t c memo united_states tax_court sumner redstone petitioner v commissioner of internal revenue respondent docket no filed date david r andelman juliette m galicia lawrence michael hill and richard a nessler for petitioner carina j campobasso and janet f appel for respondent memorandum findings_of_fact and opinion lauber judge the internal_revenue_service irs or respondent deter- mined against petitioner a gift_tax deficiency of dollar_figure for the calendar_quarter ending date respondent also determined an addition_to_tax of dollar_figure under sec_6653 for fraud and alternatively an addition_to_tax of dollar_figure under sec_6653 for negligence and an addition_to_tax of dollar_figure under sec_6651 for failure_to_file a timely gift_tax_return the focus of the parties’ dispute is whether petitioner’s transfer of stock to his children was a gift_for federal gift_tax purposes or was as petitioner contends a transfer for an adequate_and_full_consideration in money or money’s worth see sec_2512 we find that this transfer was a taxable gift and determine its value on the transfer date we conclude that petitioner is not liable for any additions to tax findings_of_fact some of the facts have been stipulated and are so found the stipulations of facts and the attached exhibits are incorporated by this reference when he peti- tioned this court sumner redstone sumner or petitioner resided in california family and business background michael mickey redstone was born on date he married belle redstone and the couple had two children sumner and edward sumner gradua- ted from harvard college in and harvard law school in he practiced all statutory references are to the internal_revenue_code code in effect for the tax period in issue and all rule references are to the tax_court rules_of_practice and procedure we round all dollar amounts to the nearest dollar during the tax period in issue what are now penalties for fraud and negligence were denominated additions to tax law for several years including a stint in the tax_division of the u s depart- ment of justice before starting work in for the family business sumner married phyllis and they had two children brent and shari edward attended college and business school before joining the family business in he married leila and they likewise had two children michael and ruth ann mickey entered the drive-in movie theater business in between and mickey bought real_estate throughout the northeast and built numerous drive-in theaters he incorporated northeast theatre corporation northeast in and it became the management company for the redstone family business for each drive-in theater mickey typically incorporated three separate entities one to own the real_estate one to operate the theater and one to manage refresh- ments mickey edward and sumner eventually came to own various percentages of these various corporations with mickey’s aggregate share being the largest as the family business grew this complex corporate structure made it cum- bersome to obtain financing to solve this problem and to consolidate the inter- ests of mickey edward and sumner in a single entity national amusements inc edward died in and his estate is the petitioner in estate of redstone v commissioner t c __ date while that case and the instant case share a common factual background they present different issues and the resolution of these issues depends to some degree on different evidence nai was incorporated as a holding_company on date its articles of incorporation named mickey edward and sumner as the original directors mickey was elected president sumner vice president and edward secretary-treasurer at the time of trial nai was a closely_held_corporation head- quartered in norwood massachusetts upon nai’s incorporation mickey edward and sumner each contributed to it their stock in the pre-existing movie companies the book_value of the stock that each contributed was dollar_figure dollar_figure and dollar_figure respectively mickey also contributed dollar_figure in cash according to the minutes of the first meeting of directors dated date a total of shares of class a voting common_stock were to be issued shares each to mickey edward and sumner it was mickey’s decision to divide the shares evenly consistently with these decisions the stock certificates indicated that mickey edward and sumner were each regis- tered owners of unrestricted shares of nai common_stock all of the physical stock certificates were retained in nai’s corporate office the decisions taken at nai’s organizational meeting contained the seeds of the problem that would blossom into the tax dispute now before us whereas mickey edward and sumner were each registered owners of of nai’s stock the values of their contributions to nai were disproportionate to their shareholdings as follows item cash contributed_property contributed total percentage the redemption edward sumner mickey -0- dollar_figure dollar_figure big_number big_number big_number -0- dollar_figure big_number total dollar_figure big_number big_number as he approached age mickey developed a plan to retire gradually from active involvement in nai’s operations to implement this plan he decided to transfer a portion of his common_stock to his grandchildren and to exchange the balance of his shares for preferred_stock on date mickey as settlor executed an agreement of trust for the benefit of his four grandchildren grandchildren’s trust the three trustees were belle edward and sumner that same day mickey transferred shares of nai common_stock to the grandchildren’s trust his accountants at j k lasser company j k lasser prepared and filed on his behalf a timely federal gift_tax_return valuing these shares at dollar_figure and mickey paid the resulting gift_tax due belle likewise filed a federal gift_tax_return consenting to have mickey’s gift treated as having been made one-half by her mickey then exchanged his remaining shares of nai common_stock for preferred_stock in date nai’s charter was amended to provide for a class of preferred_stock and in date mickey’ sec_50 shares of common_stock were redeemed in exchange for big_number shares of nai preferred_stock thus as of date nai had outstanding shares of voting common_stock that were owned by sumner shares edward shares and the grand- children’s trust shares dispute as time went on edward became increasingly dissatisfied with his role at nai and with certain decisions that mickey and sumner had made also during this period one of edward’s children was experiencing serious problems that were a source of frustration and distraction to him for a variety of reasons he decided in date to terminate his employment with nai upon leaving edward demanded but did not receive possession of the shares of common_stock registered in his name to help secure possession of these shares edward hired attorney james r degiacomo edward took the posi- tion that he was legally entitled to and had an unrestricted right to sell the shares registered in his name he threatened to sell the shares to an outsider if nai did not redeem them at an appropriate price edward’s threat to sell his shares to an outsider was anathema to mickey and sumner because they wished to keep control of the redstone businesses within the family mickey refused to give edward his stock certificates contend- ing that nai had a right_of_first_refusal to repurchase the shares mickey and his attorneys also developed an argument that a portion of edward’s stock though registered in his name had actually been held since nai’s inception in an oral trust for the benefit of edward’s children this argument built on the fact that mickey in had contributed of nai’s capital yet had received only of its stock in effect mickey contended that he had gratuitously accorded edward more stock than he was entitled to and that to effectuate mickey’s intent in the extra shares should be regarded as being held in trust for edward’s children mickey took the position that at least half of edward’s shares were covered by this alleged oral trust the parties negotiated for six months in search of a resolution they ex- plored without success various options whereby edward would remain in the business as an employee or consultant edward offered to sell his shares back to nai and the parties explored various pricing scenarios under which this might occur as the family patriarch however mickey had most of the leverage and he insisted that edward acknowledge the existence of an oral trust for the benefit of edward’s two children mickey’s insistence on an oral trust was a line in the sand and a deal breaker upon reaching an impasse edward authorized mr degiacomo to file in massachusetts superior court two lawsuits against mickey sumner and the red- stone family companies redstone v nat’l amusements inc no eq nai action and redstone v northeast theatre com no eq northeast action the nai action filed in date alleged that edward owned shares of voting common_stock that these shares were unencumbered and unrestricted as to their transferability and that the shares should be delivered immediately to edward mickey answered that he had possession of all the stock registered in edward’s name and that a portion of the shares so registered were held in trust for the benefit of edward’s children this litigation became quite adversarial and its public nature was extremely distressing to the redstone family especially mickey’s wife belle she implored edward to reach some accommodation with his father in the course of negotia- tions it became apparent to mr degiacomo that edward had to separate com- pletely from nai and that mickey would not be satisfied unless some of edward’s disputed shares were placed in trust for his children michael and ruth ann a settlement was ultimately reached along these lines notwithstanding that shares of nai voting common_stock were registered in edward’s name the parties agreed that edward was the owner free and clear of all trusts restrictions and encumbrances of only shares of such stock they further agreed that the remaining shares of nai stock registered in edward’s name were then held and had always been held by edward for the benefit of his children in trust and not as beneficial_owner this settlement was a compromise of the par- ties’ respective positions it reflected on the one hand mickey’s desire to ensure the financial security of edward’s children and on the other hand edward’s desire to conclude the litigation by securing payment for at least some of his shares the settlement agreement dated date settlement agreement pro- vided that nai would repurchase the shares of stock that edward was deemed to own the parties agreed that edward’ sec_66 shares were to be valued at dollar_figure million and that a redemption agreement would be executed simultaneously edward and nai executed the redemption agreement which provided that the dollar_figure million purchase_price would be paid a sec_44 quarterly installments of dollar_figure including principal and interest plus a final payment of all principal and interest then remaining due nai executed an installment note that bore interest at the floating prime rate charged by the boston bank from which nai had obtained most of its financing in exchange for this stream of payments edward executed an assignment transferring shares of voting common_stock to nai the settlement agreement required edward to execute irrevocable declara- tions of trust likewise dated date for the benefit of his children these trusts were styled the ruth ann redstone trust ruth ann trust and the michael david redstone trust michael trust sumner was named the sole trustee of each trust edward executed two assignments each transferring shares of nai stock to sumner as trustee of the respective trusts finally the settlement agreement required the parties to execute various releases all parties executed mutual releases respecting claims concerning ed- ward’s ownership interests in nai and northeast edward resigned from all posi- tions he had held in the redstone family businesses and resigned as trustee or re- linquished the right to serve as successor trustee of all redstone family trusts the settlement agreement