A wealthy New Yorker owned the majority (82%) of a closely held C Corp, which in turned owned 94 acres of lake front property in New Hampshire, including state-of-the-art athletic facilities, horse stables, and a summer camp for girls. When the owner died, the estate’s appraiser determined a net asset (adjusted book) value for the corporation of just over $3.7 million, minus nearly $1 million for built-in long-term capital gains tax (LTCG) liability on a dollar-for-dollar basis. The IRS agreed on the NAV and a 5% marketability discount, but disputed the LTCG discount.
At trial, the estate urged the Tax Court to adopt a 100% LTCG discount, not only because the adjusted book value method presumes asset liquidation, but also because the 2nd Circuit (the appellate forum in this case) would most likely follow Estate of Dunn (5th Circuit) and Estate of Jelke (11th Cir.) in adopting a dollar-for-dollar discount. (See BVWire™ # 62-3). The IRS appraiser argued that an overall discount of only 10% to 13% for the LTCG was appropriate (or just about half of the current embedded liability), based on a complicated review of closed-end funds—but the Tax Court rejected their comparability to the specific assets in this case.
At the same time, the court “declined to speculate as to how the…Second Circuit” would rule in on this issue. Instead, it cited the 2nd Circuit’s 1998 decision in Estate of Eisenberg to find as an initial matter that a LCTG discount was appropriate.
Demonstrating its valuation savvy, the Tax Court (in an opinion by Judge Vasquez) then conducted its own calculations based on the FMV of the improved property, multiplied by appreciation and interest rates compounded over 17 years and a 40% effective tax rate to reach an LTCG tax liability of approximately $1.2 million—or slightly higher than the taxpayer’s amount, which led it to accept the same without adopting a per se dollar-for-dollar discount (leaving that issue ripe for appeal to the 2nd Circuit).
The full court opinion and digest of Estate of Jensen v. Commissioner, T.C. Memo. 2010-182 (Aug. 10, 2010) will be available later this month at BVLaw™.