1 Cases of the following petitioners are consolidated

herewith: John M. Barnes, Donor, docket No. 13851-96; Edwin L.

Barnes, Donor, docket No. 13852-96; Frank S. Barnes, Jr., Donor,

docket No. 13856-96; Mary Anne G. Barnes, Donor, docket No.

13857-96; Jean D. Barnes, Donor, docket No. 13896-96; Vera W.

Helmly, Donor, docket No. 14049-96; and Robert L. Helmly, Donor,

docket No. 14050-96.

T.C. Memo. 1998-413

UNITED STATES TAX COURT

LOUISE B. BARNES, DONOR, ET AL.,1 Petitioners

v. COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket Nos. 13850-96, 13851-96, Filed November 17, 1998. 

 13852-96, 13856-96,

 13857-96, 13896-96,

 14049-96, 14050-96.

David D. Aughtry and David W. Siegel, for petitioners. 

Eric B. Jorgensen and Amy Campbell, for respondent.
-2-

MEMORANDUM FINDINGS OF FACT AND OPINION

COLVIN, Judge: Respondent determined deficiencies in

petitioners' gift tax for 1992 as follows:

 Taxpayer Docket number Deficiency

Louise Barnes 13850-96 $169,039

John M. Barnes 13851-96 169,143

Edwin L. Barnes 13852-96 169,039

Frank S. Barnes, Jr. 13856-96 196,226

Mary Anne G. Barnes 13857-96 196,226

Jean D. Barnes 13896-96 169,143

Vera W. Helmly 14049-96 133,350

Robert L. Helmly 14050-96 133,350

The issues for decision are:

1. Whether the fair market value of Home Telephone Co.

voting common stock in January and December 1992 was $389 per

share, as respondent contends; $216.56 per share, as petitioners

contend; or some other amount. We hold that it was $227.41 per

share.

2. Whether the fair market value of Rock Hill Telephone

Co. nonvoting common stock in December 1992 was $410 per share,

as respondent contends; $186.55 per share on December 22, 23, and

26, 1992, and $179.03 per share on December 30, 1992, as

petitioners contend; or some other amount. We hold that it was

$201.12 per share on December 22, 23, and 26, 1992, and $193.34

per share on December 30, 1992.

Section references are to the Internal Revenue Code in

effect for the year in issue. Rule references are to the Tax

Court Rules of Practice and Procedure.
-3-

I. FINDINGS OF FACT

A. Petitioners

Petitioners lived in South Carolina when they filed the

petitions in these cases.

Edwin L. Barnes and Louise Barnes are married. Frank S.

Barnes, Jr., and Mary Anne G. Barnes are married. John M. Barnes

and Jean D. Barnes are married. Edwin, Frank, and John Barnes

are brothers and are the children of Francis May Barnes and Frank

S. Barnes, Sr. They are the grandsons of E.L. and Mary Sanders

Barnes.

Ladson A. Barnes, Sr., who was one of three sons of E.L.

Barnes, died on March 11, 1984. Ladson A. Barnes, Jr., was the

son of Ladson A. Barnes, Sr.

Vera W. Helmly and Robert L. Helmly (the Helmlys) are

married.

B. Rock Hill Telephone Co.

Rock Hill Telephone Co. (Rock Hill) was organized in 1894

under the laws of South Carolina. It is primarily engaged in the

business of providing local telephone service in the city of Rock

Hill, South Carolina, and in York and Chester counties.
-4-

2 On Dec. 22, 1992, immediately before the gifts in

question, the voting common stock of Rock Hill was held as

follows:

Shareholder Number of shares Percentage

Estate of Ladson A. Barnes 33,348 41.69%

Edwin L. Barnes 13,866 17.33

John M. Barnes 13,867 17.33

Frank S. Barnes, Jr. 13,867 17.33

Rebecca B. Francis, Trustee 3,000 3.75

 for Ladson Barnes, Jr., Trust

Oma W. Barnes 1,655 2.07

Ladson A. Barnes, Jr. 397 .50

 Total 80,000 100.00%

3 On Dec. 22, 1992, immediately before the gifts in

question, the nonvoting common stock of Rock Hill was held as

follows:

Shareholder Number of shares Percentage

Estate of Ladson A. Barnes 68,198 41.39%

Edwin L. Barnes 18,893 11.47

John M. Barnes 18,156 11.02

Frank S. Barnes, Jr. 18,198 11.05

Rebecca B. Francis, Trustee 0 0

Oma W. Barnes 3,262 1.98

Ladson A. Barnes, Jr. 6,340 3.85

Edwin L. Barnes, Jr. 1,536 0.93

Mary Lea B. Tyler 1,645 1.00

(continued...)

