Mitchell discounted the face value of each note plus the

accrued interest thereon. Mr. Mitchell determined that the total

discounted value of the notes payable was $294,434, based on his

appraisal of the promissory notes payable to decedent and Hoffman

Associates.23 Mr. Mitchell also determined that the combined

value of property taxes on the Cathead property and the interest

liability24 which would accrue with respect to additional debt as

a result of the payment of taxes, as of January 1, 2012, would be

$566,99225 and discounted this figure using the same 12.5-percent
- 30 -

26The estate does not object to the percentage figures used

by Mr. Mitchell in applying the lack of marketability and

minority interest discounts. Mr. Mitchell combined the two

discounts, resulting in a combined discount rate of 46.7 percent,

which he rounded up to 47 percent.

27We note that respondent’s valuation is more than 25

percent less than the value determined as of Dec. 31, 1993, in

the financial statement prepared for Mr. Hoffman by his

accountant.

rate applied to the promissory notes, resulting in a liability of

$73,609 as of the valuation date. Mr. Mitchell subtracted the

discounted value of the notes payable, the property taxes and

interest, and the $499 accounts payable from the fair market

value of Clubside’s assets, and arrived at a net asset value of

$2,319,634. Mr. Mitchell felt that a 35-percent lack of

marketability discount and an 18-percent minority interest

discount were appropriate for Clubside.26 Mr. Mitchell

determined that the aggregate value of Clubside was $1,229,406

and that the fair market value of decedent’s 27.5-percent

interest was $338,000.27

Mr. Bishop determined the value of decedent’s partnership

interest in a different manner. He projected the sale of the

Cathead property over a period of 3 years. Then, Mr. Bishop

subtracted the amount of interest that would accrue on the

promissory notes and the amount of property taxes due on the

Cathead property after 3 years. Mr. Bishop assumed that the

value of the Cathead property would remain constant at
- 31 -

28As we noted earlier, Mr. Bishop testified that he made an

error in his valuation and that the corrected value of the

partnership interest was $289,913.

$2,547,092, and he estimated that property taxes and interest on

the promissory notes would amount to $250,000 after 3 years. The

net amount, $2,297,092, was the value he determined the

partnership would have after 3 years. Mr. Bishop felt that a

knowledgeable investor would require a 30-percent annual return

on such an investment based on the following assumptions: (1)

The interest was an illiquid minority interest in a family

partnership that would be difficult to market; (2) the only

source of cash-flow would be from the sale of real property, and

no such sales had taken place as of the valuation date; (3) the

holders of the remaining 72.5 percent of the partnership were

related, would manage the affairs in a responsible manner, and

Mr. Hoffman would continue to provide the cash to the partnership

to pay property taxes; and (4) the notes and accrued interest

thereon would total over $2 million by the year 2012, making a

cash return on the partnership equity unlikely. Application of a

30-percent return over 3 years, as adjusted for decedent’s 27.5-

percent interest, yielded a fair market value for decedent’s

partnership interest of $290,582.28

We are not persuaded by the reports and testimony of Mr.

Bishop with respect to the value of decedent’s interest in

Clubside. Mr. Bishop relied on the value assigned to the Cathead
- 32 -

29Mr. Bishop did not adjust the value of the Cathead

property upward, despite testifying and stating in his valuation

report that he spoke with real estate agents who told him that

property values in this area of Lake Michigan were stable with

modest appreciation.

