tcmemo_2008_268 united_states tax_court january transport inc petitioner v commissioner of internal revenue respondent docket no filed date jon h trudgeon for petitioner william f castor for respondent memorandum findings_of_fact and opinion marvel judge respondent issued a notice_of_deficiency with respect to petitioner’ sec_2002 federal_income_tax respondent determined that petitioner was liable for an dollar_figure accuracy- related penalty under sec_6662 the only issue for 1unless otherwise indicated all section references are to continued decision is whether petitioner is liable for the accuracy-related_penalty as determined by respondent findings_of_fact some of the facts have been stipulated we incorporate the stipulated facts into our findings by this reference when the petition was filed petitioner was an oklahoma corporation with its principal_place_of_business in oklahoma i background a petitioner’s business petitioner began operations as an unincorporated business in it incorporated sometime between and petitioner is a trucking company that handles hazardous and nonhazardous waste it removes waste from oil and water separators at its clients’ tire and lube locations and transports the waste to one of the recycling facilities owned by january environmental services inc jes a related corporation chris allen january mr january started working for petitioner in after graduating from high school he became petitioner’s president when it incorporated during mr january was petitioner’s president and he owned percent of continued the internal_revenue_code in effect for the year in issue and all rule references are to the tax_court rules_of_practice and procedure all amounts are rounded to the nearest dollar petitioner’s stock during mr january’s sister carol january ms january also worked for petitioner b petitioner’s bookkeeping financial statements and return preparation in about petitioner retained stone koskie cpas p c stone koskie to provide accounting and tax preparation services in jenyle koskie ms koskie a certified_public_accountant c p a joined stone koskie as a partner on the date of trial ms koskie owned a 75-percent interest in stone koskie one of the services stone koskie provided to petitioner was data entry into petitioner’s computerized books of account stone koskie entered such information as receipts expenses bank statements and relevant transactions including asset purchases stone koskie then produced financial statements using the computerized information before date steve jansing mr jansing a stone koskie employee was involved in data entry for petitioner ms koskie was responsible for reviewing petitioner’s financial statements and preparing its final books and tax returns ms koskie also prepared tax returns for jes mr january and his wife and their children if necessary 2during the relevant period ms january also used the last names reavis and flowers approximately once a month ms january brought petitioner’s records to stone koskie’s office often information was incomplete and either mr jansing or ms koskie telephoned ms january with questions or requested additional information such as copies of receipts for major purchases if ms january could not answer a question ms koskie would ask mr january in date in addition to performing her own duties ms koskie assumed mr jansing’s duties until a new employee could be hired ii sale of the rockwell and purchase of a cessna airplane a sale of the rockwell in petitioner acquired a one-third interest in a rockwell airplane rockwell subject_to a loan on date petitioner signed over its interest in the rockwell to the remaining two owners who assumed petitioner’s obligation on the loan when the sale occurred petitioner’s general ledger showed that petitioner’s share of the outstanding loan was dollar_figure b enactment of the job creation act on date the job creation and worker assistance act of job creation act publaw_107_147 116_stat_21 codified as amended in scattered sections of u s c was signed 3mr jansing was diagnosed with a terminal illness and could no longer perform his duties 4respondent subsequently determined the balance of petitioner’s note payable was dollar_figure into law as part of the job creation act congress enacted sec_168 to allow an additional_first-year_depreciation deduction equal to percent of the adjusted_basis of qualified_property_bonus_depreciation job creation act sec_101 116_stat_22 the job creation act generally defined qualified_property as property that met all of the following requirements the property was modified accelerated recovery system macrs_property with an applicable_recovery_period of years or less unless it was certain computer_software water_utility_property or qualified_leasehold_improvement_property the original use5 of the property commenced with the taxpayer after date the taxpayer acquired the property within a specified period and the taxpayer placed the property in service before specified dates id the bonus_depreciation provision was effective for property placed_in_service after 5the legislative_history of the job creation and worker assistance act of publaw_107_147 116_stat_21 explains that original_use means the first use to which the property is put see s prt pincite n 2002_3_cb_180 h rept pincite n 2002_3_cb_44 the general explanation of tax legislation enacted in the 107th congress published on date states that sec_1_48-2 income_tax regs applies for evaluating whether property qualifies as original-use property staff of joint comm on taxation general explanation of tax legislation enacted in the 107th congress general explanation pincite n j comm print 2002_3_cb_263 the general explanation contains an example involving the purchase of a used asset by a taxpayer and states that no part of the purchase_price qualifies for bonus_depreciation id date in taxable years ending after such date id sec_101 116_stat_25 c purchase of the cessna on date petitioner bought a used cessna citation airplane cessna from an unrelated party around the time of the purchase mr january obtained a two-page article titled immediate bonus_depreciation for new and used aircraft approved by house ways_and_means_committee article the article was subtitled anticipated passage into law within two weeks the article was ostensibly written by a c p a and was dated date the article stated that the house of representatives committee on ways and means had passed h_r 107th cong 1st sess bill which would have allowed bonus_depreciation for the year in which the taxpayer placed qualified_property in service the article noted that qualified_property included new and used aircraft acquired after date and before date the first paragraph of 6the article referred to h_r 107th cong 1st sess bill enacted introduced in the house of representatives and referred to the committee on ways and means on date cong rec as of the date of the article the committee on ways and means had not yet reported the bill h rept supra pincite c b pincite reporting the bill on date 7the bill as introduced defined qualified_property as inter alia original_use property only see h_r sec_101 as continued the article stated that although this is far from complete this is a very substantial first step toward this significant legislation mr january read the article and understood that the legislation was not complete and that the article described a possible tax_benefit consisting of an additional 30-percent depreciation deduction for airplanes in around the time of the cessna purchase mr january initiated a conversation with ms koskie regarding bonus_depreciation for the cessna during the conversation ms koskie told mr january that her understanding was that bonus_depreciation could be claimed only with respect to new original- use assets mr january stated he had read an article about an exception for used airplanes and subsequently sent it to ms koskie mr january told ms koskie that he would like to claim bonus_depreciation although they knew the cessna was a used airplane mr january and ms koskie decided to claim bonus continued introduced in the house of representatives date the original_use requirement remained in all versions of the bill that provided for bonus_depreciation see h_r sec_101 as concurred in by the senate date h_r sec_101 sec_148 cong rec as agreed and passed by the house of representatives date h_r sec a as reported by the s comm on fin date h_r sec_101 sec_147 cong rec as passed by the house of representatives date h_r sec_101 h rept supra pincite c b pincite as reported by h_r comm on ways and means date h_r sec_101 as introduced in the house of representatives date depreciation on petitioner’s financial statements neither mr january nor any other employee of petitioner had further conversations with ms koskie regarding the article iii preparation of petitioner’ sec_2002 financial statements and return stone koskie received petitioner’s records for date the month when petitioner purchased the cessna but because of the busy tax season ms koskie did not prepare petitioner’s financial statements until approximately a month later on date stone koskie prepared a set of adjusting journal entries for date an adjusting entry recorded the monthly depreciation of dollar_figure which included fractional bonus_depreciation for the cessna on date stone koskie prepared a final internal depreciation schedule that ms koskie used to prepare petitioner’ sec_2002 form_1120 u s_corporation income_tax return return the final depreciation schedule reflected bonus_depreciation claimed for the cessna and other assets on date ms koskie prepared yearend adjustments but did not correct the erroneously claimed bonus_depreciation 8besides the cessna in petitioner purchased other used and new original-use assets 9if any depreciation_deductions were erroneously claimed during the year ms koskie would normally correct the error through yearend adjustments to petitioner’s depreciation account accumulated depreciation ms koskie subsequently prepared petitioner’ sec_2002 return on the basis of the financial statements petitioner’ sec_2002 return claimed a depreciation deduction of dollar_figure including bonus_depreciation of dollar_figure of which dollar_figure related to the cessna petitioner also reported on form_4797 sales of business property gain of dollar_figure on the sale of petitioner’s interest in the rockwell computed by subtracting from the amount_realized of dollar_figure an adjusted_basis of dollar_figure when she prepared the adjusting entries final depreciation schedule and return ms koskie did not research whether the cessna qualified for bonus_depreciation during the return preparation process stone koskie’s return preparation computer_software program generated a diagnostics report notifying ms koskie that the program had computed additional_depreciation on assets the diagnostics report stated that the program defaulted to the bonus_depreciation deduction for assets with an macrs method of years or less that