1. Ownership of Rock Hill

At all times relevant to this case, Rock Hill had

outstanding 80,000 shares of voting stock2 and 164,760 shares of

nonvoting common stock.3 The members of Rock Hill's board of
-5-

3(...continued)

Estate of Francis M. Barnes 13,642 8.28

Charles Douglas Barnes 1,831 1.11

Anne B. Grant 1,645 1.00

Bryant G. Barnes 1,620 0.98

Frank S. Barnes, III 1,620 0.98

Mary Anne G. Barnes 430 0.26

Louise B. Barnes 580 0.35

Susan Sanders Barnes 1,500 0.91

Frances Talbert Barnes 1,536 0.93

Jean D. Barnes 430 0.26

John M. Barnes, Jr. 1,831 1.11

J. Barnes, Jr., & C. Barnes,

 Trustees 338 0.21

Jean S. Barnes 1,493 0.91

Susan B. Ellis 36 0.02

 Total 164,760 100.00%

directors were Frank Barnes, Jr., John Barnes, Willard K.

Gaillard, Edwin Barnes, and Ladson Barnes, Jr.

In 1912, E.L. Barnes acquired the stock of Rock Hill. Rock

Hill has been owned and operated by the Barnes family for more

than 80 years. The Barnes family has taken steps (described

below) to preserve its control of Rock Hill. There have been no

sales of Rock Hill common stock since 1912.

Frank Barnes, Jr., and Edwin Barnes began working for Rock

Hill in 1946. Frank Barnes, Jr., was president, chief executive

officer, and chairman of the board of directors in 1992. Edwin

Barnes was its secretary and treasurer in 1992. John Barnes was

one of Rock Hill's vice presidents in 1992.

Four members of the fourth generation of the Barnes family

(i.e., great-grandchildren of E.L. Barnes) worked for Rock Hill
-6-

in 1992. A member of the fifth generation works for Fort Mill, a

subsidiary of Rock Hill.

2. The Voting Trust

Frank Barnes, Jr., and his brothers intend to keep Rock Hill

as a family owned business. They control Rock Hill through a

voting trust. Frank Barnes, Sr., created the voting trust on

April 30, 1964, to ensure that 52 percent of Rock Hill's voting

stock would vote as a unit. Frank Jr., Edwin, and John (the

Barneses), are the trustees of the trust and together own 52

percent of the voting stock of Rock Hill.

In 1992, the Barneses considered forming a holding company

to ensure that Rock Hill would remain in the family. They also

bought insurance (at a time not stated in the record) to avoid

being required to sell shares of Rock Hill to pay death taxes.

3. Rock Hill's Affiliates and Subsidiaries

In 1992, Rock Hill owned the following percentage of common

stock in Fort Mill Telephone Co., Lancaster Telephone Co., and

Home Telephone Co.:

Percent owned

by Rock Hill

Fort Mill Telephone Co. (Fort Mill) 48.0%

Lancaster Telephone Co. (Lancaster) 49.2

Home Telephone Co. (Home) 49.8
-7-

The Fort Mill, Lancaster, and Home service areas are

predominantly rural. The Fort Mill and Lancaster service areas

are contiguous. Fort Mill provides service in York county. 

Lancaster provides service in Lancaster and Chester counties. 

Home is located in Moncks Corner, South Carolina, and provides

services in parts of Berkeley, Dorchester, and Orangeburg

counties.

Rock Hill has three television cable company subsidiaries: 

Great Falls Cablevision, Inc.; Carolina Telecom Services, Inc.;

and Winnsboro/Ridgeway Cablevision, Inc. It also has three

wholly owned subsidiaries (Associated Data Services, Inc.;

Stenseth Directory Service, Inc.; and Associated Telecom, Inc.),

that provide services to the cable television and

telecommunications industry.

4. Telephone Services Provided by Rock Hill

In 1949, Rock Hill converted its local service network to

dial service. It installed electromechanical toll switching

equipment in 1968, and began offering touch tone service in 1971.