property by the Carbonell and Tarnow report.29 The Carbonell and

Tarnow report determined the value of the Cathead property based

on a sale of all parcels of the Cathead property over a 5-year

period and with a 9-percent required rate of return. However, in

valuing decedent’s interest in Clubside, Mr. Bishop projected a

sale of all parcels of the Cathead property over a 3-year period

and with a 30-percent required rate of return. The estate failed

to explain why it used a 3-year period when it relied on the

Carbonell and Tarnow report which used a 5-year period. In

support of a 30-percent rate of return, Mr. Bishop testified that

he used that figure based on his experience and judgment, and the

fact that Clubside was a closely held family partnership with no

basic agreements to sell anything. We find Mr. Bishop’s 30-

percent rate of return over 3 years to be excessive based on the

facts before us. Mr. Bishop stated in his valuation report that

he had discussions with real estate brokers located near the

Cathead property who told him that property values in that

vicinity of the Lake Michigan coastline area were stable with

modest appreciation. The estate presented no evidence to justify

a 30-percent rate of return.
- 33 -

The estate’s valuation of Clubside was based on assumptions

unsupported by the record and was inconsistent in utilizing the

value of the Cathead property. Conversely, Mr. Mitchell’s

analysis of the value of Clubside was thorough and supported by

the evidence in the record. After reviewing all the evidence in

the record, we agree with Mr. Mitchell’s analysis and hold that

the value of decedent’s 27.5-interest in Clubside was $338,000 as

of the valuation date.

3. Value of Stock in WLI

Respondent determined that the value of decedent’s 770

shares of stock in WLI was $534,000, without regard to the

guaranty provision. The estate determined that the value of

decedent’s 770 shares of stock in WLI was $316,740, without

regard to the guaranty provision. Respondent raised the issue of

the correct value of decedent’s stock interest in WLI after the

issuance of the notice of deficiency and agrees that he bears the

burden of proof with respect to this issue. See Rule 142(a);

Shea v. Commissioner, 112 T.C. 183, 191 (1999).

In the absence of arm’s-length sales, the value of closely

held stock is determined indirectly by weighing the corporation’s

net worth, prospective earning power, dividend-paying capacity,

and other relevant factors. See Estate of Andrews v.

Commissioner, 79 T.C. 938, 940 (1982); sec. 20.2031-2(f), Estate

Tax Regs. Additionally, the rights, restrictions, and
- 34 -

limitations of the various classes of stock must be considered in

making valuation determinations. See Estate of Newhouse v.

Commissioner, 94 T.C. 193, 218 (1990); Estate of Anderson v.

Commissioner, T.C. Memo. 1988-511. The factors to be considered

are those that an informed buyer and an informed seller would

take into account. See Hamm v. Commissioner, 325 F.2d 934, 940

(8th Cir. 1963), affg. T.C. Memo. 1961-347.

Respondent relied on his appraiser, Mr. Mitchell, who valued

WLI using a capitalized income analysis. The key components

under Mr. Mitchell’s capitalized income analysis were: (1) The

determination of a reasonable level for net profits or net cashflow; (2) an appropriate cost of capital; and (3) a reasonable

rate of growth for the profit stream. Mr. Mitchell relied on

relevant financial information of WLI for 1991, 1992, and 1993,

to determine the value of the WLI stock. 

Mr. Mitchell examined the revenues and expenses associated

with WLI’s operations for the years 1991, 1992, and 1993, and,

after averaging the 3 years, he concluded that a reasonable level

for net profits or net cash-flow, before tax, was $630,000. In

order to reach this conclusion, Mr. Mitchell adjusted WLI’s

earnings for 1993 to reflect intercompany transactions with SCC,

but he did not adjust WLI’s earnings for 1991 or 1992 to account

for intercompany transactions with SCC and affiliates.
- 35 -

30The capital asset pricing model (CAPM) is utilized to

estimate a discount rate by adding the risk-free rate, an

adjusted equity risk premium, and a specific risk or unsystematic

risk premium. The company’s debt-free cash-flow is then

multiplied by the discount rate to estimate the total return an

investor would require compared to other investments. See Estate

of Klauss v. Commissioner, T.C. Memo. 2000-191 (citing Furman v.

Commissioner, T.C. Memo. 1998-157).

31The application and utility of beta has been described in

the following terms:

Beta, a measure of systematic risk, is a function of

the relationship between the return on an individual

security and the return on the market as a whole. 

Betas of public companies are frequently published, or

can be calculated based on price and earnings data.

Because the calculation of beta requires historical

pricing data, beta cannot be calculated for stock in a

closely held corporation. The inability to calculate

beta is a significant shortcoming in the use of CAPM to

value a closely held corporation; this shortcoming is

most accurately resolved by using the betas of

comparable public companies. * * * [Furman v.