also resolved certain disputes in the northeast action that are not relevant here on date the parties filed with the massachusetts superior court a stipulation in the nai action setting forth the terms of this settlement that same day the massachusetts superior court issued a final decree incorporating the terms of the settlement agreement as set forth in the stipulation sumner’s transfer of stock to trusts for his children on date three weeks after the settlement agreement was signed sumner executed irrevocable declarations of trust for the benefit of his two chil- dren these trusts were styled the brent dale redstone trust brent trust and the shari ellin redstone trust shari trust sumner was named the sole trustee of each trust that same day of the nai shares originally registered in sum- ner’s name were re-issued to the brent trust shares were re-issued to the shari trust and the remaining shares were re-issued to sumner neither sumner nor his wife filed a gift_tax_return for the calendar_quarter ending septem- ber sumner’s transfers of nai stock to the brent and shari trusts were volun- tary each transfer was motivated by donative_intent toward the natural objects of sumner’s affection by creating these trusts and transferring shares of nai stock to them sumner made a gesture of goodwill toward his father who desired to ensure the financial security of his four grandchildren on equal terms however sumner was not required to take these actions by the settlement agreement that resolved edward’s lawsuits the only obligation that the settlement agreement imposed on sumner was the requirement that he execute certain releases in consideration of mutual releases executed by the other contracting parties the brent and shari trusts like the ruth ann and michael trusts recite that the stock transferred to them had been held under an oral trust since peti- tioner presented no evidence that any oral trust actually existed whereby edward or sumner held in trust for his children a portion of the nai shares initially regis- tered in his name rather the concept of an oral trust developed later and was agreed upon as a mechanism for settling edward’s litigation and implementing mickey’s desire to ensure the financial security of edward’s children redemption on date nai redeemed the shares held collectively by the grandchildren’s trust shares the ruth ann trust shares and the michael trust shares the aggregate redemption price was dollar_figure or approximately dollar_figure per share following this redemption nai had outstanding only shares of voting common_stock these shares were owned by sumner individually shares and by the two trusts for his children shares of which he was the sole trustee the o’connor litigation litigation commenced in sheds further light on the events involved in this case see o’connor v redstone n e 2d mass michael redstone and the trustees of certain redstone family trusts sued sumner edward and nai advancing two major contentions first they alleged that sumner in had improperly caused nai to redeem for less than fair_market_value the shares held by the ruth ann trust the michael trust and the grandchildren’s trust the massachusetts supreme court eventually held that this claim was time barred see id pincite second the plaintiffs alleged that in additional stock should have been transferred to the various trusts based on the purported existence of a prior oral trust the oral trust issue was the subject of extensive deposi- tion and trial testimony the trial_court concluded that the plaintiffs had failed to prove that an oral trust was ever created o’connor v redstone no mass sup ct date the trial transcript of the o’connor litigation and the transcripts of certain depositions are included among the exhibits to the parties’ stipulation of facts in the instant case in deposition and at trial of the o’connor case sumner testified that he had transferred the shares of nai stock to the brent and shari trusts voluntarily at his deposition he explained that he voluntarily went through the same proce- dure as his brother and gave his own children the stock while it was mickey’s position that at least percent of edward’s shares were held for edward’s children sumner testified that mickey had never expressed the same re- servation regarding sumner’s own shares he continued i voluntarily set up an arrangement--call it what you will--where my own children would get a third of the stock i wanted to do the same thing that my brother did only he did it as a result of litigation i did it voluntarily at trial in the o’connor case sumner maintained the same position no- body sued me i gave my kids a third of the stock voluntarily not as the result of a lawsuit in s o doing i did what i wanted and appeased my father too he testi- fied that t here was a big difference between eddie’s position and mine because edward was resisting doing what my father wanted whereas sumner was simply trying to maintain good family relations he later testified to the same effect eddie was sued i was not and eddie had to find a justification for what he was doing in transferring i wasn’t sued i just made an outright gift contemporaneous tax_advice during the 1960s samuel rosen was a partner at j k lasser and peter isen- berg was a certified_public_accountant there j k lasser subsequently merged with touche ross co now deloitte after the transaction messrs rosen and isenberg formed their own firm rosen pc through which mr rosen served as the redstone family accountant he worked for sumner and nai before the transactions and continued to do so for many years afterwards mr isenberg described mr rosen who was deceased at the time of trial as a knowledgeable and careful professional who always endeavored to get the right answer sumner sought and received advice from mr rosen about the tax conse- quences of his transfer of stock to the brent and shari trusts mr isenberg credibly testified that mr rosen had obtained advice from j k lasser’s national_office about this transaction that this advice was memorialized in a letter or memorandum which concluded that sumner was not required to file a gift_tax_return because he had made no taxable gift and that mr rosen who was thoroughly familiar with the litigation and its aftermath expressed his agree- ment with j k lasser’s conclusion mr isenberg personally handled petitioner’ sec_4 mr isenberg was unable to locate a copy of the advice document from j k lasser’s national_office the court found this unsurprising because that document continued income and gift_tax filings he credibly testified that if j k lasser had believed a gift_tax_return was due for the quarter ending date a return would have been filed the tax consequences of sumner’s transfer were likewise addressed during the o’connor litigation mr degiacomo testified in deposition that j k lasser provided a tax opinion for the transaction sumner testified that mr rosen would have made the determination whether a gift_tax_return was required to be filed if there were a gift_tax due and gift_tax_return it would have been filed if there was a gift_tax due it would have been paid consistently with that previous testimony sumner testified in the instant case that he had relied on his ac- countants and lawyers to determine whether gift_tax had to be paid in and t hey apparently concluded that there was no tax due sumner has filed federal gift_tax returns during the course of his life he filed the first such return in the next two in and additional returns for various periods between and all reporting taxable_gifts on the basis of the advice he received from mr rosen and j k lasser however sumner did not file a federal gift_tax_return for the quarter ending date continued would have been drafted years ago mr isenberg credibly testified that he re- called seeing this document contemporaneously with the events in question irs scrutiny of petitioner during in the wake of the watergate investigation the irs initiated what was called the political campaign contribution compliance project compli- ance project a senate select committee on presidential campaign activities had expressed concern that some donors might be evading the law by making dona- tions in amounts smaller than the dollar_figure annual_gift_tax_exclusion to multiple campaign committees that were nominally separate but in fact supported the same candidate congress asked the irs to investigate these concerns the compliance project sought to determine whether transfers of this type involved taxable_gifts for federal gift_tax purposes the senate select committee provided the irs with lists of contributions that were to be reviewed sumner’s name appeared on a list of to contri- butors in the north atlantic region who had made political contributions during this list was assigned to irs revenue_agent corbett for review agent corbett testified that the scope of his review was limited to the political campaign contributions made by these individuals he was unsure whether he technically had authority under the scope of the compliance project to investigate other gift_tax issues that might have come to his attention in date agent corbett mailed sumner a letter captioned possible and gift_tax liability the letter asked sumner to identify all trans- fers he had made to political committees during and to provide copies of canceled checks documenting any such transfers sumner promptly provided the requested documentation including schedules of his transfers to political com- mittees during copies of all relevant cancelled checks and copies of promissory notes he had received for two loans executed in on the basis of this information the irs concluded that there was no necessity to solicit a gift_tax_return for in apparently as a result of the o’connor litigation sumner’s transfer of stock to the brent and shari trusts came to the irs’ attention it ac- cordingly commenced in date a gift_tax examination covering petitioner’s calendar_year irs revenue_agent cha was assigned to conduct this exami- nation the focus of his examination was petitioner’s potential gift_tax liability related to the stock_transfer_agent cha was not aware when conducting this examination that the irs had performed an earlier review of sumner’s poli- tical campaign contributions agent cha’s examination lasted more than a year on several occasions he requested documents that the irs did not possess and sumner through his attor- neys complied with each of these document requests sumner did not complain at any time during the audit of a potential second_examination in violation of sec_7605 he first raised the possibility of a second_examination in early nearly a year after the irs had issued the notice_of_deficiency that notice was issued on date and sumner timely petitioned this court on date expert valuation testimony at trial respondent offered and the court recognized steven c hastings as an expert in valuing closely held companies and stock interests in closely held companies mr hastings relied principally on a mergers and acquisitions ap- proach employing this method he valued the shares of nai stock that sumner transferred on date principally by reference to the price at which nai had redeemed edward’ sec_66 shares three weeks previously in mr hastings’ opinion the dollar_figure million redemption price that nai agreed to pay edward was negotiated at arm’s length was essentially contemporaneous with sumner’s transfer and yielded a value of dollar_figure per nai common share mr hastings opined that nai’s redemption of edward’s shares was a private trans- action for a minority interest and that the redemption price thus established the per-share value of nai’s common_stock on a minority non-marketable interest basis mr hastings accordingly concluded that the shares that sumner transferred to his children’s trusts in date were worth dollar_figure million x dollar_figure mr hastings also valued the transferred shares using the direct capitaliza- tion and guideline public company methods in performing these valuations mr hastings concluded that a discount for lack of marketability was necessary he determined the appropriate discount to be applying this discount