Rock Hill replaced all of its electromechanical switching

equipment with digital electronic switching equipment between

1981 and 1990. After it installed digital equipment, Rock Hill

offered new services including call waiting, call forwarding, and

conference calling. Rock Hill was converting from copper wires

to fiber optics technology in December 1992.
-8-

4 Rock Hill's financial statement for 1987 and 1988 audited

by KPMG Peat Marwick shows capital expenses of $5,410,879 for

1988. The audited financial statement for 1988 and 1989 shows

capital expenses of $5,680,152 for 1988. The record does not

explain the $269,273 difference.

Rock Hill had capital expenses of $5,605,184 in 1987,

$5,410,879 in 1988,4 $13,199,725 in 1989, $14,605,033 in 1990,

and $6,340,042 in 1991.

Rock Hill's rates for local telephone service and special

products are set by the South Carolina Public Service Commission

(SCPSC). The SCPSC also regulates all intrastate service rates.

Rock Hill maintained 36,820 access lines on December 31,

1991. Each of these lines has access to inter-exchange carriers

such as AT&T, MCI, and Sprint. Rock Hill also owns a 5-percent

interest in a consortium that provides cellular telephone service

in rural South Carolina.

5. Dividends

From 1987 to 1992, Rock Hill paid common stock dividends as

follows:

Total amount Dividends

Year of dividends per share

1987 $550,710 $2.25

1988 660,852 2.70

1989 709,804 2.90

1990 819,946 3.35

1991 893,374 3.65

1992 2,937,120 112.00

1 This includes $8 for a special nonrecurring dividend which

Rock Hill declared on Dec. 29, 1992, payable on Dec. 30, 1992.
-9-

5 Immediately before the gifts in question, Home common

stock was held as follows:

Shareholder Number of shares Percentage

Rock Hill 38,800 49.77%

Robert L. Helmly, Sr. 11,772 15.10

Vera W. Helmly 4,145 5.32

Edwin L. Barnes 2,073 2.66

John M. Barnes 1,890 2.42

Frank S. Barnes, Jr. 1,626 2.09

D.C. Bishop 1,600 2.05

Estate of Harold H. Harvey 1,600 2.05

F.M. and Winona Peagler 1,200 1.54

Lisa Helmly 1,045 1.34

John C. Guerry, Sr. 1,000 1.28

Wanda Helmly Davis 840 1.08

Ladson A. Barnes, Jr. 814 1.04

Richard E. Briscoe 800 1.03

Robert L. Helmly, Jr. 780 1.00

Rebecca B. Francis, Trustee 721 0.92

William Shellie Helmly 680 0.87

Sara Helmly Carroll 505 0.65

Dozier H. Helmly 500 0.64

Jewel O. Helmly 500 0.64

Estate of Francis M. Barnes 460 0.59

Bryant G. Barnes 320 0.41

Frank S. Barnes, III 320 0.41

Estate of Ladson A. Barnes 320 0.41

George F. Briscoe 320 0.41

Anne Fishburne Briscoe 320 0.41

Richard E. Briscoe, III 320 0.41

Mary Anne G. Barnes 282 0.36

Stephen Shellie Helmly 240 0.31

Winona H. Peagler 228 0.29

Mary Elizabeth Williams Littlefield 160 0.21

Charles D. Barnes 138 0.18

(continued...)

C. Home Telephone Co.

1. Ownership of Home

At all times relevant to this case, Home had 77,960

outstanding shares of voting stock,5 and the members of Home's 
-10-

5(...continued)

John M. Barnes, Jr. 138 0.18

Jean S. Barnes 137 0.18

Wandell K. Harvey 116 0.15

Carroll H. Harvey 114 0.15

Troy M. Harvey 114 0.15 

Bennie H. Ordel 114 0.15

Patricia H. Welch 114 0.15

Lila G. Bobo 110 0.14

Edwin L. Barnes, Jr. 104 0.13

Frances T. Barnes 104 0.13

Susan S. Barnes 104 0.13

S.A. or Virginia Helmly 100 0.13

Mary Lea Tyler 100 0.13

Jean D. Barnes 82 0.11

Julie Elizabeth Helmly 80 0.10

Melissa Grace Davis 10 0.01

 Total 77,960 100.00%

board of directors were Frank Barnes, Jr., John Barnes, Edwin

Barnes, Robert Helmly, and Dozier Helmly.