Commissioner, T.C. Memo. 1998-157; citation and fn.

ref. omitted.] 

In order to determine the cost of capital, Mr. Mitchell

utilized the capital asset pricing model (CAPM).30 In his CAPM

analysis, Mr. Mitchell determined a risk-free rate of return and

added this to the product of beta31 and a market risk premium. 

Mr. Mitchell then added an unsystematic risk premium to account

for WLI’s status as a small company. Mr. Mitchell used a 7.5-

percent risk-free rate of return based on the market yield of 30-

year U.S. Treasury bonds as of the valuation date. He determined

the market risk premium using historical data published in

Stocks, Bonds, Bills and Inflation by Ibbotson Associates. On
- 36 -

32Beta is calculated by comparing the movement in the

returns of stock against the movement in returns of the stock

market as a whole, which has a beta of 1. A beta of 1 means that

the company and the market are of equal risk; a beta greater than

1 means that the company is riskier than the market. See Smith

v. Commissioner, T.C. Memo. 1999-368.

the basis of this information, Mr. Mitchell concluded that a

market risk premium of 7.2 percent was appropriate. This figure

reflected the average annualized total return on equity

investments in excess of the average annualized bond yield return

on long-term government bonds over the period January 1926 to

December 1993. Mr. Mitchell estimated a beta of 1.032 because he

could not obtain a reliable estimate of beta from comparable

publicly traded stocks. Mr. Mitchell also relied on data from

Ibbotson Associates to determine the additional 5.3-percent

premium for unsystematic risk to account for investment in a

small company stock. Application of the risk percentages and

beta produced a cost of capital of 20 percent. Mr. Mitchell felt

that 3 percent reflected an appropriate rate of growth based on

the inflation rate. To determine the appropriate multiplier, Mr.

Mitchell took 1 and divided it by the cost of capital minus the

growth rate. This yielded a capitalization factor of 1 divided

by .17, or the equivalent of a multiplier of approximately 5.9. 

Applying the 5.9 multiplier to the equity cash-flow of $630,000,

and dividing by the number of outstanding shares, 3,480, Mr.

Mitchell concluded that the per share value of WLI was $1,068. 
- 37 -

Mr. Mitchell applied a 35-percent discount for lack of

marketability, reducing the per share value of WLI to $694. Mr.

Mitchell multiplied the per share value by the 770 shares owned

by decedent and concluded that the approximate value of

decedent’s stock interest in WLI, as of August 18, 1994, was

$534,000.

The use of CAPM is questionable when valuing small, closely

held companies. This Court has recently observed:

We do not believe that CAPM * * * [is] the proper

analytical [tool] to value a small, closely held

corporation with little possibility of going public. 

CAPM is a financial model intended to explain the

behavior of publicly traded securities that has been

subjected to empirical validation using only historical

data of the two largest U.S. stock markets. * * *

[Furman v. Commissioner, T.C. Memo. 1998-157.] 

See also Estate of Klauss v. Commissioner, T.C. Memo. 2000-191

(rejecting use of CAPM to value small, closely held corporation

with little possibility of going public); Estate of Maggos v.

Commissioner, T.C. Memo. 2000-129 (same); Estate of Hendrickson

v. Commissioner, T.C. Memo. 1999-278 (same). As of the valuation

date, WLI was an S corporation with five shareholders owning all

its outstanding stock. In his valuation of WLI, Mr. Mitchell

states that WLI “would not have been expected to pursue a public

offering of its stock.” The only reference in the record to the

possibility of WLI going public is found in Mr. Hoffman’s

testimony regarding the guaranty obligation, wherein he stated

that the guaranty obligation, as it related to the potential
- 38 -

33Alternatively, Mr. Mitchell noted that the 5.3-percent

risk premium could be viewed as increasing the market risk

premium to 12.5 percent.

corporate distributions from SCC and WLI, was intended to provide

for decedent in her later years because at sometime in the future

the corporations presumably “would have gone public”. On the

basis of the evidence in the record, we believe WLI had little

possibility of going public as of the valuation date. See Estate

of Klauss v. Commissioner, supra.