he deter- mined values for the shares of dollar_figure and dollar_figure respectively petitioner offered and the court recognized gordon klein as an expert in the field of business valuations he determined the value of the transferred shares using the so-called engrafting method as his starting point for valuing the nai shares that sumner transferred in date mr klein used the per-share price dollar_figure that nai paid to redeem the trusts’ shares in date he computed ratios between the redemption price and nai’s average net_income for and the book_value of nai’s common shareholders’ equity in he then applied these same ratios to comparable nai data existing at or about the time of sumner’s transfer on the basis of these ratios mr klein concluded that the shares that sumner transferred to his children’s trusts in date were worth dollar_figure x dollar_figure opinion i threshold issues a burden_of_proof the commissioner’s determinations in a notice_of_deficiency are generally presumed correct and the taxpayer bears the burden of proving those determina- tions erroneous rule a 290_us_111 petitioner does not contend that the burden_of_proof shifts to respondent under sec_7491 as to any issue of fact b period of limitations sec_6501 provides that i n the case of failure_to_file a return the tax may be assessed at any time sumner did not file a federal gift_tax_return reporting the transfer of stock to the children’s trusts the notice of defi- ciency though issued years after the transfer was thus timely see estate of brown v commissioner tcmemo_2013_50 at see generally estate of sanders v commissioner tcmemo_2014_100 at petitioner moved before trial for judgment on the pleadings admitting that the period of limitations on assessment was technically still open he contended that respondent was barred by laches from determining in a gift_tax deficiency for the third quarter of petitioner noted that he is now years old material witnesses have been dead for decades documents have long since been discarded or have disintegrated memories have unquestionably eroded under these circumstances petitioner described this case as involving an unprecedented abuse of the rule that no statute_of_limitations applies we denied this motion by order dated date concluding as follows it is well settled that the united_states is not subject_to the defense of laches in enforcing its rights see 310_us_414 304_us_126 925_f2d_333 9th cir wright v commissioner tcmemo_2005_5 89_tcm_662 the inapplicability of the laches doctrine is especially clear where as here the government seeks to enforce tax claims that are governed by an express statute_of_limitations in such cases the timeliness of government claims is governed by the sta- tute of limitations enacted by congress 22_f3d_631 5th cir accord kohler v commissioner tcmemo_2008_127 95_tcm_1494 wright v com- missioner t c m pincite a party asserting laches must establish certain facts if this equitable defense were available to petitioner he would need to demonstrate for example that the irs was aware of the gifts but sat on its rights and that petitioner suffered undue prejudice as a result see eg fridovich v commissioner tcmemo_2001_32 81_tcm_1143 petitioner made no effort to establish such facts at trial quite the contrary the evidence indicated that the irs did not be- come aware of the transfers until after the o’connor litigation had ended and respondent commenced his gift_tax examination reasonably promptly thereafter in any event petitioner did not advance arguments based on laches or other equitable defenses in his pretrial memorandum or in his post-trial briefs see 121_tc_308 holding that arguments not addressed in post-trial brief may be considered abandoned c second_examination sec_7605 provides that a taxpayer shall not be subjected to unneces- sary examination or investigations and only one inspection of a taxpayer’s books of account shall be made for each taxable_year unless the taxpayer requests other- wise or unless the secretary after investigation notifies the taxpayer in writing that an additional inspection is necessary congress enacted sec_7605 to protect taxpayers from harassment by low-echelon revenue agents by requiring such agents to clear any repetitive examination with a superior 379_us_48 there is no intimation in the legislative his- tory of sec_7605 that congress intended the courts to oversee the commis- sioner’s determinations to investigate ibid the court_of_appeals for the ninth circuit to which an appeal in this case would lie absent stipulation to the contrary has accordingly issued strong admonitions against an expansive reading of section b 84_tc_1349 citing 313_f2d_79 9th cir petitioner contends that the deficiency should be set_aside because respon- dent violated the ‘one examination’ rule_of sec_7605 according to petitioner the review performed by agent corbett in pursuant to the com- pliance project constituted an inspection of petitioner’s books of account with the supposed result that the gift_tax examination was an imper- missible second inspection under sec_7605 by way of remedy petitioner urges that we follow the analysis in 301_f2d_267 7th cir and set_aside the gift_tax deficiency in its entirety we decline to do so at the outset it is far from clear that agent corbett’s review consti- tuted an inspection of the taxpayer’s books of account within the meaning of sec_7605 to inspect the ‘books of account’ would require at a minimum that the respondent have access to and physically view a taxpayer’s books and re- cords 66_tc_1084 aff’d 592_f2d_1259 5th cir the irs has long taken the position that narrow limited con- tacts between the irs and taxpayers such as compliance checks and compliance initiative projects do not constitute examinations see revproc_2005_32 2005_1_cb_1206 revproc_94_68 1994_2_cb_803 internal revenue manual irm pt date compliance checks irm pt date compliance initiative projects compliance initiative projects involve contact with specific taxpayers and collection of taxpayer data within a group using either internal or external data to identify potential areas of noncompliance within the group for the purpose of correcting the non-compli- ance irm pt see michael saltzman irs practice and procedure para pincite date compliance checks are one specific type of contact not considered by the service to be an examination agent corbett contacted petitioner in as part of the compliance pro- ject which the irs undertook at the request of the senate select committee the purpose of this project was to determine the extent to which taxpayers were making political contributions that did not comply with rules governing the annual_gift_tax_exclusion agent corbett focused solely on this issue he exchanged two letters with petitioner and after receiving copies of cancelled checks and two promissory notes was satisfied that petitioner was in compliance respondent contends that agent corbett’s contact given its limited nature did not amount to an exami- nation of petitioner’s books of account cf ellis v commissioner tcmemo_2007_207 94_tcm_112 holding that irs letter requesting specific limited information was not an examination even though the taxpayer furnished copies of records in response aff’d in part rev’d in part on other grounds 346_fedappx_346 10th cir even if the examination constituted a second inspection it is far from clear that the remedy would be to expunge the gift_tax deficiency that the irs determined during this examination the purpose of sec_7605 is to re- lieve the taxpayer from unnecessary annoyance not from payment of taxes legally owed the irs is free to conduct a second_examination so long as it notifies the taxpayer in writing that an additional inspection is necessary sec_7605 to invalidate a notice_of_deficiency because the irs neglected to send this explanatory letter would substantially overshoot the goal which the legislators sought to at- tain united_states v powell u s pincite accordingly i t has long been established by this court and others that failure of the commissioner to comply with the provisions of sec_7605 does not invalidate a deficiency deter- mined from information derived from such an examination 40_tc_770 but see reineman f 2d pincite if the taxpayer objects to an irs contact as an impermissible second_examination he may refuse to permit the examination and should the service seek enforcement of a summons oppose the application_for enforcement saltzman supra para westlaw in any event it is well settled that if a taxpayer fails to object to a reexami- nation or second inspection or voluntarily consents to one he waives any rights conferred by sec_7605 id as we noted soon after the predecessor of sec_7605 was enacted he might have refused to permit the investigation without notice in writing from the irs but not having done so the protection afforded by the statute will be deemed to have been waived estate of barker v commissioner 13_bta_562 accord eg 521_f2d_491 6th cir 237_f2d_466 2d cir 54_tc_726 flynn v commissioner t c pincite 54_f2d_168 ct_cl agent cha began his gift_tax examination in and it lasted for more than a year he requested documents from petitioner on several occasions and petition- er through his lawyers complied with each such request petitioner did not com- plain at any time during the audit of a potential second_examination in violation of sec_7605 he first raised this issue in early nearly a year after the irs had mailed the notice_of_deficiency on which this case is based under these circumstances we conclude that petitioner consented to the exami- nation and thus waived any rights that sec_7605 might have afforded him we thus find it unnecessary to decide whether agent cha’s examination was in fact a second inspection of petitioner’s books of account or what remedy would be available to him if that question were answered in the affirmative ii application of gift_tax a governing legal principles during the gift_tax was imposed for each calendar_quarter on the transfer of property by gift during that quarter sec_2501 where property is transferred for less than an adequate_and_full_consideration in money or money’s worth then the amount by which the value of the property exceeded the value of the consideration shall be deemed a gift sec_2512 a necessary corollary of this provision is that a transfer of property in exchange for an adequate_and_full_consideration does not constitute a gift_for federal gift_tax purposes see eg 324_us_303 the regulations confirm that t he gift_tax is not applicable to a transfer for a full and adequate_consideration in money or money’s worth or to ordinary business transactions sec_25 g gift_tax regs the regulations define a transfer of property made in the ordinary course of business as a transaction which is bona_fide at arm’s length and free from any donative_intent sec_25_2512-8 gift_tax regs see weller v commissioner t c a transaction meeting this standard will be considered as made for an adequate_and_full_consideration in money or money’s worth sec_25_2512-8 gift_tax regs a transfer of property within a family group normally receives close scrutiny see eg 98_tc_554 however a transaction between family members may be treated as one in the ordinary course of business if it constitutes an arm’s-length transfer of property in settlement of a genuine dispute or otherwise meets the criteria set forth above see 436_f2d_1327 5th cir 205_f2d_505 2d cir rev’g 17_tc_1047 40_tc_714 10_tc_915 8_tc_706 b sumner’s transfer as a gift in estate of redstone v commissioner t c __ __ slip op pincite date we held that edward’s date transfer of stock to his children pur- suant to the settlement agreement was not a gift but was a transfer of property made in the ordinary course of business sec_25_2512-8 gift_tax regs we found that a genuine dispute existed concerning edward’s ownership of nai stock and that he was forced to relinquish his claim to ownership of shares in order to obtain from mickey and sumner an acknowledgment of his ownership of the remaining shares we held that edward’s transfer of the disputed shares to trusts for his children at mickey’s insistence was thus made for a full and