Home was formed in 1904 in Moncks Corner. It was later

incorporated as St. Johns Telephone Co. (St. Johns). In 1916, a

local electric utility bought St. Johns. Mary Winter Briscoe

(Briscoe) bought St. Johns and named it Home Telephone Co. in

1939. Home had 150 subscribers at the beginning of World War II.

In 1947, Briscoe sold Home to her daughter and son-in-law,

Thelma and S.S. Helmly, the parents of Robert Helmly, Sr. At the

end of World War II, Home obtained a loan from the Rural

Electrification Administration to expand its services. The loan

enabled Home to install its first dialing system.

Robert Helmly, Sr., began to work for Home when he was

discharged from the Navy in 1953. In 1962, Thelma and S.S.
-11-

Helmly sold their shares of stock in Home to their sons Robert

and Dozier. Robert is president and chief executive officer of

Home. Dozier has been a director since 1979.

In 1991, Dozier sold some of his Home stock back to the

company for $252 per share, an amount that was a little above

book value.

In 1992, Home's largest shareholder was Rock Hill.

2. Telephone Services Provided by Home

Home installed its first digital line in 1966. By 1986, all

of Home's service was digital.

Home maintained 14,718 access lines on December 31, 1991. 

Each of these lines has access to inter-exchange carriers such as

AT&T, MCI, and Sprint.

Home's local telephone services rates are set by the SCPSC.

3. Home Telecom, Inc.

Home's wholly owned subsidiary, Home Telecom, Inc. (Home

Telecom), became a partner with another company (not otherwise

identified in the record) to provide cellular telephone service

in the Charleston Metropolitan Statistical Area (MSA). Home

Telecom is a 25-percent nonmanaging partner in Charleston-North

Charleston MSA, L.P. On December 31, 1991, Home Telecom had

about 10,160 customers.
-12-

4. Dividends

Robert Helmly has a conservative approach to paying

dividends. He believes that Home's primary obligations are to

modernize its plant and to reduce its debt. This philosophy is

similar to that of the management of Rock Hill.

From 1987 to 1992, Home paid dividends to holders of its

common stock as follows:

Total amount Dividends

Year of dividends per share

1987 $155,920 $2.00

1988 210,445 2.70

1989 327,931 4.20

1990 1,247,360 116.00

1991 467,760 6.00

1992 1,325,230 217.00

1 This includes $12 for a special nonrecurring dividend

resulting from the sale of Home's interest in Telecom U.S.A.

2 This includes $13 for a special nonrecurring dividend

resulting from concerns about impending tax law changes.

D. Petitioners' Gifts of Home and Rock Hill Stock

The Helmlys made the following gifts of Home stock in 1992:

Percent of

No. of shares Donee stock 

Gifts on 1/28/92:

100 Wanda Helmly Davis .128%

100 Lisa Ann Helmly .128
-13-

Gifts on 12/29/92:

800 Robert Helmly Jr., trust 1.03

800 William Helmly trust 1.03

800 Wanda Helmly Davis trust 1.03

800 Robert Helmly Jr., trust 1.03

800 William Helmly trust 1.03

800 Lisa Ann Helmly trust 1.03

800 Wanda Helmly Davis trust 1.03

800 Lisa Ann Helmly trust 1.03

100 Jason Cole Davis trust .128

100 Robin E. Helmly trust .128 

100 Phallan Nicole Helmly trust .128

100 Arden Lin Helmly trust .128

100 William Travus Helmly trust .128

100 Preston Fhorest Helmly trust .128

100 Melissa Grace Davis .128

Mary Anne and Frank Barnes made the following gifts of Rock

Hill stock in 1992:

Percent of

No. of shares Donee nonvoting stock

Gifts on 12/22/92:

 1,470 Frank S. Barnes III .89%

 1,470 Bryant G. Barnes .89

 1,470 Anne B. Grant .89

 1,470 Mary Lea B. Taylor .89

Gifts on 12/30/92:

 80 Rita B. Shaw trust .049

 80 James Bryant Grant trust .049

 80 Benjamin Lea Grant trust .049

 80 Catherine Iverson Grant trust .049

 80 Michael Francis Taylor trust .049

 80 Robert Graves Taylor trust .049

 80 David Bryant Barnes trust .049

 80 Emily Ann Barnes trust .049

 80 Amanda Emily Barnes trust .049
-14-

On December 30, 1992, Frank Barnes gave 6,000 shares of Rock

Hill nonvoting common stock to Mary Anne Barnes. This stock was

about 2.45 percent of the total authorized and issued common

(both voting and nonvoting) stock, and about 3.64 percent of the

total nonvoting common stock.