were placed_in_service after date the diagnostics report further read caution this deduction is only available when the original_use of the property commences with the taxpayer ms koskie read the report but did not check whether the bonus_depreciation claimed for the cessna and other used assets purchased in was proper ms koskie did not give the diagnostics report to petitioner or notify petitioner whether the cessna and other used assets purchased in qualified for bonus_depreciation claimed on it sec_2002 return on date stone koskie sent petitioner it sec_2002 return with attachments for signature the cover letter advised petitioner to carefully review the return and ms koskie offered to answer any questions neither mr january nor any other employee of petitioner asked questions about the return mr january on behalf of petitioner signed the return without inquiring whether the cessna and other used assets purchased in qualified for bonus_depreciation on date petitioner timely filed it sec_2002 return iv audit and respondent’s adjustments in date respondent commenced an examination of petitioner’ sec_2002 return examining officer amy dunford was originally assigned to the examination but in date examining officer karen robinson ms robinson was assigned to petitioner’s case ms koskie served as petitioner’s representative during the examination during the examination respondent made several adjustments first respondent decreased petitioner’s claimed depreciation deduction by dollar_figure computed as follows 10the parties stipulated the total depreciation-related adjustments of dollar_figure however as indicated by the table the depreciation-related adjustments totaled dollar_figure respondent used the dollar_figure amount in the notice_of_deficiency and continued bonus deprec per return bonus deprec as adjust other deprec per return other deprec as adjust dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number -0- big_number big_number -0- dollar_figure -0- -0- -0- -0- -0- big_number big_number big_number big_number -0- -0- -0- -0- -0- -0- -0- -0- dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number -0- big_number total adjust dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number asset trailer lawnmower golf cart trailer computer trailer computer vac trailer vac trailer tank copy machine icemaker electric motor computer ford ford cessna ford f150 freightliner truck time-share condominium sunnyvale building total respondent adjusted depreciation on item sec_1 and through and by changing the depreciation method from the macrs double declining balance ddb to the macrs straight-line sl method respondent adjusted depreciation on item sec_3 through and through by changing the depreciation method from the macrs ddb to the macrs sl method and disallowing bonus_depreciation continued accordingly for the penalty calculation respondent adjusted depreciation on items and by computing depreciation using the macrs ddb method and disallowing bonus_depreciation respondent disallowed bonus_depreciation because the assets were used when placed_in_service by petitioner respondent disallowed a depreciation deduction for the time-share condominium item because the property was nonbusiness property respondent adjusted depreciation claimed for the sunnyvale building item by changing the class_life of the building from macrs 2-year property to macrs 39-year property in addition to the depreciation-related adjustments respondent determined that petitioner realized dollar_figure on the disposition of the rockwell resulting in a dollar_figure adjustment to form_4797 gain reported on the return the adjustments discussed above resulted in an income_tax deficiency of dollar_figure which petitioner agreed to and paid however petitioner did not agree that it was liable for an accuracy-related_penalty under sec_6662 on date respondent issued petitioner a notice_of_deficiency for determining a sec_6662 accuracy-related_penalty of dollar_figure with respect to the entire deficiency opinion respondent contends that petitioner is liable for the accuracy-related penalty11 under sec_6662 on alternative grounds the underpayment_of_tax was attributable to negligence or disregard of rules or regulations under sec_6662 or there was a substantial_understatement_of_income_tax under sec_6662dollar_figure 11in the notice_of_deficiency respondent calculated the dollar_figure accuracy-related_penalty on the basis of the dollar_figure underpayment_of_tax which in turn was calculated on the basis of the dollar_figure total adjustment to income this adjustment derives from the dollar_figure decrease to the claimed depreciation deduction see supra note and the dollar_figure increase in income related to the underreported form_4797 gain the decrease to the claimed depreciation resulted from three types of adjustments the disallowance of bonus_depreciation claimed with respect to the cessna and other used assets the change_of the depreciation method from the macrs ddb to the macrs sl method computing depreciation on the basis of the macrs ddb method and change to the class_life of a building and disallowance of a depreciation deduction on the time-share condominium during trial and on briefs the parties focused on the penalty portion attributable to the bonus_depreciation deduction for the cessna however because petitioner contests the entire penalty and respondent calculated the penalty on the basis of all adjustments we address the issue of whether petitioner is liable for the sec_6662 penalty as it pertains to each of the different types of adjustments 12in schedule attached to the notice_of_deficiency respondent determined that petitioner was liable for an accuracy- related penalty because of a substantial_understatement_of_income_tax on brief however respondent argues that petitioner is alternatively liable for the accuracy-related_penalty under sec_6662 because of negligence because petitioner addressed the issue in its reply brief we find no surprise or prejudice to petitioner see 127_tc_124 accordingly we address both grounds for the accuracy- related penalty sec_6662 and b authorizes the commissioner to impose a 20-percent penalty on the portion of an underpayment of income_tax attributable to negligence or disregard of rules or regulations the term negligence includes any failure to make a reasonable attempt to comply with the provisions of the internal revenue laws and the term disregard includes any careless reckless or intentional disregard sec_6662 sec_1_6662-3 and income_tax regs disregard of rules or regulations is careless if the taxpayer does not exercise reasonable diligence to determine the correctness of a return position and is reckless if the taxpayer makes little or no effort to determine whether a rule_or_regulation exists under circumstances which demonstrate a substantial deviation from the standard of conduct that a reasonable person would observe sec_1_6662-3 income_tax regs see also 85_tc_934 stating that negligence is lack of due care or failure to do what a reasonable person would do under the circumstances sec_6662 and b also authorizes the commissioenr to impose a 20-percent penalty if there is a substantial_understatement_of_income_tax an understatement is substantial in the case of a corporation when it exceeds the greater of percent of the tax required to be shown on the return or dollar_figure sec_6662 respondent bears the burden of production with respect to petitioner’s liability for the sec_6662 penalty and must produce sufficient evidence indicating that it is appropriate to impose the penalty see sec_7491 once respondent meets his burden of production petitioner must come forward with persuasive evidence that respondent’s determination is incorrect or that petitioner had reasonable_cause or substantial_authority for its position see 116_tc_438 respondent has met his burden of production respondent established that the amount of understatement exceeds the greater of percent of the tax required to be shown on the return or dollar_figure and that petitioner claimed bonus_depreciation deductions to which petitioner concedes it was not entitled see sec_168 because respondent has met his burden of production petitioner must produce sufficient evidence to prove that respondent’s determination is incorrect see higbee v commissioner supra pincite petitioner concedes as much but argues that the reasonable_cause exception under sec_6664 applies sec_6664 provides an exception to the sec_6662 accuracy-related_penalty with respect to any portion of an underpayment if the taxpayer shows that there was reasonable_cause for such portion and that the taxpayer acted in good_faith with respect to such portion the determination of reasonable_cause and good_faith is made on a case-by-case basis taking into account all pertinent facts and circumstances sec_1 b income_tax regs the most important factor is the extent of the taxpayer’s effort to assess the proper tax_liability id in order for the reasonable_cause exception to apply the taxpayer must prove that it exercised ordinary business care and prudence as to the disputed item see 115_tc_43 affd 299_f3d_221 3d cir petitioner bears the burden of proving that it meets the requirements for relief under the sec_6664 reasonable_cause exception see higbee v commissioner supra pincite reliance upon the advice of a tax professional may establish reasonable_cause and good_faith for the purpose of avoiding liability for the sec_6662 penalty see 469_us_241 reliance on a tax professional is not an absolute defense but merely a factor to be considered 89_tc_849 affd 904_f2d_1011 5th cir affd 501_us_868 whether reasonable_cause exists when a taxpayer has relied on a tax professional to prepare a return must be determined on the basis of all of the facts and circumstances see neonatology associates p a v commissioner supra pincite the taxpayer claiming reliance on a tax professional must prove by a preponderance of evidence each prong of the following test the adviser was a competent professional who had sufficient expertise to justify reliance the taxpayer provided necessary and accurate information to the adviser and the taxpayer actually relied in good_faith on the adviser’s judgment id pincite reliance on a return preparer is not reasonable where even a cursory review of the return would reveal inaccurate entries see pratt v commissioner tcmemo_2002_ for purposes of this opinion we accept that ms koskie was a competent tax professional and that she had sufficient expertise to justify petitioner’s general reliance on her we do not accept however that petitioner reasonably relied in good_faith on ms koskie’s judgment regarding whether to claim bonus_depreciation on used assets our analysis is set forth below a bonus_depreciation claimed with respect to used assets when mr january signed petitioner’ sec_2002 return and petitioner filed it sec_168 unambiguously limited bonus_depreciation to original-use assets see sec_168 the job creation