South Florida Estate Planning Law : Florida Estate Planning Lawyer & Attorney : David Shulman Law Firm : South FL Wills & Trusts

I saw this story this morning that made me shake my head in wonder, and in a little bit of jealousy. Apparently, three money managers from Greenwich, Connecticut won $254 million in the Powerball lottery. If you don't know, Greenwich is a New York City suburb and one of the richest in the country. Apparently, the three money managers are the founder and employees at an $82 million wealth management firm. So these aren't the typical lottery winners - a 63 year old married couple from Des Moines where he insists that he is not going to quit his job at the tractor factory.

According to the story, the winning numbers were drawn on November 2, but the three men didn't come forward until yesterday. Also, “the three men will accept an after-tax payment for their winnings of about $104 million and collect it through an entity that they formed called the Putnam Avenue Family Trust.”

The Putnam Avenue family trust? What the heck is that? And why did he wait so long to come forward?

Aha! An estate planning angle.

There are a number of reasons that lottery winners should elect to be paid through an entity such as an LLC or Partnership. Generally, instead of having one individual win the lottery, their entire family claims it through a partnership that they formed, with family members having varying interests in the entity. This allows for there to be lower income taxes, because each person gets to take advantage of their lower marginal rate first. Also, it can help effectuate estate planning by reducing the number of intergenerational transfers and locking up the assets in a creditor protected entity.

But there are a few things about this case that I don't know. It is a bit unusual to collect the winnings in a trust and not a limited partnership or limited liability company. A self-settled trust generally does not really provide any layer of asset protection. Furthermore, there are three separate families here. Why did all three of them have the funds distributed to one trust instead of dividing it equally between them beforehand? You would think that each person would want to have their own share for their family. Again, each of the three of them shouldn't have collected the money directly, but each through a family entity.

Here is what I suspect though, and it's actually pretty smart on their lawyer's part. I would guess that the Putnam Avenue Family Trust is merely a temporary holding entity. After the trust collects the funds, it will then shortly thereafter distribute the shares among the three winners (or their newly formed legal entities). What are the names of these new entities? Where were they formed? What do they provide? We don't know, and that's the point.

Smart planning.

Lucky bastards.

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On February 3, 2010, the Tax Court released it's decision in Estate of Shurtz v. Commissioner,

This case is interesting for a number of reasons.  First, even though it involves a family limited partnership, the case is not about the estate taking substantial discounts.  In fact, the word "discount" is not even mentioned in the decision.  Here, the IRS tried to argue that under section 2036, the full value of all the underlying assets contributed by the Decedent to the partnership should be included in the Decedent's gross estate, and not the value of her proportionate, possibly non-discounted partnership interest.  Additionally, this case involves the value of the partnership interest after the death of the first spouse, in which the entirety of the estate was transferred to either a credit shelter trust or a marital deduction trust, thus resulting in no tax due.  

I'm a bit surprised that the IRS took this, a pure 2036 non-discount case to trial, as the evidence of a non-tax business purpose is so clear.

Background

The Decedent, Charlene B. Shurtz, was an heir to a very wealthy and religious family, the Barges, (not related to El or Chico De Barge).  The Barge's assets primarily consisted of timberland in Mississippi.  In 1993, at least 14 members of the Barge family owned separate undivided interests as tenants in common in thousands of acres of timberland, either outright or in trust.  Even if the estate tax didn't exist, any competent business or probate attorney would advise the family that this type of ownership is a serious mistake, fraught with risks.  The property could be subject to the creditors of individual owners.  Plus, the joint management of property owned by so many people is burdensome and unwieldy.  Thus, based on an attorney's (correct) advice, they established Barge Timberlands, L.P., a limited partnership, to operate the family timber business.  The Decedent owned a 16 percent interest in the Timberlands LP and also 1/3 of the shares of the Corporation that served as the general partner.

The Timberland partnership agreement provided that the partnership would distribute 40 percent of its income each year to the partners, so that the partners would have funds to pay the taxes on their distributive share of flow through partnership income.  