Louise and Edwin Barnes made the following gifts of Rock

Hill stock on December 23, 1992:

Percent of

No. of shares Donee stock 

 1,900 Susan B. Ellis 1.15%

 1,900 Frances T. Barnes 1.15

 1,900 Edwin Barnes, Jr. 1.15

On December 31, 1992, Edwin Barnes gave 4,500 shares of Rock

Hill nonvoting common stock to Louise Barnes. This stock was

about 1.84 percent of the total authorized and issued common

(both voting and nonvoting) stock, and about 2.73 percent of the

total nonvoting common stock.

Jean and John Barnes made the following gifts of Rock Hill

stock on December 26, 1992:

Percent of

No. of shares Donee stock 

 1,900 John Barnes, Jr. 1.15%

 1,900 Jean S. Barnes trust 1.15

 1,900 Charles D. Barnes trust 1.15

On December 31, 1992, John Barnes gave 4,500 shares of Rock

Hill nonvoting common stock to Jean Barnes. This stock was about

1.84 percent of the total authorized and issued common (both
-15-

6 The AUS appraisals were admitted into evidence for the

limited purpose of showing that they were sources of the factual

descriptions of Home and Rock Hill used in the report prepared by

respondent's expert.

voting and nonvoting) stock, and about 2.73 percent of the total

nonvoting common stock.

Rock Hill stock and Home stock were not registered or traded

on the New York Stock Exchange, the American Stock Exchange,

NASDAQ, over the counter, or listed in National Quotation Bureau

price reports (the pink sheets).

E. Petitioners' Gift Tax Returns and the Notices of Deficiency

The Helmlys each agreed to treat each of their gifts as

being made one-half by the other under section 2513. Mary Ann

and Frank Barnes, Louise and Edwin Barnes, and Jean and John

Barnes also elected to split their gifts under section 2513.

AUS Consultants, Valuation Services Group (AUS),6 estimated

that the fair market value of Home's common stock was $230 in

1992. Based on that estimate, the Helmlys each reported on their

1992 gift tax returns that the fair market value of Home's stock

was $230 per share.

AUS estimated that the fair market value of Rock Hill's

nonvoting common stock was $220 on December 1, 1992. Based on

that estimate, Frank and Mary Anne Barnes each reported on their

1992 gift tax returns that the fair market value of Rock Hill's

stock was $220 per share, and Louise and Edwin Barnes and John
-16-

7 Petitioners bear the burden of proving that respondent's

determinations in the notices of deficiency are erroneous, Welch

v. Helvering, 290 U.S. 111, 115 (1933), and respondent bears the

burden of proving the increased gift tax deficiencies resulting

from respondent's amended answers. Rule 142(a). However, on

this record, our conclusions are not affected by who bears the

burden of proof. 

and Jean Barnes each reported on their 1992 gift tax returns that

the fair market value of Rock Hill's stock was $221 per share.

II. OPINION

The issues for decision are the fair market values of Home

and Rock Hill stock that petitioners gave to their children and

grandchildren in 1992.

A. Fair Market Value

Fair market value is 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 the relevant facts. United States

v. Cartwright, 411 U.S. 546, 551 (1973); sec. 25.2512-1, Gift Tax

Regs. The fair market value of stock is a question of fact.7

Hamm v. Commissioner, 325 F.2d 934, 938 (8th Cir. 1963), affg.

T.C. Memo. 1961-347. If selling prices for stock in a closely

held corporation which is not listed on any exchange are not

available, then we decide its fair market value by considering

factors such as the company's net worth, earning power, dividendpaying capacity, management, goodwill, position in the industry,
-17-

the economic outlook in its industry, and the values of publicly

traded stock of comparable corporations. Estate of Andrews v.

Commissioner, 79 T.C. 938, 940 (1982); see sec. 25.2512-2(f),

Gift Tax Regs. The weight to be given to these or other

evidentiary factors depends on the facts of each case. Sec.

25.2512-2(f), Gift Tax Regs.

B. Expert Testimony

Both parties called expert witnesses to give their opinions

about the value of the Home and Rock Hill stock that petitioners

gave to their children and grandchildren in 1992. We may accept

or reject expert testimony according to our own judgment, and we

may be selective in deciding what parts of an expert's opinion,

if any, we will accept. Parker v. Commissioner, 86 T.C. 547, 562

(1986).