act authorizing bonus_depreciation was signed into law on date more than year before petitioner filed it sec_2002 return the article which mr january brought to ms koskie’s attention was dated date and clearly stated that the bill was not final at trial mr january could not recall whether at the time of the conversation with ms koskie he understood that the article described a pending bill because the article which was his only source of information on bonus_depreciation referred to pending legislation we find that mr january knew that the article referred to a pending bill rather than final legislation this finding is supported by ms koskie’s testimony that mr january told her that airplanes were going to be exempt mr january and ms koskie testified in detail at trial about their conversation mr january could not recall whether ms koskie ever told him that only original-use assets qualified for bonus_depreciation although on cross-examination he recalled her comment that bonus_depreciation was limited to first-time use of assets mr january also testified that his understanding at the time was that the asset had to be new to the owner mr january remembered discussing with ms koskie whether a used airplane could be considered new if petitioner added a new engine to it ms koskie credibly testified that she told mr january bonus_depreciation was for new original-use assets only she also testified that mr january replied there was going to be an exception for used airplanes on the basis of the article he had read we find that ms koskie warned mr january regarding her understanding that bonus_depreciation applied only to new original-use assets and that mr january was put on notice by the article that legislation regarding bonus_depreciation was in a state of flux despite the warnings he received mr january gave ms koskie the article written before the legislation was enacted with the expectation that she would rely on it to claim on petitioner’s financial statements bonus_depreciation for used assets acquired during at trial mr january denied ever directing ms koskie to claim bonus_depreciation on petitioner’s financial statements although he acknowledged stating to ms koskie that he would like to claim bonus_depreciation ms koskie credibly testified that mr january and she decided to claim bonus_depreciation on petitioner’s books ms koskie used the article as the basis for recording bonus_depreciation on the used assets in petitioner’s financial statements and she prepared the return on the basis of petitioner’s financial statements both the financial statement entries and the preparation of petitioner’ sec_2002 return occurred after the job creation act was signed into law 13ms koskie relied on the article without further research on date ms koskie prepared adjusting journal entries for date recording the monthly depreciation which included bonus_depreciation for the cessna on date stone koskie prepared a final depreciation schedule that again claimed bonus_depreciation on date stone koskie sent petitioner it sec_2002 return with attachments although mr january as petitioner’s president had a duty adequately to examine petitioner’s return mr january failed to do so a cursory review of the federal depreciation schedule attached to the return would have revealed bonus_depreciation claimed for the cessna bonus_depreciation claimed for the cessna was a large item on petitioner’s depreciation schedule on the return petitioner claimed a depreciation deduction of dollar_figure of which almost percent dollar_figure related to bonus_depreciation for the cessna a prudent person under the circumstances would have inquired before filing the return whether the bill containing the bonus_depreciation provision had been enacted given ms koskie’s initial hesitation on the basis of her understanding that bonus_depreciation was only available for new original-use assets a prudent person also would have followed up with ms koskie or another source regarding whether bonus_depreciation could be claimed on used assets before filing a return that claimed a substantial bonus_depreciation deduction on used assets mr january however turned a blind eye to the issue and did not act as a prudent person would have acted despite his knowledge of the uncertainty of petitioner’s bonus_depreciation position mr january failed to ask ms koskie what she had done about bonus_depreciation on the return petitioner’s claim that it relied in good_faith on its accountant is undermined when petitioner’s president knew before the return was filed that the article on which he and the accountant were relying referred to a pending bill evidence in the record supports an inference that petitioner and ms koskie may have agreed to play the audit_lottery on this point the inference is bolstered by ms robinson’s notes in form_9984 examining officer’s activity record activity record a stipulated exhibitdollar_figure an entry dated date describes ms robinson’s telephone conversation with ms koskie about the bonus_depreciation positions on petitioner’ sec_2002 return i explained the article was written in late the law was enacted in april of therefore many changes to the bill could have occurred subsequent to the article i asked if they checked out any changes or what the final position was ms koskie stated that mr january was aware of the article they discussed the reliance on it they knew it was an aggressive position and opted to use it anyway at trial ms robinson credibly testified that she wrote down ms koskie’s specific words because she found it unusual 14the activity record was introduced into evidence by the parties as stipulated exhibit 15-j the parties filed the stipulation of facts subject_to the right to object to the admission of any such facts and exhibits in evidence on the grounds of materiality and relevancy petitioner did not reserve any objections to the activity record under rule d petitioner also raised no objections at the commencement of the trial when the court admitted all exhibits including the activity record into evidence that ms koskie did not answer the question whether they had researched the final position she also testified that she understood the word they referred to ms koskie and mr january although petitioner asserts on brief that ms robinson’s statements are prefabrications because neither ms koskie nor mr january recalled at trial the conversations described by ms robinson we have no reason to doubt the credibility of ms robinson’s contemporaneous entry in her activity record the preponderance_of_the_evidence on the issue of the penalty as it pertains to bonus_depreciation favors respondent’s position that petitioner did not reasonably rely on its return preparer or act in good_faith by doing sodollar_figure we conclude that petitioner did not reasonably rely on the return preparer in good_faith and therefore sustain the sec_6662 penalty attributable to bonus_depreciation erroneously claimed on used assetsdollar_figure 15even if we were to assume the evidence on this issue is absolutely equal the burden_of_proof is on petitioner see 116_tc_438 and we would have to conclude that petitioner has not met its burden_of_proof 16although most of the discussion focuses on the bonus_depreciation claimed for the cessna bonus_depreciation was also erroneously claimed for other used assets as to the other used assets petitioner did not introduce any evidence to show the basis for the bonus_depreciation deduction or offer any argument why our conclusion regarding the applicability of the sec_6662 continued b gain from the rockwell sale we reach a different conclusion however with respect to the portion of the underpayment resulting from the underreporting of petitioner’s form_4797 gain ms koskie testified that respondent’s adjustment of the amount of gain resulted from the fact that the balance of the note payable recorded in petitioner’s general ledger which she used to calculate the amount of the gain on the return was incorrect as it did not properly account for interest although petitioner handled a small amount of bookkeeping the record indicates stone koskie was responsible for the general ledger ms koskie testified that petitioner would provide any information that i asked for she further testified that there were a lot of notes payable that we had to keep up with so we had to make sure that we had all the statements from the bank saying how much interest and principal there was on each note we are satisfied that petitioner provided all necessary and accurate information to stone koskie and that petitioner relied in good_faith on ms koskie’s expertise with respect to proper reporting of the form_4797 gain from the rockwell continued penalty should differ depending on the identity of the used asset saledollar_figure accordingly we conclude that petitioner has established that it had reasonable_cause and that it acted in good_faith with respect to the calculation of the form_4797 gain and we hold that petitioner is not liable for the sec_6662 penalty with respect to this portion of the underpayment c other depreciation-related adjustments we also conclude that petitioner had reasonable_cause and acted in good_faith with respect to other depreciation- related adjustments such as changing the depreciation method from the macrs ddb to the macrs sl method computing depreciation using the macrs ddb method and changing the class_life of an asset the errors were not the result of any negligence on petitioner’s part and would not have been readily apparent to petitioner even if petitioner had carefully examined the return we conclude that petitioner provided necessary and accurate information to ms koskie and actually relied in good_faith on her expertise with respect to these items 17the mistake regarding the calculation of the form_4797 gain that resulted from an error in the general ledger would not be apparent to petitioner even if petitioner had reviewed the general ledger and the return d adjustment related to the time-share condominium respondent disallowed a depreciation deduction on a time-share condominium item because it did not constitute business property petitioner presented no evidence that it supplied to stone koskie all information relevant for establishing whether a depreciation deduction with respect to the time-share condominium was appropriate including the business use of the asset we do not need to address whether petitioner relied in good_faith on ms koskie’s proper treatment of the item on the return as we conclude petitioner failed to show that it provided all necessary and accurate information regarding the asset accordingly we sustain respondent’s determination to impose a sec_6662 penalty as it pertains to the adjustment with respect to this item to reflect the foregoing decision will be entered under rule