adequate_consideration in money or money’s worth estate of redstone v commissioner t c at __ slip op pincite citing sec_25 gift_tax regs three weeks after edward’s litigation was settled sumner likewise trans- ferred nai shares to trusts for his own children in contending that this transfer should also be exempt from gift_tax sumner seeks to portray it as part of the overall reconfiguration of stock ownership by which the parties brought ed- ward’s litigation to a close but for the litigation with edward and the settlement reached by the parties sumner submits that he would not have established trusts for his children in date by creating trusts he otherwise would not have established at the time sumner allegedly facilitated the settlement of his brother’s litigation appeased his father and poised himself to become nai’s majority shareholder he accordingly contends that his transfer like edward’s was made in the ordinary course of business and for an adequate_and_full_consideration in money or money’s worth sec_25_2512-8 gift_tax regs we do not find this argument persuasive there is no evidence that any dis- pute existed in concerning ownership of sumner’s stock or that mickey was determined to withhold any of sumner’s shares from him to the contrary the evidence showed that mickey and sumner were working in concert to drive ed- ward out of the company and that the oral trust theory was a weapon they de- ployed against edward in an effort to achieve that goal because no demand was ever placed on sumner’s shares no negotiations ever occurred concerning his ownership of those shares sumner never filed a lawsuit and he received no release of claims from mickey or anyone else upon transferring his stock we likewise discern no convincing evidence that sumner’s transfer facili- tated the settlement of his brother’s litigation the settlement agreement had been finally executed three weeks before sumner made his transfer the settle- ment agreement does not mention any prospective transfer of stock by sumner and there is no documentary_evidence that his promise to make such a transfer was a condition_precedent to the settlement agreement by its terms the settlement agreement imposed no obligations on sumner except that he execute releases in exchange for reciprocal releases from each of the other parties in contending that edward’s litigation was resolved by both edward and sumner agreeing to transfer shares of nai stock to each of their continued petitioner’s transfer of stock to his children was undoubtedly prompted by the settlement agreement both as to its timing and its terms and this transfer surely pleased mickey by ensuring the financial security of his four grandchildren on equal terms but this is not enough to make it a transaction in the ordinary course of business pleasing parents like pleasing children is presumptively a family motivation and we discern no evidence tending to rebut that presumption here there was no claim against sumner there were no arm’s-length negotiations and he received no consideration from anyone in exchange for his transfer in transferring stock to the brent and shari trusts sumner was essentially motivated by the kinship that he had with his father and his children sumner was the sole trustee of both his children’s trusts there is no evidence that he was continued children petitioner relies on a statement in a deposition by mr digiacomo when asked to explain how the dispute was resolved he stated it was resolved by eddie being deemed the owner of two-thirds of the shares that is my best recollection and the other one-third was to be divided between michael and ruth ann and their shares were held under a_trust eddie’s shares were redeemed by the corporation and i believe the same applied to sumner in other words sumner’s children had the same proportionate ownership and that’s how the matter was resolved mr digiacomo noted in his deposition that he was providing a high-level summary of distant events of which he had imper- fect recollection t his matter goes back awhile looking at the file this morning some of it comes back to me but without having looked at the file it would not have neither sumner mr digiacomo nor any other witness in the instant case testified that a promise by sumner to transfer stock to the brent and shari trusts was a condition_precedent to execution of the settlement agreement reluctant to effect this transfer or that it disadvantaged him from a business perspective the transfer thus bears all the indicia of donative_intent toward the natural objects of his affection sumner’s testimony in the o’connor case firmly supports these conclusions he testified repeatedly both in deposition and at trial that his transfer of stock was completely voluntary he stated that he voluntarily went through the same procedure as his brother and gave his own children the stock he explained i wanted to do the same thing that my brother did only he did it as a result of litigation i did it voluntarily he testified similarly at trial i gave my kids a third of the stock voluntarily not as a result of a lawsuit in s o doing i did what i wanted and appeased my father too he emphasized that his shares unlike edward’s were unencumbered by any litigation claims eddie was sued i was not i just made an outright gift we find that sumner’s transfer of stock to the brent and shari trusts was actuated by love and affection cf beveridge t c pincite estate of by contrast edward was clearly reluctant to transfer stock to his own children’s trusts for one thing sumner rather than he was the sole trustee of those trusts both economic and family reasons motivated edward to insist on securing outright ownership of or payment for all shares that were originally registered in his name see estate of redstone t c at __ slip op pincite n noland v commissioner tcmemo_1984_209 47_tcm_1640 his transfer was animated by donative_intent and was not a transaction made in the ordinary course of business within the meaning of sec_25_2512-8 gift_tax regs it was therefore a taxable gift_for federal gift_tax purposes c valuation if the gift is made in property the value thereof at the date of the gift shall be considered the amount_of_the_gift sec_2512 the fair_market_value of property is the price at which it would change hands between a willing buyer and a willing seller neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts sec_25_2512-1 gift_tax regs see revrul_59_60 1959_1_cb_237 the valuation of property is a question of fact see tallichet v commissioner tcmemo_1974_255 in valuing shares of a closely_held_corporation actual arm’s-length sales of such stock in the normal course of business within a reasonable_time before or after petitioner contends that his transfer was made in the ordinary course of business because he thereby poised himself to become nai’s majority share- holder but sumner had already become nai’s majority shareholder as a result of the settlement agreement his decision three weeks later to transfer of his shares to his children’s trusts did nothing to enhance his majority posi- tion this transfer could be deemed causally related to his achievement of majori- ty status only if it were a condition_precedent to execution of the settlement agreement as explained in the text we find no convincing evidence that it was the valuation_date are the best criteria of market_value 79_tc_938 where actual sale prices are unavailable stock may be valued by reference to the company’s net_worth prospective earning power and dividend-paying capacity and other_relevant_factors sec_25 f gift_tax regs these factors cannot be applied with mathematical precision the weight given various factors depends on the particular facts of each case estate of andrews t c pincite in deciding valuation issues we may consider the opinions of expert wit- nesses properly admitted into evidence 304_us_282 if we find one expert’s opinion persuasive in its entirety we may accept his opinion in preference to the opposing expert’s see 74_tc_441 alternatively we may reach an intermediate conclusion as to value by drawing selectively from the testimony of various experts 86_tc_547 petitioner’s expert employing the so-called engrafting method mr klein valued the shares petitioner transferred in date by reference to the price nai paid to redeem the trusts’ shares in date since value is determined as of a specific date o nly facts reasonably known at the valuation_date may serve as the basis for valuation 94_tc_193 but later occurring events including later occurring sales of stock may be taken into account as evidence of fair_market_value as of the valuation_date 101_tc_412 as a rule stock transactions post-dating the valuation_date are probative only if they occur within a reasonable_time after the valuation_date estate of andrews t c pincite see estate of scanlan v commissioner tcmemo_1996_331 72_tcm_160 considering offers to purchase stock made more than months after the valuation_date aff’d without published opinion 116_f3d_1476 5th cir 294_f2d_808 5th cir considering as not too remote a transaction occurring years after the valuation_date petitioner has cited no case in which a court employed as its principal valuation metric a stock sale that occurred as many a sec_12 years after the valuation_date if we assume arguendo that the redemption price could be used to de- termine the value of nai stock in date various adjustments would have to be made to take account of changes wrought by the passage of time these would in- clude changes in general inflation people’s expectations with respect to that in- dustry performances of the various components of the business technology and the provisions of tax law that might affect fair market values estate of jung t c pincite estate of scanlan t c m cch pincite here adjustments between and might be required for differences in macro- economic factors such as inflation interest rates and stock market values industry-specific factors such as changes in the movie industry and company- specific factors such as changes in the mix of nai’s assets or lines of business when implementing his valuation methodology mr klein made no adjust- ment of any kind to account for differences between the macro-economic industry- specific and nai-specific conditions prevailing in and those prevailing in and he provided no rationale for failing to make these adjustments stating i considered the need for normalization adjustment based on the available data none came to mind his failure to make or to show the absence of a need to make relevant adjustments renders his report altogether unreliable we thus have no need to decide whether his engrafting method is an acceptable method of valuing closely-held company stock whether the redemption was too remote from the date valuation_date to constitute probative evidence or whether the respondent’s expert mr hastings opines that the engrafting method is not a recognized method of valuing corporate stock mr klein argues that his method which employs a ratio between the redemption price and nai’s net_income resembles the direct capitalization method price nai paid to redeem the trusts’ stock in contrary to the conten- tions of the o’connor plaintiffs was determined at fair_market_value respondent’s expert respondent’s expert mr hastings based his valuation of nai stock as of date primarily on the price that nai paid to redeem edward’s stock on date mr hastings opined that the dollar_figure million price nai agreed to pay edward was negotiated at arm’s length was essentially contemporaneous with sumner’s transfer and yielded a value of dollar_figure per nai common share we agree with mr hastings the transaction by which nai redeemed ed- ward’s shares occurred within a reasonable_time before the valuation_date estate of andrews t c pincite it thus reflected market conditions approxima- ting those prevalent three weeks later when sumner made his gift in estate of redstone t c at __ slip op pincite we concluded that the settlement agreement pursuant to which nai redeemed edward’s stock was the result of arm’s-length bargaining among mickey sumner and edward the price at which edward’s stock would be redeemed was a