The expert witnesses at trial were: Dr. Scott D. Hakala

(Hakala), for respondent, and George B. Hawkins (Hawkins), for

petitioner. Their opinions and the positions of the parties as

to the per share value of Home and Rock Hill stock at issue in

these cases are as follows:
-18-

Company

Application of

discounts

Petitioners'

returns/

petition

Petitioners'

expert

Hawkins

Deficiency

notices

Amended

answers

Respondent's

expert

Hakala

Home

stock

prediscounted

value

$360.93 $518

lack of

marketability

40% 25%

discounted

value

$230 $216.56 $351 $344 $389

Rock Hill

stock

prediscounted

value

$336.96 $546

lack of

marketability

45% 25%

lack of voting

power

3.66% 5%

discounted

value

$220/$221 1$186.55 $375 $386 $410

1 Hawkins said that Rock Hill stock was worth $179.03 per share

as of Dec. 30, 1992, because of the $8 special dividend payable on

Dec. 30, 1992.
-19-

8 The income capitalization method is used to estimate the

fair market value of income-producing property by considering the

present value of the future stream of income to be produced by

that property. See Estate of Bennett v. Commissioner, T.C. Memo.

1989-681, affd. 932 F.2d 1285 (4th Cir. 1991).

9 The market or public guideline company method is used to

estimate the fair market value of a company's stock by comparing

it with the stock of similar, publicly traded (i.e., "guideline")

companies.

C. Stock Values Before Considering Discounts

1. Hawkins' Analysis

8 We believe Hawkins appropriately used the income

capitalization and market or public guideline company9 methods to

appraise Home and Rock Hill stock. He adjusted Home's and Rock

Hill's earnings per share to exclude the impact of unusual or

nonrecurring income and expense items.

Hawkins compared 10 local or regional publicly traded

telephone companies to Home and Rock Hill. From those companies

he derived multiples for price to latest year earnings, price to

3-year average earnings, price to latest year gross cash-flow,

price to 3-year average gross cash-flow, dividend yield or

capitalization of latest year's dividends, and dividend yield on

capitalization for 3-year average dividends. He properly

compared dividends paid by Home and Rock Hill to those paid by

the guideline companies, excluding special nonrecurring

dividends.
-20-

10 Dividend payout equals dividends (excluding special

dividends) per share divided by the net income available per

share. It measures the extent to which the company pays its

earnings to shareholders.

2. Importance of Dividend Yield

Respondent contends that Hawkins gave too much weight to the

capitalization of dividends and the capitalization of 3-year

average dividends multiples. Respondent points out that section

25.2512-2(f)(2), Gift Tax Regs., and Rev. Rul. 59-60, 1959-1 C.B.

237, state that dividend-paying capacity should be considered in

estimating the value of closely held stock, and that the

regulation does not say to consider actual dividends. Respondent

contends that the capitalization of dividends method is

unreliable and rarely used because the payment of dividends

allegedly has little effect on the price of stock. We disagree.

Hawkins gave more weight to actual dividends than to price

to earnings and price to gross cash-flow ratios because Home and

Rock Hill have significantly lower dividend payout ratios than

the guideline companies. The dividend payout rates10 of Rock

Hill (12.62 percent) and Home (25.03 percent) were considerably

less than that of other guideline companies, whose dividend

payout rates ranged from 27.78 percent to 85.31 percent. Six of

10 guideline companies paid dividends totaling more than 50

percent of their net income. Hawkins testified that a public
-21-

company that has a much greater dividend payout than Home and

Rock Hill will also have higher stock prices. Respondent made no

convincing argument in response.

A potential buyer of Home and Rock Hill stock would

reasonably assume that Home and Rock Hill would continue to pay

low dividends. A prospective minority shareholder of Home or

Rock Hill stock would almost exclusively consider dividend yield

rather than discounted cash-flow or income capitalization to

estimate the value of stock in either of these companies because

of the likelihood that he or she could only recoup his or her

investment through dividends. Hawkins properly considered

dividends to be the most significant factor because they are the

principal means by which a prospective shareholder could obtain a

return on his or her investment in Home and Rock Hill.