t c memo united_states tax_court estate of lewis a bailey decehased frances jeanette foster executrix petitioner v commissioner of internal revenue respondent docket no filed date james allen brown for petitioner william f castor for respondent memorandum findings_of_fact and opinion thornton judge respondent determined a dollar_figure federal estate_tax deficiency with respect to the estate of lewis a bailey the estate after concessions the issues for decision are the date-of-death value of decedent’s 25-percent interest in c l bailey inc c l bailey the date-of-death value of a 25-percent interest in c l bailey that was held ina - gualified terminable_interest property qtip_trust established by decedent’s predeceased first wife and that is includable in decedent’s gross_estate pursuant to sec_2044 the amount if any of net taxable_gifts arising with respect to the assignment to decedent’s children of a promissory note the amount if any of decedent’s unreported taxable_gifts in and and the amount deductible under sec_2053 a as administration_expenses of the estate ’ findings_of_fact the parties have stipulated some facts which we incorporate along with the associated exhibits into our findings decedent lewis a bailey decedent died on date his domicile at death was in garland county arkansas when the petition was filed the executrix resided in hot springs arkansas c l bailey in decedent and his wife ethel c bailey ethel incorporated c l bailey an arkansas nonpublicly traded unless otherwise indicated all section references are to the internal_revenue_code in effect at the date of decedent’s death and all rule references are to the tax_court rules_of_practice and procedure - - corporation initially they each owned one half of the outstanding shares of c l bailey stock in ethel died her shares of c l bailey stock passed to the ethel c bailey trust the trust pursuant to sec_2056 her estate elected to treat of these shares as qtip property giving decedent the right for life to all income from the shares under the trust each of decedent’s and ethel’s six children received a one-sixth residual_interest in the shares of qtip_election property and also in the other shares of c l bailey stock held in the trust between and decedent gave some of his c l bailey stock to relatives the gifts included two shares each to his son roger bailey roger his daughter frances jeanette foster frances and his daughter-in-law lillian bailey lillian between and c l bailey redeemed shares of its stock at dollar_figure per share these redemptions included all the stock that decedent had given to relatives and all but of decedent’s shares of c l bailey stock consequently at decedent’s death there were outstanding shares of c l bailey stock shares percent of which decedent owned outright and shares percent of which were held in the trust at decedent’s death c l bailey’s principal assets were two motels that it owned and operated the motels an econo lodge motel in hot springs arkansas the arkansas motel and a quality inn in ridgecrest california the california motel decedent’s grown children managed the motels the california motel was located on two parcels of land one of these parcels parcel was owned by c l bailey the other parcel parcel was titled to decedent and ethel jointly as to an undivided one-half interest and to c l bailey as to the remainder after ethel’s death decedent owned an undivided one- half interest in parcel after providing for certain specific bequests that are not relevant here decedent’s will directed that the residue of his estate including all real and personal_property would go in equal shares to three of his and ethel’s six children namely frances roger and harold lewis bailey harold assignment of promissory note on date decedent created the lewis a bailey family_trust a revocable grantor_trust the grantor_trust decedent was the trustee the corpus of the grantor_trust was composed of certain of decedent’s separate_property including real_property located at lake catherine route box hot springs arkansas the lake catherine property pursuant to the terms of the grantor_trust agreement the grantor_trust was to terminate upon decedent’s death with all the trust assets to be distributed equally to decedent’s six children attached to and made part of the grantor_trust agreement was an antenuptial agreement that decedent and his second wife- to-be melba j bushnell melba had executed in the antenuptial agreement the antenuptial agreement stated that decedent and melba would each retain separate control of property they had acquired before their marriage the same as if the marriage relationship did not exist the antenuptial agreement identified as decedent’s separate_property virtually the same property including the lake catherine property that later became the corpus of the grantor_trust in the antenuptial agreement decedent and melba agreed should either party desire to sell or otherwise convey his or her separate_property now owned and acquired before the marriage of the parties the other hereby covenants to join in any conveyance or other instrument as may be necessary to make the transfer effectual and satisfactory to any third party provided however that by joining in such conveyance the party so joining pursuant to this agreement does not acquire any interest in the profits or other_benefits from the transaction on date decedent executed a revocation of the grantor_trust on date the revocation was filed prior to the revocation of the trust on date neil and allison maness the manesses executed a dollar_figure promissory note the promissory note in favor of the grantor_trust exactly a year later on date decedent and melba executed a warranty deed conveying the lake catherine property to the manesses the warranty deed recited that this -- - real_property was previously held in the grantor_trust which trust was revoked by grantor before this conveyance also on date decedent and melba executed an assignment of the promissory note to three of decedent’s children harold roger and frances decedent’s estate_tax_return c l bailey stock on form_706 united_states estate and generation-skipping_transfer_tax return schedule b--stocks and bonds the value of decedent’ sec_50 shares of c l bailey stock was reported as dollar_figure similarly on schedule f---other miscellaneous property not reportable under any other schedule the value of the shares included in decedent’s gross_estate as qtip property was reported as dollar_figure supporting schedules attached to the form_706 indicate that dollar_figure represent sec_25 percent of an indicated dollar_figure total liquidation value of the two motels after applying a 50-percent discount described on the schedules as a key man minority ownership lack of market_discount the dollar_figure total liquidation value of the two motels as indicated on the schedules to decedent’s form_706 represented the estimated value of c l bailey’s assets primarily the california motel and the arkansas motel net of corporate liabilities for this purpose the estimated value of the motels was based on two appraisal reports a date report the - original biles report prepared by ralph w biles an arkansas state certified general appraiser appraising the fair_market_value of the arkansas motel to be dollar_figure and a date report the ohrmund report prepared by ronald d ohrmund a california certified general appraiser appraising the fair_market_value of the california motel to be dollar_figure when the estate_tax_return was filed the executor of decedent’s estate was unaware of decedent’s individual one-half ownership_interest in parcel consequently this asset was not separately reported on the estate_tax_return similarly decedent’s one-half ownership_interest in parcel was not taken into consideration in the ohrmund report’s valuation of the california motel or otherwise reflected in the valuation of decedent’s c l bailey shares as reported on form_706 the promissory note on decedent’s estate_tax_return the dollar_figure promissory note was listed on schedule e--jointly owned property as decedent’s and melba’s joint property consequently a one-half interest in the promissory note dollar_figure was reported as being included in decedent’s gross_estate notice_of_deficiency on or about date respondent commenced the examination of decedent’s estate_tax_return on date respondent issued the notice_of_deficiency c l bailey stock in the notice_of_deficiency respondent determined that the date-of-death value of decedent’ sec_50 shares of c l bailey stock was dollar_figure rather than dollar_figure as shown on decedent’s estate_tax_return similarly respondent determined that the date-of- death value of the shares of c l bailey stock includable in decedent’s estate as qtip property under sec_2044 was dollar_figure in determining these values respondent relied upon an date valuation report the original smith report that had been prepared for the trust by dennis c smith smith a certified_public_accountant and certified valuation analyst in hot springs arkansas the original smith report concluded that the total undiscounted fair_market_value of c l bailey as of the date of decedent’s death was dollar_figure or dollar_figure per share applying a 25-percent marketability discount to this indicated value the original smith report concluded that the date-of-death value of decedent’ sec_50 shares of c l bailey stock was dollar_figure per share in the notice_of_deficiency respondent adopted smith’s conclusions but increased smith’s 25-percent discount rate by an additional percent to match the 50-percent combined discount reflected on the estate_tax_return applying this 50-percent discount to the values indicated by the original smith report - respondent determined that the value of decedent’ sec_50 shares of c l bailey stock was dollar_figure per share yielding the dollar_figure total value determined in the notice_of_deficiency respondent used the identical approach in valuing at dollar_figure the shares of c l bailey stock includable in the gross_estate under sec_2044 the promissory note in the notice_of_deficiency respondent determined that decedent’s estate_tax_return improperly treated the promissory note as decedent’s and melba’s jointly owned property and improperly reported a half interest in the note as includable in the gross_estate accordingly respondent reduced the gross_estate by dollar_figure respondent further determined that upon assignment of the promissory note to three of his children in decedent had made three taxable_gifts totaling dollar_figure after allowance for three dollar_figure annual exclusions other taxable_gifts in the notice_of_deficiency respondent also determined that decedent had made unreported taxable_gifts of dollar_figure and dollar_figure in and respectively the notice_of_deficiency contains no other explanation of this determination or description of the alleged unreported gifts or of the alleged donees sale of the california motel after decedent’s death an attempt was made to sell the california motel in a buyer was found for the property before the sale could be consummated a preliminary report from the title