Fourth tax case to uphold defined value clause

In a long-awaited decision (two and a half years after trial), the U.S. Tax Court just upheld the defined value formula clauses that set the fair market value of transfers of private company stock in a gift/sale transaction. The defined value clauses—which limit gift tax exposure from the transfers—were not contrary to public policy, the court found (defeating the IRS’s long-entrenched position) and were arm’s length transactions.

If the IRS’s was ‘down,’ it may now be ‘out.’ “This is now the fourth case that has upheld defined value transfer provisions (the others being McCordChristiansen, and Petter),” comments Steve Akers (Bessemer Trust) in his latest tweet for Wealth Strategies Journal 2.0 (Beta). The case involves a “McCord-type clause,” Akers also notes—and is appealable to the 5th Circuit, which also decided McCord but was not presented with the public policy and arm’s length arguments that appeared in this most recent case. As to those issues, the Tax Court held that the defined value clause do not “immediately and severely frustrate any national or state policy,” Akers writes, and “having negotiations and adverse parties is not essential to the existence of arm’s length transactions.” If the court decision in Petter (8th Circuit, 2009) and Christiansen (Tax Court 2009), delivered a “one-two punch” to the IRS’s long-held resistance to formula value clauses, as Akers wrote for the BVWire, then this latest case may have knocked it out completely. Look for the complete digest Hendrix v. Commissioner, T.C. Memo. 2011-133 (June 15, 2011) in the August 2011 Business Valuation Update; the Tax Court’s opinion will be posted soon at BVLaw.