Where there are no sales available from which to ascertain

the fair market value of closely held stock, courts have

considered the amount of dividends which the corporation has

paid. See Estate of Newhouse v. Commissioner, 94 T.C. 193, 217

(1990); Estate of Leyman v. Commissioner, 40 T.C. 100, 119

(1963), remanded on other grounds 344 F.2d 763 (6th Cir. 1965);

Estate of Tebb v. Commissioner, 27 T.C. 671, 675 (1957); Estate

of Oman v. Commissioner, T.C. Memo. 1987-71 (Government expert

used valuation based in part on capitalization of dividends). 
-22-

11 A small stock premium is an increase in the discount rate

used to capitalize the earnings of the stock of small companies

(smaller than S&P 500) on the theory that their average rates of

return are higher than those of large companies. See Pratt,

Valuing a Business: The Analysis and Appraisal of Closely Held

Companies 165 (1996).

Dividends paid can be more important than dividend-paying

capacity in appraising minority interests because a minority

shareholder cannot force the company to pay dividends even if it

has the capacity to do so. Pratt, Valuing a Business: The

Analysis and Appraisal of Closely Held Companies 227 (1996).

Respondent relies on Driver v. United States, 76-2 USTC par.

13,155, 38 AFTR 2d 76-6315 (W.D. Wis. 1976), for the proposition

that dividends are not a significant factor in valuing closely

held stock. In Driver, the decedent made gifts of a majority of

the stock in a closely held telephone company in Wisconsin. The

donee of the stock in Driver received a majority interest in and

control of the company; in contrast, the donees of Rock Hill

nonvoting stock had no right to participate in any decision

related to the company, and the donees of Home stock had about 1

percent of the voting stock. Thus, the donees here could not

force the companies to pay dividends or salaries.

3. Small Stock Premium

Hawkins included a small stock premium11 of 5.1 percent in

calculating the discount rate he used to capitalize Home and Rock
-23-

Hill's historic earnings. Respondent contends that Hawkins

should not have included a small stock premium. We agree. In

Estate of Jung v. Commissioner, 101 T.C. 412, 444 (1993), we

declined to apply a small stock premium because the taxpayer's

expert did not provide evidence that an investment in the

corporation in question was riskier simply because of its small

size. Like the expert in Estate of Jung, Hawkins did not show

that Home and Rock Hill were riskier merely because they are

small. On the contrary, he concluded that Home and Rock Hill are

financially sound and that investments in Home and Rock Hill were

much less risky than in other comparably sized companies since

the business of Home and Rock Hill is highly regulated.

4. Hakala's Analysis

We believe that Hakala did not adequately consider that: 

(a) Neither Home nor Rock Hill stock is likely to be sold, (b)

the Barnes and Helmly families intend to retain control of their

companies, (c) Home and Rock Hill paid low dividends, (d) Rock

Hill nonvoting stock had no right to participate in any decision

related to the company and Home voting stock had about a 1-

percent vote that was ineffectual, and (e) an owner of a 1-

percent interest in either Home or Rock Hill would find it hard

to resell his or her interest. Hakala admitted that Rock Hill

will not be sold or taken public.
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12 Hakala did not use as comparables Concord Telephone, MidPlains Telephone, and North Pittsburgh Systems.

13 We denied respondent's posttrial motion to reopen the

record to supplement Hakala's report because of the risk of

prejudice to petitioners.

Hakala used the market or guideline company approach to

estimate the value of Home and Rock Hill stock, but he excluded

three companies that Hawkins used as comparables12 because he did

not have their market trading prices as of the valuation date. 

In contrast, Hawkins apparently easily obtained the stock prices

by contacting the companies.

Because of errors in preparing Hakala's report, key data

relating to the discounted cash-flow method for Home and Rock

Hill was not available at trial for petitioners to crossexamine.13 Thus, we could not consider Hakala's discounted cashflow method without prejudicing petitioners. We could consider

only Hakala's market guideline method, which weakened the

persuasiveness of his opinion.

Unlike Hawkins, Hakala did not visit Home or Rock Hill,

interview the management of Home or Rock Hill, or make any other

factual investigation.

5. Conclusion

We conclude that Hawkins' methodology was reasonable, except

for his use of a small company stock premium.
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D. Discounts

1. Lack of Marketability

A discount for lack of marketability may apply to minority

interests in closely held corporations because there is no ready

market for those shares. Estate of Andrews v. Commissioner, 79

T.C. at 953. Respondent agrees that petitioners are entitled to

lack of marketability discounts for Home and Rock Hill stock.

Hawkins applied a 40-percent discount for lack of

marketability to his estimate of the value ($360.93) of the Home

stock, and a 45-percent discount to the value ($337.87) of the

Rock Hill stock. Hakala applied discounts of 25 percent for lack

of marketability to his estimate of the values of the Home ($518)

and Rock Hill ($546) stock.