company disclosed decedent’s one-half interest in parcel a california probate proceeding was instituted ina date order determining succession to real_property the superior court of kern county california found and ordered that frances roger and harold each had a one-third interest in what had been decedent’s one-half interest in parcel to clear up the title and facilitate sale of the california motel frances executed a grant deed conveying her interest in parcel to c l bailey similarly roger and harold each executed guitclaim deeds conveying their interests in parcel to c l bailey the grant deed and quitclaim deeds each stated identically that the documentary transfer_tax is dollar_figurenone-to clear up _ title on date the grant deed and two quitclaim deeds were filed in kern county california on the same date there was filed in kern county california a corporation grant deed executed date whereby c l bailey conveyed parcel to the purchaser of the california motel grewal hotels inc opinion a valuation of decedent’ sec_50 shares of c l bailey stock the value of a decedent’s gross_estate includes the value at the time of his death of all property real or personal sec_2031 the relevant value is the price at which the property would change hands between a willing buyer anda willing seller neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts sec_20_2031-1 estate_tax regs see 411_us_546 see generally revrul_59_60 1959_1_cb_237 the fair_market_value of property reflects its highest_and_best_use on the valuation_date 267_us_341 98_tc_554 87_tc_892 the parties disagree about the date-of-death value of decedent’ sec_50 shares of c l bailey stock they also disagree about the value of the shares of qotip property includable in decedent’s gross_estate under sec_2044 it is undisputed that the 50-share blocks are valued independently of each other rather than aggregated see 112_tc_26 the parties have as a threshold matter focused on the value of the shares that decedent owned outright agreeing that the value of this 50-share block will -- govern the value of the other 50-share block we proceed likewise in our analysis valuation of stock for tax purposes is a matter of pure fact and one to be decided by considering all circumstances connected with the corporation there is no one universally applicable formula 325_f2d_934 8th cir affg tcmemo_1961_347 see 391_f2d_775 8th cir affg in part and revg in part tcmemo_1965_154 respondent who determined in the notice_of_deficiency that the value of decedent’ sec_50 shares of c l bailey stock was dollar_figure now contends that the value is dollar_figure petitioner who originally reported the value of the shares as dollar_figure contends on brief that the value is only dollar_figure in support of their positions each party relies on expert testimony we evaluate expert opinions in light of all the evidence in the record and may accept or reject expert testimony in whole or in part according to our own judgment see 304_us_282 53_f3d_924 8th cir affg tcmemo_1993_580 523_f2d_1308 8th cir affg 62_tc_684 115_tc_376 affd 283_f3d_1258 11th cir respondent’s expert respondent’s expert smith valued decedent’s c l bailey stock on the basis of the adjusted book_value of the corporation’s net assets in doing so he adopted without change the appraised values of the california motel and the arkansas motel as reflected in the ohrmund report and the original biles report respectively like the ohrmund report smith’s report makes no adjustment in the california motel value for decedent’s individual one-half ownership_interest in parcel in determining a dollar_figure value for decedent’ sec_50 shares of c l bailey stock smith allowed a 20-percent minority-interest discount anda 44-percent discount for lack of marketability petitioner’s experts petitioner offered two expert witnesses richard l schwartz schwartz who is a certified_public_accountant and certified business appraiser and biles who as previously discussed is the arkansas appraiser who prepared the original biles report valuing the arkansas motel like smith schwartz valued decedent’s c l bailey stock by reference to the adjusted book_value of the corporation’s net assets like smith schwartz adopted the appraised value of the as previously discussed dennis c smith smith also prepared the date valuation report from which respondent derived the c l bailey stock values reflected in the notice_of_deficiency -- arkansas motel as reflected in the original biles report like smith in valuing the california motel schwartz used the ohrmund report’s appraised value as a starting point unlike smith schwartz adjusted this value downward by dollar_figure to reflect decedent’s individual ownership_interest in parcel schwartz concluded that the value of decedent’ sec_50 shares of c l bailey stock was dollar_figure like smith schwartz allowed a 20-percent minority-interest discount unlike smith schwartz allowed a percent instead of a 44-percent marketability discount petitioner’s other expert biles did not undertake to value decedent’ sec_50 shares of c l bailey stock but instead performed a desk review of the ohrmund report’s appraisal of the california motel in his report the biles report biles concluded that the value of decedent’s individual ownership_interest in parcel was dollar_figure biles also concluded that the value of the california motel was only dollar_figure on brief to derive the dollar_figure asserted value for decedent’ sec_50 shares of c l bailey stock petitioner generally follows schwartz’s valuation methodology and conclusions but substitutes biles’ valuation of the california motel into schwartz’s analysis as reflected in the preceding discussion smith and schwartz agree about a number of fundamental issues in valuing the cél bailey stock they agree that decedent’ sec_50 shares of c l bailey - - stock should be valued on the basis of the adjusted book_value of the corporation’s net assets in determining the adjusted_value of the motels which make up almost all the assets of cé l bailey they have both used as a starting point the ohrmund appraisal report’s valuation of the california motel and have both adopted the original biles report’s appraisal value of the arkansas motel they agree that a 20-percent minority interest discount 1s appropriate and that some additional marketability discount is appropriate after concessions by respondent ’ the parties and their experts disagree primarily about these three issues the value of the california motel at decedent’s death and in particular the effect of decedent’s individual one-half ownership_interest in parcel on the value of hi sec_50 shares of c l bailey stock whether a dollar_figure shareholder liability reflected on c l bailey’s yearend corporate books represented a valid debt that should be included as a negative item in determining c l bailey’s net assets and the total discount that should be allowed in valuing decedent’ sec_50 shares of c l bailey stock we address each of these issues in turn respondent concedes that c l bailey’s assets should exclude certain assets reported on the corporation’s yearend balance sheets namely a dollar_figure corporate loan to stockholders and a dollar_figure franchise fee asset -- - valuation of the california motel the ohrmund report in valuing the california motel all the experts start with the ohrmund report accordingly we start there too the ohrmund report concluded that the date value of the california motel was dollar_figure the ohrmund report states that the appraisal of the property has been made with the understanding that the present ownership of the subject property includes all rights that may be lawfully owned and therefore title in ‘fee simple’ consequently in valuing the california motel the ohrmund report did not consider any effect of decedent’s one-half ownership_interest in parcel the ohrmund report employed three methods of estimating the market_value of the california motel the cost approach the sales comparison approach and the income approach which yielded value indications of dollar_figure dollar_figure and dollar_figure respectively the ohrmund report correlated these three values to reach its final estimate of dollar_figure respondent’s expert smith adopted the ohrmund report’s dollar_figure value for the california motel to reach the dollar_figure value indicated by the income approach the ohrmund report applied a capitalization rate of percent to estimated annual net_income of dollar_figure petitioner’s experts schwartz also utilized the ohrmund report’s dollar_figure valuation of the california motel in a footnote however schwartz indicated without elaboration that he had adjusted the value of c l bailey’s assets downward by dollar_figure to reflect the land originally owned by c l bailey inc but discovered to be owned by decedent in his desk review of the ohrmund report biles accepted the ohrmund report’s conclusion that the combined value of parcel sec_1 and was dollar_figure and sought to allocate this value between the two parcels using the commercial land sales comparables contained in the ohrmund report biles concluded that the value of parcel as a stand-alone asset was dollar_figure biles then concluded that the dollar_figure residual_value represented the value of parcel which he concluded should be treated as decedent’s separate_property in his desk review biles faulted the ohrmund report for failing to give appropriate weight to a number of economic factors cited therein including a downturn in the ridgecrest california motel market the biles report also faulted the ohrmund report for failing to consider a ‘quick sale value’ which based on the review appraiser’s ie biles’ knowledge of the need to settle the estate should have been a major factor in the final estimated value idiosyncratic typography in - - original the biles report noted that the california motel could have been classified as a property with a discrepancy in the title the biles report concluded that if all these factors were properly considered the california motel should be valued based on ‘ rates and terms’ of a ‘distress sale’ with added consideration being given to the ‘clouded title’ of the land idiosyncratic typography in original the biles report stated with little elaboration that on the basis of all this information and discussions with lenders in the local market the proper capitalization rate to use in applying the income valuation method wa sec_15 percent rather than the percent indicated by the ohrmund report biles also concluded that the ohrmund report had overstated net_income from the california motel by underestimating the ratio of expenses to gross_income as percent with little elaboration biles concluded that a 75-percent expense ratio was more appropriate after making this adjustment biles concluded that the annual net_income from the california motel was only dollar_figure rather than the dollar_figure indicated by the ohrmund report factoring in his upwardly adjusted capitalization