The Decedent, along with her siblings and fellow partners were still concerned that individual family members could, due to Mississippi "Jackpot Justice," lose their interest in the Timberland Partnership, and control of the family business.  The various family siblings were advised the if each of them contributed their Timberland Partnership interests to a separate partnership, then that would provide better creditor protection because the distributions could be locked into the new partnership, and a creditor would not be entitled to receive anything but a charging order.  In addition, the Decedent wanted to make gifts of the family timberland business to her children.

The Doulos Family Limited Partnership

Thus, she and her husband formed a new limited partnership, Doulos LP, in November 1996.  The purpose of Doulos LP was to reduce the estate, provide asset protection, provide for heirs, and in this deeply religious and charitable family, "provide for the Lord's work."  The Doulos LP agreement had language that restricted an outsider from owning an interest, language that was presumably absent from the Timberland LP Agreement.  In addition, the Decedent still owned 748.2 acres of Timberland outright and in her own name only that was not contributed to the Timberland LP, which held previously jointly owned Timberland only.

Before the Doulos Partnership could be established though, there was a problem.  The Decedent owned 100% of everything that was going to be transferred to the Partnership.  Thus, she first transferred a 6.6 interest in her 748.2 acres to her husband, and then the two of them contributed their interests in the timberland, plus her interest in Timberland LP to the Doulos Partnership.

Over the next four years, she made a total of 26 gifts of .4 percent limited partnership interests to her children and to trusts for her grandchildren.  Each gift was valued at $19,700 or less. The Doulos partnership maintained accurate capital accounts for each of its members and filed a Form 1065, a partnership tax return every year.  The entire family actively participated in managing the Timberland LP and the Doulos LP, having annual meetings and consulting family members before any major decisions were made.

The Decedent's Estate

Upon Mrs. Shurt's death, her gross estate was valued at $8,768.05.03, with $7,674,143.03 going to trusts qualifying for the marital deduction, and according to the decision, $345,800 going to a credit shelter trust.  Her Form 706 was filed eight months late, but as there was no tax due because of the use of credit shelter/marital deduction trusts, her lawyers were not that concerned.

The IRS argued that the full value of all of the assets contributed by the Decedent to the Doulos Partnership are included in her estate under section 2036, and not the value of the Partnership interest itself, despite the gifts of partnership interests to her children and grandchildren because the IRS contented that she retained control, use, and benefit of the assets within the meaning of section 2036 and 2035 (some of the transfers were within 3 years of her death).

The Court's Decision

The decision does not state what evidence the IRS used to argue that assets should be included in the Decedent's estate under 2036, probably because there was not much there.  The Court pointed out that section 2036 causes property to be included in a decedent's gross estate if three conditions are met:

1. The decedent made an inter vivos transfer of property;
2. The decedent's transfer was not a bona fide sale for full and adequate consideration; and
3. the decedent retained the possession or enjoyment of, or the right to the income from the property, or the right, either alone or in conjunction with any person, to designate the persons who shall possess or enjoy the property or income therefrom.

The Court, citing Estate of Bongard and Estate of Bigelow, pointed out that, "the bona fide sale for adequate and full consideration exception is met where the record establishes the existence of a legitimate and significant nontax reason for creating the family limited partnership, and the transferors received partnership interests proportionate to the value of the property transferred. The objective evidence must indicate that the nontax reason was a significant factor that motivated the partnership’s creation."

As the facts provided, there were several non-tax reasons for establishing the Doulos partnership, including protection of assets and providing centralization of management.  Additionally, these were not deathbed transfers, and the Decedent maintained sufficient assets outside of the partnership to live her life.  Additionally, in order to satisfy the "full and adequate consideration" prong, she had to receive a proportionate partnership interest in exchange for her contribution.  This she did.  Both she and her husband each received partnership interests that were valued in proportion to what they separately contributed to the partnership.

Because the transfer of the assets to the partnership were a bona fide sale for fair and adequate consideration, they were not includable in her gross estate under section 2036.

Take-away

The IRS is still actively pursuing family limited partnerships, discounts or not.  Family limited partnerships that are shams will not stand up in court.  However, as long as taxpayers have legitimate non-tax business purposes for establishing the partnership, and they make sure that they keep adequate records in both the formation and operation of the entity, then section 2036 should not apply to the transfers. 

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 It turns out that yesterday was a bad day for the IRS.  Not only did they lose an important gift tax valuation case, but they also lost a very large Family Limited Partnership case in Federal District Court.