central element of this bargaining and we conclude that it in particular was negotiated at arm’s length mickey sumner and edward were nai’s three principals they had worked for nai for decades and were thoroughly familiar with its financial con- dition and prospects edward had an economic_interest in getting paid as much as possible for his shares and sumner and mickey had an economic_interest in paying him as little as possible all three were represented by counsel and they negotiated this point for more than a year we find that the outcome of this negotiation--a per-share price of dollar_figure--represented the fair_market_value of nai common_stock as of the valuation_date this yields a value of dollar_figure million for the shares that sumner transferred to the brent and shari trusts petitioner’s arguments petitioner advances four arguments in support of his submission that the price nai paid edward is not a reliable index of nai’s stock value first he contends that the date redemption transaction cannot be employed under the regulations because edward and nai were under a compulsion to buy or sell see sec_25_2512-1 gift_tax regs according to petitioner mickey and nai were under a compulsion to buy edward’s shares because they wanted to prevent edward from selling his stock to an outsider and edward was under a compulsion to sell because he was supposedly under financial strain we find no evidence that the transaction by which nai redeemed edward’s stock was in any sense a forced sale cf 24_f2d_191 3d cir noting that forced sales do not signify fair_market_value the parties did not act in haste they negotiated for six months before edward filed his lawsuits and for another six months thereafter see estate of sharp v commissioner tcmemo_1994_636 68_tcm_1521 finding that the existence of business disputes between the selling parties did not mean they were under any ‘compulsion’ to sell all parties were experienced businessmen and all had the assistance of able counsel the leisurely pace of their negotiations suggests that neither side felt compelled to act as often in litigation each side held some leverage over the other because of the latter’s circumstances but this does not mean that either was compelled to act quite the contrary is true the possession of leverage over one’s opponent is often an incentive to hold out rather than to capitulate second petitioner points out that edward did not receive the dollar_figure million re- demption price in cash rather he received from nai a dollar_figure million note payable in quarterly installments over years petitioner contends that edward actually re- ceived proceeds worth less than dollar_figure million because nai’s note bore interest at a below market rate there is no factual support for this argument edward’s note bore interest at the floating prime rate charged by the boston bank from which nai had obtained most of its financing nai’s financial statements show that its third-party borrow- ings were generally effected at the prime rate since the prime rate is the rate at which nai borrowed from its institutional lenders it was an arm’s-length interest rate that fully compensated edward for the time_value_of_money and the risk of nonpayment third petitioner contends that the dollar_figure million redemption price compensated edward not only for surrendering shares of nai stock but also for execut- ing releases of the claims he held against nai mickey and sumner we find no merit in this argument the settlement agreement and the redemption agreement specifically provided that nai would purchase edward’ sec_66 shares for dollar_figure mil- lion ie that this consideration was being paid exclusively for his stock the re- leases were provided for separately in the settlement agreement under section thereof mickey sumner nai and edward each released all claims in considera- tion of the other parties’ reciprocal release of claims petitioner has supplied no reason to believe that the releases that he mickey and nai provided to edward were less valuable than the releases that edward pro- vided to them for example mickey originally claimed that the oral trust cov- ered half of edward’s shares whereas edward claimed outright ownership of all shares mickey and edward released their respective claims pursuant to a compromise by which edward was deemed the outright owner of shares with respect to this and other claims it is impossible to determine whose release was more valuable because the case was settled rather than tried assuming as we do that the parties rationally evaluated their respective hazards_of_litigation we conclude that the releases each party provided were equivalent in value to the releases that each party received finally petitioner argues that the price nai paid to redeem edward’s shares was inflated by a control premium because it positioned petitioner to obtain con- trol of nai we likewise reject this argument nai executed the redemption agreement with edward logically it would not have paid a control premium to acquire its own shares sumner had fiduciary duties to nai’s other shareholders including the beneficiaries of the grandchildren’s trust of which he was a trustee we will not assume that sumner in order to advance his own interest breached his fiduciary duties by causing nai to pay edward more than his shares were worth petitioner urges that we ascribe value to edward’s agreement to have no- thing further to do with the business or affairs of nai but edward had volun- tarily left his employment at nai nearly a year before the settlement agreement was executed he made no claims in the nai action for damages based on the manner in which his employment ended in the o’connor litigation petitioner agreed that the stock edward had transferred to his children’s trusts was properly valued at dollar_figure per share he did not contend that the proceeds edward received included compensation_for release of employment or other claims instead we accept mr hastings’ conclusion that nai would have agreed to pay edward no more than the amount he would have received by selling his shares to an unrelated third-party buyer far from including a control premium this amount would incorporate a discount for a lack of marketability which presumably is reflected in the dollar_figure million redemption price that the parties negotiated at arm’s length there is no evidence that sumner caused nai to pay a premium of any kind to acquire edward’s shares in sum we find that the redemption price nai paid edward on date is a reliable index of the stock’s value on date when sumner made his gifts because we find this actual arm’s-length transaction to be the best indi- cator of fair_market_value see estate of andrews t c pincite we find it un- necessary to examine the results that could be generated under the direct capital- ization and guideline public company methods which mr hastings alternative- ly employed after applying a discount for lack of marketability he determined petitioner appears to accept this analysis when he agrees that a lack- of-marketability discount should be applied under the direct capitalization method and the guideline public company method but not under the mergers and acqui- sitions method which is exactly how mr hastings applied the discounts a dis- count for lack of marketability was not required under the mergers and acquisi- tions method in this case because it was already factored into the dollar_figure million redemption price under these approaches values of dollar_figure and dollar_figure respectively for the transferred shares the parties disagree about numerous inputs into these other methodologies including nai’s cost of equity the appropriate beta the company’s expected growth rate and the universe of comparable companies these disagreements are not surprising because the valuation_date wa sec_43 years ago the data available from public databases and nai’s own records are inadequate and it is difficult to find companies comparable to nai in which was then rather incongruously an entertainment company with much of its value tied up in real_estate suffice it to say that the dollar_figure million valuation we have determined on the basis of the date redemption price falls comfortably within the range of values that can be generated using various permutations of these other formulas iii additions to tax a addition_to_tax for fraud respondent contends that petitioner is liable under sec_6653 for an addition_to_tax for fraud respondent bears the burden of proving fraud by clear_and_convincing evidence see 239_f2d_316 5th cir rev’g tcmemo_1954_242 respondent contends that his assertion of the fraud_penalty is based on petitioner’s complete failure to explain why given that he knew that there was no preexisting oral trust he did not report this gift and pay gift_tax respondent has not met his burden_of_proof the oral trust may have been a fiction but it was a fiction with real-world consequences mickey passionately believed in the oral trust theory and at his insistence it became a central feature of the settlement agreement by which edward’s litigation was resolved to please his father sumner adopted the same oral trust terminology when making a sym- metrical transfer to his own children there is no evidence that sumner embraced the oral trust concept in an effort to evade his federal gift_tax liabilities b other additions to tax respondent alternatively contends that petitioner is liable for additions to tax under sec_6651 for failure_to_file a gift_tax_return and under sec_6653 for negligence in the code imposed a addition_to_tax on any underpayment attributable to negligence or intentional_disregard_of_rules_and_regulations see sec_6653 the question of negligence is one of fact upon which the taxpayer has the burden_of_proof 43_tc_168 aff’d in part remanded in part 380_f2d_499 5th cir a taxpayer may show that his failure_to_file a return was not negligent if he relied in good_faith on advice from a tax professional that no tax_liability existed or that no return was required see 204_f2d_19 7th cir no addition_to_tax where taxpayer was advised by a reputable tax attorney that he did not have to file a return 178_f2d_769 2d cir we find that petitioner made the requisite showing of a reasonable_cause defense for both additions to tax mr rosen mr isenberg and the tax professionals at j k lasser were competent tax advisers collectively they advised sumner about his gift_tax filing_requirements on occasions beginning in sumner sought and received their advice concerning the tax consequences of transferring stock to the brent and shari trusts the evidence established that mr rosen obtained advice from j k lasser’s national_office about this transaction that this advice was memorialized in a letter or memorandum concluding that no gift_tax_return was required to be filed that messrs rosen and isenberg concurred in this conclusion and that sumner relied on this advice in good_faith we conclude that petitioner is not liable for an addition_to_tax for negligence or for failure_to_file a gift_tax_return to reflect the foregoing decision will be entered for respondent as to the deficiency and for petitioner as to the additions to tax