rate and his downwardly adjusted_net_income figure biles concluded that the discounted value of the california motel was only dollar_figure rather than dollar_figure as indicated by the ohrmund report our valuation of the california motel at his death decedent owned both a one-half undivided_interest in parcel and shares of c l bailey stock c l bailey in turn owned the other half of parcel as well as the motel that sat upon it the estate being initially unaware of decedent’s individual ownership_interest in parcel inadvertently omitted this asset from decedent’s gross_estate on the estate_tax_return petitioner now contends that this inadvertent omission should be cured by increasing decedent’s gross_estate by dollar_figure on the basis of biles’ determination of the date-of-death value of decedent’s ownership_interest in parcel at the same time petitioner contends the value of the shares of c l bailey stock included in decedent’s gross_estate should be reduced from dollar_figure as reported on the estate_tax_return to dollar_figure to reflect the title problem that petitioner contends reduced the value of the california motel from dollar_figure as indicated by the ohrmund report on which the relevant values reported on the estate_tax_return were predicated to dollar_figure as determined by biles we are unpersuaded by petitioner’s contentions in the first instance biles’ conclusion that decedent’s ownership_interest in parcel should be valued at dollar_figure appears based on an erroneous assumption that decedent owned all of parcel in fact decedent owned only a one-half undivided_interest in parcel - - 2--an ownership_interest that cannot reliably be assumed to have a value equal to one-half the value of the whole more fundamentally we are unpersuaded by biles’ conclusion that the california motel should be valued at dollar_figure as previously discussed the primary focus of biles’ desk review was the ohrmund report’s application of the income_method and in particular its indicated capitalization rate and net_income figures the reasons biles gives in support of his adjustments to the ohrmund report are highly conclusory and lacking in analytical support for instance biles’ downward adjustment of the california motel’s value on account of the alleged need of decedent’s estate to make a distress sale to settle the estate an otherwise unsubstantiated factual premise is inconsistent with the concept of fair_market_value as determined by reference to a hypothetical willing buyer and willing seller the fair_market_value is the price at which the property would change hands between a willing buyer and a willing seller neither being under any compulsion to buy or to sell the fair_market_value is not to be determined by a forced sale price sec_20_2031-1 estate_tax regs although petitioner seems to suggest that biles’ downward adjustment of the dollar_figure ohrmund report valuation resulted from biles’ consideration of decedent’s individual ownership_interest in parcel biles’ report clearly indicates that this was just one of several factors that entered into his analysis although biles mentions the parcel title problem he does not separately identify its effects upon his final conclusions --- - we are unconvinced that biles an arkansas appraiser who performed only a desk review of the ohrmund report and who testified that he had never even spoken with ohrmund about it was in a better position that ohrmund a california appraiser to make the key economic assumptions required for applying the income approach in valuing the california motel indeed leaving aside faulty assumptions regarding the ownership of parcel a matter in which the ohrmund report and the biles report are both guilty though differently we generally found the ohrmund report to be better explained better supported and more convincing than biles’ desk review of it both petitioner’s other expert schwartz and respondent’s expert smith utilized ohrmund’s report without expressing any reservations as to its methodology in sum we are unpersuaded by biles’ conclusion that the value of the california motel was only dollar_figure although it may be true as petitioner contends that the divided ownership of parcel impaired the value of the california motel to some degree biles’ report---which does not purport to separately identify the effects of the clouded title on the california even if we were to assume for sake of argument that the biles report appropriately adjusted the ohrmund report’s application of the income_method of valuation the biles report nevertheless fails to address the two other valuation methods the sales comparison method and cost method that the ohrmund report also applied and correlated in reaching its final valuation estimate -- - motel valuation---provides no meaningful assistance in measuring any such impairment of value nor does the record otherwise provide a reliable basis for estimating any such impairment of value ’ moreover if we were to assume for sake of argument that the gross_estate as determined by respondent and as reported on decedent’s estate_tax_return should be adjusted downward to reflect some impairment to the value of decedent’s c l bailey stock resulting from the divided ownership of parcel it would follow as petitioner concedes that decedent’s gross_estate should be correspondingly increased to reflect decedent’s inadvertently omitted individual ownership_interest in parcel petitioner has not shown that the net result of these correlative adjustments would be to the estate’s advantage to state the problem more precisely petitioner has not shown that ignoring any such title-related impairment to the value of the california motel resulted in an overstatement of decedent’s gross_estate greater than the understatement of the gross_estate that resulted from the omission of decedent’s individual ownership_interest in ’ as previously discussed schwartz deviated from the ohrmund report in making a dollar_figure downward adjustment to reflect the divided ownership of parcel schwartz however offered no explanation or support for this downward adjustment consequently his report is of little assistance in measuring the effect of the clouded title of parcel on the value of the california motel petitioner has not argued that we should rely on schwartz’s conclusion in this regard - - parcel in these unusual circumstances where decedent himself was the only potential adverse claimant with respect to the parcel title defect that petitioner contends decreased the value of decedent’ sec_50 shares of c l bailey stock and on this record we have no reasonable basis for estimating the amount of any resulting net decrease in the value of decedent’s gross_estate ’ because decedent’s gross_estate included only a total percent interest in c l bailey the sum of the 25-percent interest that decedent owned outright and the 25-percent interest includable under sec_2044 as qtip property his estate would realize only a proportional benefit from any decrease in the value of the california motel further limited by any applicable valuation discount utilized in determining the value of his c l bailey shares on the other hand the gross_estate should reflect the full value of decedent’s individual ownership_interest in parcel for example assuming that a 50-percent combined valuation discount is applicable to foreshadow our eventual holding in this regard a hypothetical dollar_figure title- related decrease in the value of the california motel would result in only a dollar_figure decrease dollar_figure x x in the gross_estate if the value of decedent’s ownership_interest in parcel were determined to be at least dollar_figure and included in decedent’s gross_estate the estate would realize no net benefit from these adjustments stated another way any title- related impairment to the california motel value would have to exceed the value of decedent’s individual ownership_interest in parcel by at least a factor of before disregarding these unequal and opposite valuation effects as in respondent’s determination would result in any net detriment to the estate the record contains no basis for reliably quantifying such asymmetrical valuation effects in reaching this result it is unnecessary for us to consider and we do not attempt to resolve conceptual issues as to whether decedent’s potentially self-opposing interests in parcel as the individual owner of a one-half interest therein on the one hand and as a 25-percent stockholder of c l bailey on the other hand should be considered separately so as to continued -- - accordingly we hold that for purposes of valuing decedent’ sec_50 shares of c l bailey stock the value of the california motel is appropriately estimated at dollar_figure taking into consideration that respondent has not determined that the estate erred by excluding decedent’s one-half ownership_interest in parcel from the gross_estate as reported on the estate_tax_return and seeking to avoid possible double counting we hold further that decedent’s gross_estate includes no separate value attributable to decedent’s individual ownership_interest in parcel the dollar_figure shareholder liability c l bailey’s date balance_sheet reported a dollar_figure liability for loans from shareholders in determining continued reduce the value of his total assets or should be viewed in the aggregate to reflect the economic reality that decedent would be unlikely to act adversely to his own economic interests in this latter regard however we observe that a hypothetical seller in decedent’s shoes rather than sell the shares of c l bailey stock at a bargain-basement price on account of the divided ownership of parcel might reasonably be expected to relinquish the individual ownership_interest in parcel to clear the title and thereby preserve the stock’s value the evidence strongly suggests that this is precisely what decedent’s heirs did shortly after the title defect was discovered in the course of c l bailey’s attempted sale of the california motel to a third party frances roger and harold each deeded over to c l bailey apparently without consideration their one-third interests in decedent’s one-half interest in parcel although we do not predicate our holding on these postdeath events we believe they are usefully considered for the limited purpose of illuminating expectations that a hypothetical willing buyer and seller might reasonably have entertained as of the date of decedent’s death see 88_tc_38 81_tc_999 - - c l bailey’s net assets for purposes of appraising the value of decedent’s c l bailey stock smith reclassified this dollar_figure liability item as paid-in capital thereby increasing c l bailey’s indicated net assets respondent’s determination reflects this adjustment petitioner contends it 1s erroneous the only evidence that petitioner points to as substantiating the alleged dollar_figure liability is an entry on decedent’s schedule c--mortgages notes and cash of form_706 for note receivable - c l bailey inc in