In his report and testimony, Mr. Mitchell stated that a beta

of 1.0 was chosen as an estimate because no reliable, comparable

companies could be found. In his analysis, Mr. Mitchell

augmented the market risk premium to account for investment in a

small company stock. Mr. Mitchell testified that such an

increased risk premium is the same as applying a beta of 1.74, or

a beta indicating a higher level of risk than market average, and

that the risk premium was intended to compensate for the

inability to estimate the beta of WLI.33 Mr. Mitchell’s report

states that 5.3 percent is equivalent to the premium for

investing in small company stocks as calculated by Ibbotson

Associates, but Mr. Mitchell did not explain why such a figure is

appropriate for WLI specifically. Mr. Mitchell assumed that a

beta of 1.0 was an appropriate estimate to use in valuing the WLI

stock under CAPM because he could not find any comparable

publicly traded stocks. As we noted earlier, the failure to
- 39 -

34Mr. Mitchell testified that he did not know for a fact

that the approximately $250,000 in intercompany profits should be

subtracted from WLI’s earnings but that he went ahead and did it

to be conservative.

calculate beta is a significant shortcoming in the use of the

CAPM to value a closely held corporation. See Furman v.

Commissioner, supra. Mr. Mitchell did not provide support for

the amount of the additional risk premium, other than citing the

source of the amount used, and he simply assumed a beta equal to

market risk. In the instant case, respondent has failed to

provide the evidence necessary for us to determine whether use of

CAPM was appropriate, and whether the figures used in his

calculations were reliable. See, e.g., Estate of Klauss v.

Commissioner, supra; Estate of Maggos v. Commissioner, supra;

Estate of Hendrickson v. Commissioner, supra; Furman v.

Commissioner, supra.

Respondent’s valuation determination was also unclear in

another aspect. Mr. Mitchell subtracted intercompany profits

only for 1993 when determining WLI’s earnings.34 Mr. Mitchell

stated that he was being conservative with respect to the net

earnings of WLI for 1993 and that is why he subtracted the

intercompany profits. Mr. Mitchell explained that it was

appropriate to subtract the intercompany profits for 1993

because, for financial reporting purposes, the activities of WLI

were combined with other entities having common ownership while
- 40 -

35In his valuation report, Mr. Mitchell identified sales of

lots and bulk parcels of lands made by WLI to SCC and affiliates. 

According to Mr. Mitchell’s report, the difference between the

sales prices and the costs of the properties was $665,247 for

1991 and $788,042 for 1992.

WLI’s activities were reported individually for 1991 and 1992 for

financial purposes. Mr. Mitchell testified that he did not

adjust WLI’s net earnings for intercompany profits for 1991 and

1992, despite acknowledging that there were intercompany profits

for those years.35 Mr. Mitchell explained that he used the

earnings figures for 1991 and 1992 that were in the audit of WLI

and that this information is what a shareholder would rely on. 

He testified that intercompany profits from a related entity

should not be eliminated from earnings unless it is assumed that

such profits would not continue in the future.

Mr. Mitchell agreed that WLI had intercompany profits for

1991, 1992, and 1993, from transactions with SCC and affiliates

and that it is possible that such transactions could result in

the undervaluation of SCC. If SCC is undervalued as a result of

the transactions with WLI, then it is possible that the

intercompany transactions increasing the profits of WLI could

result in the overvaluation of WLI. After reviewing all the

evidence in the record, we find that respondent has not

established that the intercompany profits did not distort the

value of WLI for 1991, 1992, and 1993, and we are not willing to

rely solely on Mr. Mitchell’s assumption that any intercompany
- 41 -

profits earned by WLI for 1991 and 1992 did not need to be

accounted for in his valuation analysis. Because respondent has

failed to establish a fair market value above the amount reported

on the estate tax return, we hold for the estate on this issue.

To reflect the foregoing,

Decision will be entered

under Rule 155.