internal_revenue_service department of the treasury index numbers washington dc number release date refer reply to cc ebeo br1- plr-114008-99 date date employer retirement_system this is in response to your letter dated date requesting a ruling on behalf of employer and retirement_system concerning the federal_income_tax consequences of certain contributions to retirement_system proposed to be made on behalf of employees of employer measured by the value of accumulated unused sick_pay employer is a political_subdivision of a state retirement_system is a nonprofit corporation that administers retirement disability death and survivor benefits for employees of the employer and employees of the retirement_system the retirement program operated by retirement_system includes a defined_benefit_plan that is intended to be a qualified_plan under sec_401 that is a governmental_plan as described in sec_414 the defined_benefit_plan under the retirement system’s current sick leave conversion program employees are permitted a set number of days of sick leave annually and can accumulate unused sick leave as credits in their sick leave account from year to year subject_to a maximum unused sick leave remaining credited to an employee’s sick leave account at retirement is counted toward creditable service for purposes of determining the employee’s benefit under the defined_benefit_plan however creditable service under the defined_benefit_plan is limited to years employer and retirement_system are proposing a change to this sick leave conversion program to provide employees with a supplemental retirement benefit under the defined_benefit_plan on account of accumulated unused sick leave under certain circumstances instead of crediting accumulated unused sick leave as additional creditable service under this proposed change an employee who retires on account of disability or after providing advance notice of intent to retire as specified under the sick leave conversion program will receive a supplemental benefit under the defined_benefit_plan based on a fixed percentage of the value of the employee’s accumulated unused sick leave credits which will be contributed by employer to retirement_system an employee who receives this supplemental benefit under the defined_benefit_plan will not have additional service credited under the defined_benefit_plan on account of the accumulated unused sick leave credits the employee may elect the form of payment of this supplemental benefit from among several options an employee who retires without providing the specified advance notice of intent to retire and who does not retire on account of disability will not receive this supplemental benefit under the defined_benefit_plan instead additional service will be credited toward the employee’s benefit under the defined_benefit_plan based on the employee’s accumulated unused sick leave credits to the extent credited service does not exceed years as is the case under the current sick leave conversion program sec_457 of the code provides rules regarding the taxation of deferred_compensation plans of eligible employers for this purpose the term eligible_employer is defined in sec_457 as a state political_subdivision of a state and any agency_or_instrumentality of a state or political_subdivision of a state and any other organization other than a governmental_unit exempt from tax under subtitle a of title of the code the employer is an eligible_employer within the meaning of sec_457 under sec_457 a bona_fide sick leave plan is treated as not providing for the deferral of compensation_for purposes of sec_457 in the present case the primary function of the employer’s program for the crediting and use of sick leave including the proposed change to the sick leave conversion program is to provide employees with paid time off from work when necessary because of sickness thus the sick leave conversion program including the proposed change is part of a bona_fide sick leave plan within the meaning of sec_457 notwithstanding that the planned contributions to the retirement_system pursuant to the sick leave conversion program will result in a deferral of compensation accordingly the rules of sec_457 do not apply to the sick leave conversion program including the proposed change sec_451 of the code and sec_1_451-1 of the regulations provide that an item_of_gross_income is includible in gross_income for the taxable_year in which it is actually or constructively received by a taxpayer using the cash_receipts_and_disbursements_method of accounting under sec_1_451-2 income is constructively received in the taxable_year during which it is credited to a taxpayer’s account or set apart or otherwise made available so that the taxpayer may draw on it at any time however income is not constructively received if the taxpayer’s control of its receipt is subject_to substantial limitations or restrictions revrul_75_539 1975_2_cb_45 addressed two fact patterns under which sick leave accumulated by a retiring employee could be applied to the cost of accident_and_health_insurance in the first fact pattern a retiring employee can receive a cash payment for accumulated sick leave or have the payment applied to the cost of the insurance the ruling concludes that unused sick leave credits that are received in cash are includible in the retiree’s gross_income under sec_61 of the code further a retiree’s ability to relinquish the right to the cash payment and have such an amount applied to the payment of health insurance premiums results in constructive receipt of such amount under sec_451 in the second fact pattern the employer places accumulated sick leave credits in an escrow account to pay the health insurance premiums until those amounts are exhausted the retiring employee cannot elect to receive accumulated sick leave in cash the ruling concludes that since the value of the accumulated unused sick leave credits is placed in escrow by the employer solely for the payment of health insurance premiums and may not in any event be received in cash by the employee or the employee’s dependents or beneficiaries those amounts are not constructively received under sec_451 under the proposed change to the sick leave conversion program the conversion of accumulated unused sick leave credits to additional benefits under the defined_benefit_plan either as a supplemental benefit or by reason of additional service credits is automatic and mandatory no amount is constructively received by an employee when the employee provides advance notice of intent to retire or files an election as to manner of payment of the supplemental benefit or when the employer contributes additional_amounts to the retirement_system on account of the unused sick leave because the employee cannot elect to receive any amount in cash in lieu of the additional defined_benefit_plan benefit provided on account of the unused sick leave under the assignment_of_income_doctrine a gratuitous anticipatory_assignment_of_income does not shift the burden of taxation and the donor is taxable when the income is received by the donee see 311_us_112 and 281_us_111 in 356_us_260 the taxpayers assigned the right to a specified sum of money payable out of a specified percentage of oil or the proceeds received from the sale of such oil if as and when produced in return for cash the court concluded that while the oil payments were interests in land the consideration received for the oil_payment rights was taxable as ordinary_income because the lump sum consideration was essentially a substitute for what would otherwise be received at a future time as ordinary_income under the proposed change to the sick leave conversion program the conversion of accumulated unused sick leave credits to additional benefits under the defined_benefit_plan either as a supplemental benefit or by reason of additional service credits is automatic and mandatory distributions of amounts contributed under the defined_benefit_plan for these additional benefits will be subject_to the rules for qualified_plan_distributions under the code under no circumstances will an employee be eligible to receive any amount in cash in lieu of accruing these additional benefits under the defined_benefit_plan therefore the corresponding contributions to the defined_benefit_plan will not be a substitute for amounts the employee would otherwise receive as current compensation accordingly the assignment_of_income_doctrine will not apply to the proposed transaction under the economic_benefit_doctrine an employee has currently includible income from an economic or financial benefit received as compensation though not in cash form the economic_benefit_doctrine applies when assets are unconditionally and irrevocably paid into a fund or trust to be used for the employee’s sole benefit 16_tc_244 aff’d per curiam 194_f2d_51 6th cir revrul_60_31 situation 1960_1_cb_174 sec_83 of the internal_revenue_code provides that the excess if any of the fair_market_value of property transferred in_connection_with_the_performance_of_services over the amount_paid if any for the property is includible in the gross_income of the person who performed the services for the first taxable_year in which the property becomes transferrable or is not subject_to a substantial_risk_of_forfeiture sec_83 provides that sec_83 does not apply to a transfer to a_trust described in sec_401 sec_402 of the code provides that any amount actually distributed to any distributee by an employees’ trust described in sec_401 that is exempt from tax under sec_501 is taxable to the distributee in the taxable_year of the distributee in which distributed sec_1_402_a_-1 of the regulations provides that if an employer makes a contribution for the benefit of an employee to a_trust described in sec_401 for the taxable_year of the employer that ends within or with a taxable_year of the trust for which the trust is exempt under sec_501 the employee is not required to include the contribution in gross_income except for the year or years in which the contribution is distributed or made available to him it is immaterial in the case of contributions to an exempt trust whether the employee’s rights in the contributions to the trust are forfeitable or nonforfeitable either at the time the contribution is made to the trust or thereafter under the proposed change to the sick leave conversion program contributions made by employer to retirement_system on account of the additional benefits under the defined_benefit_plan that arise from unused sick leave credits are employer contributions within the meaning of sec_1_402_a_-1 to which the economic_benefit_doctrine and sec_83 of the code do not apply based on the information submitted and representations made we conclude that the employer’s contributions to fund additional benefits under the defined_benefit_plan that arise from the proposed change to the sick leave conversion program measured by the value of accumulated unused sick leave credits are employer contributions which will be excluded from the gross_income of retired employees until paid under the defined_benefit_plan the conversion of accumulated unused sick leave credits to an amount used as a basis for calculating employer contributions to fund the supplemental benefit under the defined_benefit_plan will not create taxable_income for participants using the cash_receipts_and_disbursements_method of accounting under the economic_benefit_doctrine or the constructive_receipt_doctrine of sec_451 of the code the anticipatory_assignment_of_income doctrine or sec_83 at the time of the filing of notice of intent to retire or the election of form of payment of the supplemental benefit or at the time corresponding contributions to the retirement_system are made by the employer the rules of sec_457 do not apply to this conversion of accumulated unused sick leave credits because this conversion is part of a bona_fide sick leave plan except as expressly provided herein no opinion is expressed or implied concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter in particular no opinion is expressed regarding the qualified status of the defined_benefit_plan under sec_401 or the effect of the modifications discussed in this letter on that qualified status this ruling is directed only to the taxpayers who requested it and applies only to the draft sick leave conversion program and regulations submitted with your letter of date if these documents are changed this ruling may not necessarily remain in effect sec_6110 of the code provides that this ruling may not be used or cited as precedent in accordance with the power_of_attorney on file with this office a copy of this letter is being sent to both taxpayers sincerely robert d patchell assistant chief branch office of the associate chief_counsel employee_benefits and exempt_organizations enclosure copy of purposes