the amount of dollar_figure petitioner alleges that dollar_figure was the balance of the liability as of date on brief petitioner states if the loan is not a valid obligation as argued by mr smith then it would be proper to adjust the gross_estate as shown of sic form_706 to remove this asset removal from the gross_estate would provide a greater benefit to the petitioner but it would not be correct because the record does not reliably substantiate the alleged dollar_figure liability we sustain respondent’s determination that it should be excluded from the calculation of c l bailey’s net assets we also conclude that the dollar_figure note receivable from c l bailey should be excluded from decedent’s gross_estate as petitioner observes the net result is to petitioner’s advantage valuation discount as reported on the estate_tax_return the value of decedent’ sec_50 shares of c l bailey stock reflected a total percent discount in the notice_of_deficiency respondent applied the same 50-percent total discount in valuing the stock in this proceeding however the parties’ seeming harmony on this score has modulated to a discord of contending experts although the parties and their experts agree that a 20-percent minority discount 1s appropriate and that some additional marketability discount 1s appropriate they disagree about the amount of the marketability discount petitioner contends it should be percent thus suggesting a combined valuation discount of percent after taking into account the agreed 20-percent minority discount ’ respondent on the other hand contends that the marketability discount should be only dollar_figure percent thus suggesting a combined valuation discount of dollar_figure percent on brief without explanation or discussion petitioner treats the agreed-upon 20-percent minority discount and the asserted 40-percent marketability discount as being additive resulting in a claimed combined discount of percent percent percent rather than multiplicative which would result in a combined discount of percent percent x percent although the result reached herein does not depend upon the distinction we note that as a general proposition the application of a minority discount and discount for marketability is multiplicative rather than additive see trugman understanding business valuation a practical guide to valuing small to medium-sized businesses petitioner’s expert petitioner’s expert schwartz based his recommended percent marketability discount on various studies of restricted stocks and on various studies analyzing the relationship between the prices of companies whose shares were initially offered to the public ipo and the prices at which their shares traded privately within a short_period immediately preceding the public offering schwartz concluded that these various studies indicated a reasonable range for a marketability discount between and percent in valuing the c l bailey stock schwartz selected a marketability discount of percent as being somewhat below the midpoint of this indicated range the restricted_stock studies that schwartz relied upon analyzed stocks that had a holding_period of years or less the record contains no evidence however to support an assumption that an investor in c l bailey would likely have such a short-term investment horizon to the contrary the evidence in the record strongly suggests that since the inception of c l bailey there has been no trading of its shares suggesting that the hypothetical willing buyer who is representative of prospective investors in c l bailey might well have a longer investment horizon than the investors of the restricted stocks analyzed in the studies moreover the restricted_stock studies that schwartz relies upon analyzed at least in part the - - restricted_stock of publicly traded corporations ’ c l bailey is not a publicly traded corporation consequently we are unpersuaded that schwartz appropriately relied on these restricted_stock studies in deriving his recommended 40-percent marketability discount see furman v commissioner tcmemo_1998_157 mandelbaum v commissioner tcmemo_1995_255 affd 91_f3d_124 3d cir respondent’s expert smith’s recommended 44-percent marketability discount represents the sum of his recommended 44-percent discount for the tax on built-in gains of c l bailey’s assets and a 6-percent discount for stock sale costs to derive his recommended discount for tax on built-in gains smith assumed that the value of c l bailey’s assets would be dollar_figure after an assumed 5-year holding_period during which he assumed the assets would grow at an annual rate of percent he assumed selling_expenses of percent and estimated that at the end of the assumed 5-year holding_period the tax basis of the assets would be dollar_figure yielding an estimated gain of dollar_figure to which he applied an assumed combined federal and state tax_rate of dollar_figure percent to yield an estimated_tax on potential gain of dollar_figure smith concluded ‘ tronically petitioner criticizes the report of respondent’s expert smith for inappropriately relying on studies of publicly traded companies in arriving at his recommended 20-percent minority discount - that this estimated potential gain had a present_value of dollar_figure after applying an assumed 8-percent discount rate comparing this estimated present_value of tax with c l bailey’s adjusted net asset value as of the date of decedent’s death smith concluded that the appropriate rate of discount for tax on built-in gains was dollar_figure percent smith offered no explanation or support for any of the many assumptions that he utilized in the just-described analysis nor did he offer any explanation or support for his conclusion that the discount related to stock sale costs should be percent an expert report that is based on estimates and assumptions not supported by independent evidence or verification is of little probative value or assistance to the court see 88_tc_386 affd 868_f2d_851 6th cir 86_tc_547 see also 482_f2d_247 8th cir the persuasiveness of an expert’s opinion depends largely upon the disclosed facts on which it is based 110_tc_530 consequently we find smith’s report unpersuasive in its determination of appropriate discounts for tax on built-in gains or stock sale costs we deem respondent to have conceded however that a combined discount of at least 44-percent is appropriate with regard to these factors -- - in his report smith also identified a number of other factors apart from tax on built-in gains and stock sale costs that he says are normally considered in calculating a marketability discount for various reasons however he assigned no weight to any of these other factors for instance he assigned no weight to management continuity because he believed that c l bailey was merely a holding_company for a contrary viewpoint we need look no further than smith’s own report in the section of his report captioned company background smith stated that c l bailey was founded for the primary purpose of owning and operating motel properties and that decedent’s grown children managed the motels similarly in the financial analysis section of his report smith stated that c l bailey owns and operates two motels from his report we infer that smith believes that management continuity would support an additional_amount of marketability discount if cél bailey were considered to be an operating company as just noted smith’s own report although internally inconsistent in this regard as well as the evidence in the record fairly supports a conclusion that c l bailey was in fact an operating company hence smith’s own report supports a conclusion that his recommended marketability discount is understated insofar as it disregards continuity of management --- - accordingly we believe that after taking into account the parties’ agreed-upon 20-percent minority discount and respondent’s deemed concessions as to discounts for tax on built-- in gains and stock costs the appropriate combined valuation discount lies somewhere between the 52-percent combined discount suggested by schwartz’s recommendations and the 95-percent combined discount recommended by smith we conclude and hold that the appropriate combined valuation discount rate i sec_50 percent in doing so we give due regard to the fact that this is the same combined discount rate reflected on decedent’s estate_tax_return cf 92_tc_312 stock values reported on an estate_tax_return were an admission that could not be overcome without cogent proof that the reported values were erroneous and to the fact that respondent in his notice_of_deficiency accepted this 50-percent combined discount rate and has not shown that a lower discount rate is appropriate cf rule a burden_of_proof is upon respondent as to any new_matter pleaded in the answer in sum we conclude and hold that the value of c l bailey’s adjusted net assets at decedent’s death was dollar_figure the calculations are detailed in appendix a employing the adjusted net asset valuation method that the parties agree is appropriate in this case and applying a 50-percent combined valuation discount we conclude and hold that the date-of-death value of - - decedent’ sec_50 shares of c l bailey stock was dollar_figure see appendix b b valuation of otip property as previously discussed the parties agree that the value of the shares of c l bailey stock includable in decedent’s gross_estate pursuant to sec_2044 and the value of the shares of c l bailey stock that decedent owned outright are identical consequently we hold that the shares of c l bailey stock includable in decedent’s gross_estate pursuant to sec_2044 have a value of dollar_figure c unreported taxable_gifts the promissory note in decedent transferred certain of his separate_property including the lake catherine property into the grantor_trust on date the manesses executed a dollar_figure promissory note in favor of the grantor_trust a year later on date after decedent had revoked the grantor_trust decedent and melba executed a warranty deed conveying the lake catherine property to the manesses on the same date decedent and melba executed an assignment of the promissory note to three of decedent’s children respondent contends that the assignment of the promissory note gave rise in to taxable_gifts from decedent to three of his children in the full amount of the promissory note less - - dollar_figure reflecting three dollar_figure annual exclusions petitioner argues that the promissory note was decedent’s and melba’s joint property and appears to contend that the assignment should be regarded as gifts from decedent and melba equally respondent asserts that the promissory note was consideration to the grantor_trust for its sale of the lake catherine property to the manesses petitioner counters that respondent’s assertion is bald speculation petitioner however has offered no other explanation for the promissory note’s being made payable to the grantor_trust ' we believe that the evidence in the record fairly supports an