We agree with Hawkins' use of 40 and 45 percent discounts

because: (a) The Barnes family has controlled Rock Hill for 80

years and the Helmly and Barnes families have controlled Home for

50 years; (b) both families intend to keep control of the

companies; (c) the families have taken steps such as implementing

a voting trust, bringing the younger generations into the

business, and buying insurance to avoid having to sell shares to

pay death taxes; (d) Home and Rock Hill pay much lower dividends
-26-

14 Stocks with low dividends typically suffer more from lack

of marketability than stocks with high dividends. Pratt, supra

at 358.

than the guideline companies;14 (e) there have been no sales of

Rock Hill stock and only limited family and insider sales of Home

stock at about book value; (f) the Home and the Rock Hill stocks

are not registered or traded on any exchange or over the counter;

and (g) the Home and the Rock Hill stocks represent very small

minority interests that have no ability to direct the affairs of

either company or cause the sale of its assets. These facts

support application of an above average discount for lack of

marketability.

Respondent disagrees with Hawkins' use of some studies of

sales of restricted stock and initial public offerings which

respondent claims contained errors. Respondent also asserts that

the companies in the studies used by Hawkins were not comparable

to Home and Rock Hill. Respondent points out that Hawkins did

not relate the companies in the studies to Home and Rock Hill in

terms of marketability, size, profitability, history, risk,

speculativeness, or growth. However, Hakala also failed to

compare the companies in the studies to Home and Rock Hill on

those points.

Hawkins and Hakala mostly cited the same studies. Hakala

cited eight studies in which the average discount for lack of

marketability ranged from 30 percent to 60 percent. He
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15 Under SEC Rule 144(b), 17 C.F.R. sec. 230.144 (1984),

restricted securities eventually become freely tradeable through

either registration or the passage of time.

acknowledged that the typical discount cited for restricted

stock15 is 35 percent and said that the unregistered stock in a

closely held corporation is subject to a larger discount than

that applied to restricted stocks. His explanation of his use of

a 25-percent discount for lack of marketability was not

convincing.

2. Nonvoting Stock

Prospective buyers will pay a premium for shares with voting

power or obtain a discount for nonvoting shares. Wallace v.

United States, 566 F. Supp. 904, 917 (D. Mass. 1981) (voting

shares appraised 5 percent higher than nonvoting shares); Kosman

v. Commissioner, T.C. Memo. 1996-112 (nonvoting shares discounted

by 4 percent); Estate of Winkler v. Commissioner, T.C. Memo.

1989-231.

Hawkins applied a discount of 3.66 percent for lack of

voting power to the value ($337.87) of the Rock Hill stock. 

Hawkins based this discount on a study of 43 public companies

with voting and nonvoting shares. The study found that the

average discount for nonvoting stock was 3.66 percent. Hakala

discounted the nonvoting stock of Rock Hill by an additional 5

percent. We find that Hawkins' use of a 3.66-percent discount

for nonvoting stock was reasonable.
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16 The values of Home and Rock Hill stock reported on

petitioners' returns ($230 and $220/$221 respectively) are

admissions by petitioners and will not be overcome without cogent

evidence that they are wrong. Waring v. Commissioner, 412 F.2d

800, 801 (3d Cir. 1969), affg. per curiam T.C. Memo. 1968-126;

Estate of Hall v. Commissioner, 92 T.C. 312, 337-338 (1989). 

Petitioners have met this burden.

3. Conclusion--Discounts

Based on the arguments of the parties and the record, we

conclude that discounts for lack of marketability of 40 percent

for the Home stock and 45 percent for the Rock Hill stock are

appropriate. We further conclude that a 3.66-percent discount

for nonvoting stock is appropriate for the Rock Hill stock. See

Estate of Lauder v. Commissioner, T.C. Memo. 1994-527 (40%

discount for lack of liquidity or marketability); Martin v.

Commissioner, T.C. Memo. 1985-424 (70% discount for

marketability/minority considerations).

E. Conclusion

We conclude that the fair market value per share of the

stock of Home that the Helmlys gave to their children and

grandchildren was $227.41 per share in January and December 1992,

and that the fair market value of the stock of Rock Hill that the

Barneses gave to their children was $201.12 per share on December

22, 23, and 26, 1992, and $193.34 per share on December 30,

1992.16

To reflect the foregoing,

Decisions will be entered

 under Rule 155.