id office uilc cca-121682-08 ------------ number release date from --------------------- sent date to ------------ cc --------------------------------------------------------------------------------------------------------------------------- ----------------------------------------------------------------------------------------------------- subject re taxpayer request hi -------- - chief_counsel_advice cca is defined as written advice or instruction under whatever name or designation prepared by any national_office component of the office_of_chief_counsel that a is issued to field or service_center employees of the service or regional or district employees of the office_of_chief_counsel and b conveys any legal interpretation of a revenue_provision any service or office_of_chief_counsel position or policy concerning a revenue_provision or any legal interpretation of state law foreign law or other federal_law relating to the assessment or collection of any liability under a revenue_provision sec_6110 ccdm unlike the private letter or technical_advice programs see sec_12 of revproc_2008_4 2008_1_irb_121 and section of revproc_2008_5 2008_1_irb_164 respectively the cca process does not contemplate a meeting between irs chief_counsel national_office personnel and the taxpayer moreover i agree with your conclusion that the taxpayer's previous submission in this matter is sufficient i do not believe that a conference would be helpful -------------------- ------------ ------------------------------ -------------------


t c memo united_states tax_court norman c and rosemary j eckersley petitioners v commissioner of internal revenue respondent docket no filed date arthur v pearson for petitioners john w strate for respondent memorandum findings_of_fact and opinion laro judge petitioners petitioned the court to redetermine respondent’s determination of a dollar_figure deficiency in petitioners’ federal_income_tax we decide whether the proceeds that petitioners received for settlement of a claim to ownership of a life_insurance_policy are taxable as ordinary_income or as a capital_gain we hold that the proceeds are taxed as ordinary_income unless otherwise noted section references are to the applicable versions of the internal_revenue_code rule references are to the tax_court rules_of_practice and procedure findings_of_fact some facts are stipulated and are found accordingly the stipulated facts and the exhibits submitted therewith are incorporated herein by this reference petitioners are husband and wife and they jointly filed a form_1040 u s individual_income_tax_return they resided in monterey california when their petition was filed with the court in norman c eckersley petitioner founded the pacific bank in san francisco california pursuant to a written employment agreement dated date petitioner served as pacific bank’s chairman president and chief_executive_officer with duties customary to those positions on date petitioner and pacific bank entered into an employment agreement employment agreement that stated that petitioner would serve a 5-year term of employment as chairman president and chief_executive_officer of pacific bank with a term beginning on date the employment agreement contained a provision concerning insurance on the life of petitioner paragraph stated eckersley has obtained insurance on his life from crown life_insurance_company for a period of five years from date pacific will pay all premiums up to five year maturity and will be assigned to and for the benefit of his spouse crown life policy the crown life policy was issued on date and had a face value of dollar_figure million with the life_insurance_proceeds payable if not already paid on the maturity_date of date the crown life policy provided for an initial premium payment of dollar_figure with subsequent premiums of dollar_figure due every months beginning on date the policy provided that guaranteed policy values or accumulation value was calculated in part based upon a guaranteed_interest rate of percent compounded annually upon issuance of the crown life policy pacific bank was both its owner and its beneficiary on or about date pacific bank changed the beneficiary of the crown life policy to petitioner’s spouse rosemary j eckersley ms eckersley on date petitioner resigned as chairman and chief_executive_officer of pacific bank but he remained as a director and was appointed chairman emeritus of pacific bank pacific bank accepted petitioner’s resignation on december 1as noted below the policy matures on date approximately years after its issuance the parties to the employment agreement apparently use the term year maturity to refer to the stated term of employment on date petitioner tendered his resignation as a director on date petitioners filed a lawsuit lawsuit in the superior court of california for the county of san franciso the lawsuit alleged that pacific bank had breached the employment agreement by inter alia failing to transfer title of the crown life policy to ms eckersley as provided for in the employment agreement on date petitioners and pacific bank entered into a settlement agreement and release settlement agreement the settlement agreement stated that pacific bank would pay petitioners dollar_figure on date dollar_figure within business days of the dismissal of the case and dollar_figure per month for years beginning on date the amounts payable were calculated as follows dollar_figure as to a severance_pay dispute dollar_figure as to the crown life policy dollar_figure as the net present_value of the monthly payments due for years and dollar_figure to settle amounts previously due totaling dollar_figure with regard to the crown life policy the settlement agreement stated that the dollar_figure was payable for confirmation of tpb’s pacific bank’s full rights to the crown life policy no insuring the life of norman c eckersley to settle the dispute regarding the ownership of the policy and the net surrender values in the policy during petitioners paid to their attorney mark garay dollar_figure in legal fees related to the lawsuit approximately one-third of the total settlement of dollar_figure petitioners’ federal_income_tax return included a schedule c profit or loss from business on the schedule c petitioners reported income of dollar_figure which included the dollar_figure related to the crown life policy also on schedule c petitioners claimed a deduction for legal expenses of dollar_figure petitioners reported no alternative_minimum_tax liability on this return respondent determined in the notice_of_deficiency underlying this case that dollar_figure of the income reported on schedule c was not related to a trade_or_business and reclassified that amount as other income not reported on schedule c also respondent disallowed dollar_figure of the dollar_figure of legal expenses because that portion was not an ordinary_and_necessary_expense incurred_in_a_trade_or_business but rather an expense that constituted a miscellaneous itemized_deduction based on these changes respondent determined that petitioners were now subject_to alternative_minimum_tax with the alternative_minimum_tax due of dollar_figure representing the vast majority of petitioners’ dollar_figure deficiency opinion petitioners asserted in their petition that the dollar_figure of income and the dollar_figure of legal fees were properly reported on their schedule c petitioners abandoned those assertions at trial asserting instead that petitioner received the dollar_figure from pacific bank on a sale of the crown life policy by petitioner to pacific bank as petitioners now see it the dollar_figure less their basis in the policy is taxable to them as a capital_gain petitioners argue that their basis in the crown life policy equaled the amount of the premiums that were taxed to them petitioners assert that dollar_figure of the dollar_figure was paid to them for the cash_value of the crown life policy and the balance dollar_figure was paid to them for the policy’s other attributes the credible_evidence in the record does not allow us to find that petitioners had any basis in the crown life policy eg we are unable to find that petitioners paid any of the premiums on the policy or included in their gross_income any of the premiums nor does the credible_evidence allow us to find that the policy had any particular cash_value thus the issue that remains is whether the dollar_figure received by petitioners is taxable as ordinary_income or as a capital_gain respondent observes that petitioners received the dollar_figure in settlement of their claim to ownership of the crown life policy that the policy was titled in the name of pacific bank and that the policy was never titled in the name of either or both petitioners respondent concludes that the dollar_figure is taxable as ordinary_income in that no property other than money ever changed hands in connection with the settlement and that the dollar_figure was received by petitioners in extinguishment of any right that they may have had in the crown life policy we agree with respondent that the dollar_figure is taxable to petitioners as ordinary_income in 111_tc_256 affd 196_f3d_866 7th cir the taxpayers’ s_corporations acquired the assets of a corporation that included the acquired corporation’s pending lawsuit against xerox corp seeking damages for breach of contract the s_corporations settled the lawsuit and the taxpayers reported their share of the settlement proceeds as capital_gain this court held that the proceeds were not received by the s_corporations from a sale_or_exchange the court ruled that the s corporations’ rights in the lawsuit vanished both in form and substance upon the receipt of the settlement proceeds and that xerox corp received in the settlement nothing other than the discharge of the liabilities that arose as a result of the lawsuit id pincite accord steel v commissioner t c 2the court_of_appeals for the seventh circuit appears to have affirmed our decision in 111_tc_256 continued memo holding that settlement proceeds were taxable as ordinary_income because no sale_or_exchange of a capital_asset occurred with only one party having the right to receive property affd 78_fedappx_585 9th cir in determining whether a sale_or_exchange occurred for petitioners we focus on whether pacific bank received anything in return for the dollar_figure ie anything other than the discharge of petitioners’ lawsuit claim concerning the policy we are unable to conclude that it did petitioners argue that pacific bank received more than the extinguishment of the lawsuit continued affd 196_f3d_866 7th cir on a somewhat different rationale ie that the right to recover in the lawsuit against xerox a substitute for lost profits retained its character as an asset productive of ordinary_income after it passed to the s_corporations by analogy it seems likely that the crown life policy had its ownership been transferred to ms eckersely would have generated ordinary_income to petitioners under sec_83 at least to the extent of its cash_surrender_value which has not been shown to have been less than the dollar_figure received thus it would appear that the dollar_figure would have the character of ordinary_income under the affirming court’s reasoning as well as under that of our own opinion in nahey we relied on the absence of a sale_or_exchange we recognize that judge cudahy in his concurring opinion in nahey v commissioner f 2d pincite expressed concern that the court’s opinion might be difficult to reconcile with pac transp co v commissioner 483_f3d_209 9th cir vacating and remanding tcmemo_1970_41 a case that we would be obliged to follow were it directly on point given that it was decided by the court to which an appeal of this case lies we do not believe that pac transp co has any applicability here where unlike there there was no intermediate transaction apparently the parties think likewise as neither party cited pac transp co in the opening posttrial briefs claim specifically they assert pacific bank also received clear title to the crown life policy we find this argument unpersuasive although the settlement may have removed a cloud on the title of the crown life policy the settlement represented only the extinguishment of the lawsuit claim and did not operate to convert the character of the dollar_figure proceeds received in return for its payment of the dollar_figure pacific bank received the extinguishment of petitioners’ claim concerning the crown life policy and nothing more in fact the crown life policy both before and after the settlement states specifically that pacific bank is the owner of the policy we conclude that the dollar_figure was received by petitioners in extinguishment of a claim as opposed to the sale_or_exchange of a capital_asset and thus is taxable as ordinary_income we have considered all arguments by petitioners for a holding contrary to that which we reach herein to the extent not discussed we conclude that those arguments are irrelevant or without merit decision will be entered under rule