I do not think that the facts of Keller vs. United States are very interesting, but the amount sure is.  The plaintiff's initial claim for refund was $40,455,332!!  The final amount hasn't been settled yet, but if anything, it's going to be even larger than that.

Link to Case.

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In contrast to my recent postings about Michael Jackson who appears to have engaged in professional estate planning before his death, there are reports that former NFL quarterback Steve McNair died intestate, or without a will.  His wife (the wife he was cheating on with the woman who killed him) was appointed “administrator” of his estate.  According to reports, McNair had a wife, two children from his marriage to this wife, and two children from a previous relationship.  Instead of being able to decide himself how his property should be distributed, the distribution of his assets is determined by a formula set forth under state law.

I am not a Tennessee attorney, but according to my Internet research, the state’s laws of intestacy provide that McNair’s wife will receive 1/3 of the estate, and his children will divide the remaining 2/3 among themselves.  Also, there appears to be an “elective share” rule in Tennessee, in which a surviving spouse can take a greater amount of an estate under certain circumstances.

There are a number of problems here for McNair’s estate and his heirs.  First, instead of being able to distribute the assets in trust, they are distributed outright to everyone.  This causes all sorts of creditor protection and tax problems.  If McNair’s children are minors, then there will likely be a Guardianship set up to manage the assets until the minor reaches the age of majority, upon which he receives the funds outright.  Those assets should have been left in trust and protected from creditors and from the child them self until a later age.  His wife’s assets should also have been left in a trust too, to protect her.

Additionally, by dying intestate he missed the opportunity to engage in sophisticated tax planning.  Below I will show the disastrous estate tax consequences and the incredible opportunity that he missed. Assume the following:

1. The value of McNair’s gross estate is $25,000,000.
2. His wife takes an “elective share” of 40% of the estate
3. The remaining 60% is divided among McNair’s children.
4. There was no estate planning done at all — no gifting, no insurance trusts (ILITS), nothing (this is a big assumption which I hope turns out to be not true).

From the in ital $25,000,000, the 40% being distributed to the surviving spouse ($10,000,000) is subtracted from the taxable estate because of the marital deduction.  That leaves $15,000,000 remaining.  Of that $15,000,000, there is a lifetime exemption in 2009 of $3,500,000, which is subtracted from the $15,000,000, leaving $11,500,000.  Upon that $11.5 million there is an estate tax of forty five percent, or $5,175,000.  After the $5,175,000 is paid to the government, there is $6,325,000 remaining to be divided among McNair’s four children, or $1,581,250 each.

With proper estate planning, McNair would have owed zero estate tax upon his death.  If he had done nothing else but leave everything to his wife outright, that would have resulted in zero estate tax because of the marital deduction.  A simple credit shelter trust would have resulted in zero estate tax and protected $3,500,000 (in today’s dollars and subject to grow) from the estate tax upon his wife’s subsequent death.  Granted, with someone that was worth $25,000,000 and had children from a prior relationship, the planning would be more extensive and would likely involve insurance trusts, certain family entities, and gifting that would have started a long time ago.  And this only scratches the surface.

The lesson to learn from all of this?  Too many people put off estate planning until sometime “later.”  They think that they can wait because they don’t think that they will die tomorrow.  Unfortunately, tragic, sudden deaths happen all of the time, and you owe it to your family to be prepared.  You are not immortal.  The time to engage in proper estate planning is now.

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In writing a blog, or in writing anything, the most important question is "Who is your audience?"  So far, my posts have been aimed towards what I call "the sophisticated layman."  I have been writing for the educated reader who is not an expert in matters regarding estate planning or tax, and is interested in learning more. 

But every now and then there is "breaking news" in the estate tax world, that most laymen, sophisticated or not, probably would not be interested in, but would be of interest to estate planning and tax experts. This is one of those times. 

Yesterday, the US Tax Court's issued its opinion in Estate of Jorgensen v. Commissioner, ruling that the entirety of assets transferred to a family limited partnership were included in the gross estate of a decedent under s. 2036(a)(1) of the Internal Revenue Code.

Like many other cases in which there is a complete victory for the Government, the most important lessons in this case for Estate Planning attorneys is "Don't do this." 

More after the jump

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