inference that the promissory note was in fact consideration for the lake catherine property which had been decedent’s separate_property before he placed it in the grantor_trust consequently pursuant to the antenuptial agreement melba would have had no interest in either the lake catherine property or the promissory note either before or after decedent’s revocation of the grantor_trust accordingly we conclude as respondent has determined that in assigning the promissory note to three of his children decedent made three unreported taxable_gifts totaling the face_amount of on brief petitioner makes various arguments predicated on a supposition that the promissory note was made payable to decedent and melba jointly petitioner has offered neither the promissory note nor any other evidence in support of this supposition the only evidence on this score is found in the assignment of the promissory note which decedent and melba executed on date and which states that the promissory note was in favor of lewis a bailey family_trust - -- the promissory note less dollar_figure to reflect three annual exclusions petitioner suggests vaguely that melba might have acquired an interest in the promissory note presumably after decedent’s revocation of the grantor_trust since the grantor_trust contained no provision whereby melba might acquire any interest in any trust property but before the assignment of the note to decedent’s three children there is no evidence in the record however to support this suggestion which is undermined by the contemporariness of the transfers of the note out of the grantor_trust and to decedent’s three children and by the antenuptial agreement between decedent and melba which states decedent’s desire that his children should receive his separate_property unaffected by the marriage of the parties hereto petitioner also suggests that melba’s joining in on the execution of the warranty deed conveying the lake catherine property to the manesses and on the assignment of the note to three of decedent’s children shows that she had an interest in the lake catherine property and the promissory note we are unpersuaded by petitioner’s argument we believe it more likely that pursuant to the terms of the antenuptial agreement melba signed these legal documents as a mere formality without thereby petitioner does not contend that the conditions of the gift-splitting provisions of sec_2513 have been met here -- - acquiring any interest in either the lake catherine property or the promissory note accordingly we sustain respondent’s determination on this issue other taxable_gifts in the notice_of_deficiency respondent determined without explanation that decedent made unreported taxable_gifts of dollar_figure and dollar_figure in and respectively on brief respondent contends with only slightly more specificity that this determination is predicated on certain of decedent’s gifts of c l bailey stock to roger frances and lillian petitioner concedes that decedent made gifts of c l bailey stock to roger frances and lillian but contends they each received no more than two shares of c l bailey stock in any given year the parties have stipulated that from through c l bailey redeemed of its shares for dollar_figure per share therefore petitioner concludes each share of stock that decedent gave away had a value of dollar_figure so that his total annual gift to each donee was dollar_figure--an amount equal to the annual exclusion thus petitioner concludes decedent’s gifts of c l bailey stock properly were not reported as taxable_gifts although petitioner’s assumption of a dollar_figure value for the stock shares in question seems questionable respondent does not - - appear to dispute it ’ respondent disputes petitioner’s premise however as to the number of c l bailey shares decedent gave to his relatives respondent argues essentially that because decedent’s stock holdings in c l bailey decreased from shares to shares between and he must have made gifts of two shares per year to at least five of his descendants for each of these years ’ leaving aside respondent’s unsatisfactory math which leaves shares of stock unaccounted for and leaving aside the fact that respondent’s argument bears no discernible relationship to his determination in the notice_of_deficiency we note that even these many alleged two-shares--at--a- time gifts of stock shares over years would result in no to the contrary in his opening brief respondent appears to embrace the assumed dollar_figure-per-share value respondent first refers to the parties’ stipulations that decedent gave roger lillian and frances two shares each of c l bailey stock and that c l bailey redeemed these shares at dollar_figure per share on the basis of these stipulations respondent then asserts---- mistakenly--that petitioner has conceded the dollar_figure increase in taxable_gifts as determined in the notice_of_deficiency from this mistaken assertion we infer that respondent reckons the dollar_figure adjustment in the notice_of_deficiency as based on decedent’s gifts of six shares of stock at a value of dollar_figure each 's viewed charitably there is some tension between respondent’s argument and the following stipulation of the parties between the inception of c l bailey inc and the decedent gave certain shares of c l bailey inc stock to his descendants including gifts of two shares of c l bailey inc stock to his son roger bailey two shares of c l bailey inc stock to his daughter-in-law lillian bailey and two shares of c l bailey inc stock to his daughter jeanette foster - - taxable_gifts if we accept the dollar_figure per-share value that respondent does not appear to dispute moreover we are unimpressed with respondent’s suggestion that the decrease in decedent’s stockholdings can be explained only by supposing that decedent gave the shares away in light of the previously noted stipulation that c l bailey redeemed shares of its stock from to it seems more plausible that c l bailey simply redeemed some of decedent’s shares after due consideration of the limited evidence in the record and bearing heavily against respondent who has failed to show any meaningful basis for his determination in the notice_of_deficiency we conclude and hold that respondent erred in determining that decedent had unreported taxable_gifts of c l bailey stock in and d administrative expenses petitioner claims dollar_figure of administrative expenses that were not claimed on the estate_tax_return respondent has conceded all these claimed administrative expenses except for ‘ at trial petitioner sought to raise new issues as to whether decedent’s gift_tax_return erroneously reported a dollar_figure taxable gift to frances jeanette foster and as to whether decedent’s gift_tax_return overstated amounts of gifts to roger and lillian bailey we decline to consider these intrinsically factual issues raised for the first time at trial since they were not properly pleaded and resulted in surprise and prejudice to respondent see 64_tc_61 see also rule sec_34 b in any event the evidence in the record does not credibly establish petitioner’s entitlement to the relief sought - - dollar_figure of claimed expenses consisting of dollar_figure fees for legal services of dan mccraw a hot springs arkansas attorney and dollar_figure fees for legal services of george plastiras a little rock arkansas attorney ’ on the basis of all the evidence we conclude that petitioner has adequately established that these disputed amounts were necessarily or reasonably incurred in the administration of the estate accordingly we hold that the claimed dollar_figure of postreturn administrative expenses is deductible from the value of the gross_estate pursuant to sec_2053 to reflect the foregoing and the parties’ concessions decision will be entered under rule ‘7 included in the dollar_figure of postreturn administrative expenses that petitioner has claimed is dollar_figure of fees paid to joy gibson gibson a california attorney who handled the california probate of decedent’s one-half ownership_interest in parcel respondent concedes that the expense of bringing the probate case to clear up title should be deductible from the gross_estate respondent does not dispute that the fees paid to gibson were reasonably incurred for this purpose but contends without explanation that the deductible amount is only dollar_figure the parties have stipulated that the estate paid gibson dollar_figure we deem respondent to have conceded that dollar_figure is deductible from the gross_estate appendix a net asset value of c l bailey estate_tax_return assets arkansas motel california motel other assets dollar_figure big_number big_number petitioner dollar_figure big_number total assets dollar_figure liabilities loans from stockholders -- other liabilities total liabilities dollar_figure net assets dollar_figure dollar_figure big_number big_number dollar_figure dollar_figure respondent dollar_figure big_number big_number holding dollar_figure big_number big_number dollar_figure big_number dollar_figure dollar_figure dollar_figure big_number dollar_figure dollar_figure the estate_tax_return includes a dollar_figure addition to the value of the arkansas motel described only as godbehere appraisal the record is silent as to what this amount represents neither party has included such a separate amount in their calculations and we ignore it in our holding on brief petitioner omits from her net asset value calculations all assets other than the motels because petitioner has not otherwise disputed the existence or amounts of other assets as reported on the estate_tax_return we assume that the omission was inadvertent and deem petitioner to have conceded the values of other assets in the lesser amounts determined by respondent respondent’s dollar_figure of other assets consists of dollar_figure cash dollar_figure accounts_receivable dollar_figure mortgage and real_estate loans and dollar_figure other current_assets all these amounts are as reflected on c l bailey’s date balance_sheet respondent has excluded dollar_figure franchise fees deposits and dollar_figure loans to stockholders as shown on the corporate balance sheets the estate_tax_return provides no detail as to the types of liabilities included in the net asset value calculation appendix b calculation of value of decedent’ sec_50 shares c l bailey stock estate_tax_return petitioner respondent value of c l bailey’s dollar_figure dollar_figure dollar_figure adjusted net asset sec_25 ownership percentage dollar_figure dollar_figure dollar_figure combined valuation discount rate percent ‘60 amount of discount dollar_figure dollar_figure dollar_figure discounted value of shares dollar_figure dollar_figure dollar_figure ‘as indicated in note of the opinion holding dollar_figure dollar_figure dollar_figure dollar_figure on brief petitioner erroneously treats the 40-percent claimed minority discount and 20-percent agreed-upon minority discount as being additive rather than multiplicative