internal_revenue_service number release date index number ------------------ ------------------- ------------------------------- ------------- --------------------- -------------------------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact -------------------- id no ------------- telephone number --------------------- refer reply to cc corp plr-103979-07 date date -------------------------------------- ------------------------------- ------------------ legend distributing ------------------------------------------------------------------ ----------------------------------------------------------- controlled ------------------------------------------------------------------ ----------------------------------------------------------- shareholder a ------------------------------------------------------------- shareholder b ------------------------------------------------------------- shareholder c ------------------------------------------------------------- shareholder d ------------------------------------------------------------- shareholder e ------------------------------------------------------------- a b --------------------- -------------------- ------------------ ------------------ ---- --- --- --- ---- plr-103979-07 c d e f g business x -------------------------------------------------------------------------------------------------------------- business y ------------------------------------------------------------------------------------------------------------- dear ------------- ------------ ------ --------------------------------------------------------------------------------- --------------------------------------------------------------------------------- this letter responds to your date letter requesting rulings as to certain federal_income_tax consequences of a proposed transaction the information provided in that letter and in later correspondence is summarized below the rulings contained in this letter are based on facts and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party this office has not verified any of the materials submitted in support of the request for rulings verification of the information representations and other data may be required as part of the audit process in particular this office has not reviewed any information pertaining to and has made no determination regarding whether the proposed transaction i satisfies the business_purpose requirement of sec_1_355-2 of the income_tax regulations ii is used principally as a device for the distribution of the earnings_and_profits of the distributing_corporation or the controlled_corporation or both see sec_355 a b of the internal_revenue_code and sec_1 d or iii is part of a plan or series of related transactions pursuant to which one or more persons will acquire directly or indirectly stock representing a 50-percent_or_greater_interest in the distributing_corporation or the controlled_corporation see sec_355 and sec_1_355-7 summary of facts distributing is a fiscal_year corporation engaged in business x and in business y distributing has one class of common_stock outstanding owned approximately a by shareholder a b by shareholder b c by shareholder c d by shareholder d e by shareholder e financial information submitted by distributing indicates that each of plr-103979-07 business x and business y has had gross_receipts and operating_expenses representative of the active_conduct_of_a_trade_or_business for each of the past five years proposed transaction for what is represented to be a valid business_purpose distributing proposes the following transaction the proposed transaction i distributing will form controlled and contribute all of the business y assets to controlled in exchange for all of the outstanding controlled common_stock and the assumption of certain liabilities associated with the business y assets the contribution ii iii shareholder a will acquire d of distributing common_stock from shareholder d in a transaction to which sec_1041 applies shareholder a will purchase f of distributing common_stock from shareholder e for dollar_figureg immediately thereafter distributing will distribute all of the controlled common_stock to shareholder a in exchange for all shares of distributing common_stock held by shareholder a equal to the fair_market_value of business y on the date of the distribution the distribution distributing makes the following representations with respect to the contribution representations and the distribution a no part of the consideration to be distributed by distributing will be received by shareholder a as a creditor employee or in any capacity other than that of a distributing shareholder b the fair_market_value of the controlled stock to be received by shareholder a will be approximately equal to the fair_market_value of the distributing stock surrendered by shareholder a in the exchange c the five years of financial information submitted on behalf of distributing’s business x and business y represents the present operations of each business and regarding each business there have been no substantial operational changes since the date of the last financial statements submitted d following the distribution distributing and controlled will each continue the active_conduct of its business independently and with its separate employees plr-103979-07 e the distribution is being carried out for the following corporate business_purpose to segregate all business operations between distributing and controlled and allow shareholder a to go his separate way the distribution is motivated in whole or substantial part by this corporate business_purpose f for purposes of sec_355 immediately after the distribution no person determined after applying sec_355 will hold stock possessing 50-percent or more of the total combined voting power of all classes of distributing entitled to vote or percent or more of the total value of shares of all classes of distributing that was acquired by purchase as defined in sec_355 and during the five-year period determined after applying sec_355 ending on the date of the distribution g for purposes of sec_355 immediately after the distribution no person determined after applying sec_355 will hold stock possessing 50-percent or more of the total combined voting power of all classes of controlled stock entitled to vote or percent or more of the total value of shares of all classes of controlled stock that was either i acquired by purchase as defined in sec_355 and during the five-year period determined after applying sec_355 ending on the date of the distribution or ii attributable to distributions on distributing stock that was acquired by purchase as defined in sec_355 and during the five-year period determined after applying sec_355 ending on the date of the distribution h the distribution is not part of a plan or series of related transactions within the meaning of sec_1_355-7 pursuant to which one or more persons will acquire directly or indirectly stock representing a 50-percent_or_greater_interest within the meaning of sec_355 in distributing or controlled including any predecessor or successor of any such corporation i the total fair_market_value of the assets transferred to controlled by distributing in the contribution will equal or exceed the aggregate adjusted_basis of the transferred assets j the total adjusted_basis and the fair_market_value of the assets transferred to controlled by distributing each equals or exceeds the sum of the liabilities assumed as determined under sec_357 by controlled plus any liabilities to which the transferred assets are subject k the liabilities to be assumed as determined under sec_357 in the transaction and the liabilities to which the transferred assets are subject were incurred in the ordinary course of business and are associated with the assets being transferred l the indebtedness if any owed by controlled to distributing after the distribution will not constitute stock_or_securities plr-103979-07 m no intercorporate debt will exist between distributing and controlled at the time of or subsequent to the distribution n no two parties to the transaction are investment companies as defined in sec_368 and iv o the distribution is not used principally as a device for the distribution of the earnings_and_profits of distributing or controlled or both p payments made in connection with all continuing transactions if any between distributing and controlled will be for fair_market_value based on terms and conditions arrived at by the parties bargaining at arm's length q neither distributing nor controlled is a disqualified_investment_corporation as defined in sec_355 rulings based solely on the information and representations submitted we rule as follows on the contribution and distribution the contribution followed by the distribution will qualify as a reorganization under sec_368 distributing and controlled will each be a_party_to_a_reorganization under sec_368 no gain_or_loss will be recognized by distributing on the contribution sec_357 and sec_361 sec_1032 no gain_or_loss will be recognized by controlled on the contribution the basis of each asset received by controlled in the contribution will equal the basis of that asset in the hands of distributing immediately before its transfer sec_362 the holding_period of each asset received by controlled in the contribution will include the period during which distributing held that asset sec_1223 no gain_or_loss will be recognized by distributing on the distribution sec_361 no gain_or_loss will be recognized by and no amount will be included in the income of shareholder a on the distribution sec_355 plr-103979-07 the basis of the controlled stock held by shareholder a immediately after the distribution will equal the basis of the distributing stock surrendered by shareholder a in the exchange sec_358 the holding_period of the controlled stock received by shareholder a will include the holding_period of the distributing stock on which the distribution is made provided such stock is held as a capital_asset on the date of the distribution sec_1223 earnings_and_profits will be allocated between distributing and controlled in accordance with sec_312 and sec_1_312-10 caveats no opinion is expressed about the tax treatment of the proposed transaction described above under other provisions of the code and regulations or the tax treatment of any condition existing at the time of or effects resulting from the proposed transaction that is not specifically covered by the above rulings in particular no opinion is expressed regarding i whether the proposed transaction satisfies the business_purpose requirement of sec_1_355-2 ii whether the proposed transaction is used principally as a device for the distribution of the earnings_and_profits of distributing or controlled or both and iii whether the proposed transaction is part of a plan or series of related transactions under sec_355 procedural statements this ruling is directed only to the taxpayer requesting it sec_6110 provides that it may not be used or cited as precedent a copy of this letter must be attached to any income_tax return to which it is relevant alternatively taxpayers filing their returns electronically may satisfy this requirement by attaching a statement to their return that provides the date and control number of the letter_ruling in accordance with the power_of_attorney on file in this office a copy of this ruling letter will be sent to your authorized representatives sincerely _______________________________ richard k passales senior counsel branch office of associate chief_counsel corporate