Pierre v. Commissioner, 2010 WL 1945779 (U.S. Tax Ct.)
A wealthy widow formed a single-member family limited liability company (LLC) along with two trusts for her children. Two months later, she transferred $4.25 million in marketable securities into the family LLC; not 12 days later, she divided her LLC interest equally between the two trusts (50/50). After her attorney advised her that she could gift a certain amount tax-free, she sold each trust a 40.5% membership interest in return for a $1.09 million note and then gifted each 9.5%. An appraiser arrived at the note amounts after valuing a 1% interest in the LLC, including a 36% combined discount for lack of control and marketability, and the taxpayer reported the amounts on her gift tax return.
The IRS assessed over $1 million in deficiencies, and the taxpayer appealed. In the first phase of these proceedings (Pierre v. Comm’r, 2009 WL 2591652)(Pierre I), the IRS urged the Tax Court to ignore the entity form of a single-member LLC and treat the transfer of LLC interests as transfers of the underlying stock, to be assessed at fair market value. In a split decision (9 to 6), the U.S. Tax Court sided with the taxpayer, preserving the entity form for purposes of gift tax liability. The court postponed the valuation issues, however, and in this current opinion (Pierre II), it also considered whether the “step transaction doctrine” would collapse the LLC and trust transfers into a single transaction. Read More...
Divorce Roundup: How to Use your Business Valuation Experts to Best Advantage
A summary of recent divorce cases reveals how a business appraiser can best serve the client,
counsel, and the court to maximize efficiencies and values in a marital dissolution case.
First, use a qualified BV expert.
In Brooks v. Brooks, 2010 WL 2219199 (Conn. App.)(April 13, 2010), the husband owned minority interests in his family’s limited liability companies (LLCs), which held commercial property. At trial, the wife presented the companies’ financial statements and a real estate expert, who appraised the LLC’s underlying property at $61 million. Notably, the expert testified that his appraisal was only the first step in a fair market valuation (FMV), which required assessing the companies’ outstanding debt and closely held stock. At the close of the wife’s case, the husband decided not to call his BV expert, saying there was “no valuation testimony” to rebut. Instead, he presented only the operative buy-sell agreements plus his tax returns, which essentially showed a book value of $400,000 for his LLC interests.
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Tax Court Crafts Its Own Cost-to-Partition Approach in Valuing Fractional Interests
Ludwick v. Commissioner, T.C. Memo. 2010-104, 2010 WL 1850223 (U.S.Tax Ct.)(May 10, 2010)
Not much was at stake in this case—at least in terms of dollars. But the U.S. Tax Court’s substantial, if not sole, reliance on a weighted, cost-to-partition approach to determine the fair market value of undivided half interests in real property may have raised the stakes for attorneys and advisors who prepare fractional interests for estate and gift tax purposes.
Experts dispute discounts. A married couple owned a $7.25 million Hawaii vacation home as tenants in common. In 2004 they transferred their respective interests into qualified personal residence trusts, valued at a 30% discount for federal gift tax purposes. In assessing deficiencies, the IRS only permitted a 15% discount, reduced to 11% at trial.
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Tax Court Favors Expert With Industry Experience in Valuing Telecom Co.
Ringgold Telephone Co. v. Commissioner., T.C. Memo. 2010-103, 2010 WL 1850426 (U.S.
Tax Ct.)(May 10, 2010)
The taxpayer, a telecommunications provider, converted from a C corporation to a Subchapter S corporation. Later that year, it began marketing a 25% partnership interest in a private wireless company. To estimate the sale’s built-in capital gains (pursuant to IRC Sec. 1374), its CPA appraised the 25% interest at $2.6 million, and the taxpayer reported the amount on its federal tax returns.
Six months later, one of the partners (BellSouth) purchased the 25% interest for just over $5 million, thereby gaining a controlling interest. Based largely on this value, the IRS assessed a deficiency of nearly $1 million and the taxpayer appealed. Read More...
Effect of Partnership Agreements on Valuation of Law Practices in Divorce
Two recent cases—both concerning law practices—highlight the effect the operative agreements can have in valuing the practitioner’s interest for purposes of division in divorce.
Identifying the applicable valuation standard is important, too. In Hartley v. Hartley, 2010 WL 2071444 (Ala. Civ. App.)(May 21, 2010), a buy-sell agreement limited the repurchase of a departing partner’s interest to $10 per share; or in the husband’s case, a mere $1,000. When the wife requested supplemental discovery for the firm’s financial records and client accounts, the husband objected, claiming the buy-sell agreement made her requests irrelevant “as an evidentiary matter”, because any valuation of his interest would be limited to the buy-sell formula. The wife claimed that under applicable law, the buy-sell did not control the valuation in divorce— but the trial court disagreed, limiting discovery to only the husband’s compensation and tax returns, in addition to the buy-sell. “If he leaves the firm, he has contractually agreed to get $1,000.00,” the court said. “If the firm dissolves in the future, the speculative value of any profit or loss cannot be determined at this point.”
In an interim review by the Court of Appeals, the wife claimed the “majority rule” in the U.S. holds that a buy-sell agreement does not control the ultimate value of a shareholder’s interest in a private practice. Read More...
