Case — Assets Included in an Estate

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TL Case Summ

THE QUESTION

Should preferred stock owned by a deceased spouse be included in the estate of the second spouse?

THE DISPUTE

Taxpayer Says: The stock should have been included in the estate of the first spouse.

Internal Revenue Service Says: The stock is more properly included in the estate of the second spouse because he exercised dominion and control over the shares.

THE LAW

From Estate of Fortunato v. Commissioner, T.C. Memo. 2010-105 (quoting Estate of Posner v. Commissioner, T.C. Memo. 2004-112): In determining a decedent’s interest in property, “we look to State law. ‘State law, which creates legal interests and rights in property, including powers of appointment, determines the nature, scope, and validity of such legal interests and rights.'”

From Fla. Stat. Ann. sec. 732.514: [At the time of the wife’s death] Provided that “The death of the testator is the event that vests the right to devises unless the testator in his or her will has provided that some other event must happen before a devise shall vest.”

From Mendes v. Commissioner, 121 T.C. 308, 312 (2003): Positions taken in a tax return signed by a taxpayer or return preparer may be treated as admissions, and the taxpayer or return preparer cannot disavow returns he or she prepared without cogent proof that they are incorrect.

THE CAUSE OF THE DISPUTE

Assets you own at the date of your death are generally includable in your estate and reportable on a federal estate return, if your estate is required to file. One exception is assets in irrevocable trusts, such as credit shelter trusts, which are not subject to estate taxes.

A credit shelter trust is an estate planning technique used by married couples to take full advantage of the applicable estate exclusion of both spouses. Under provisions in a will or living trust, a credit shelter trust is created at the death of the first spouse. The surviving spouse receives income from the assets and has limited access to the principal. When the surviving spouse dies, the assets are distributed as directed by the trust documents. Because the surviving spouse has limited control over the trust during life and at death, the assets are not considered part of the taxable estate.

In this case, the question is which estate should have included assets owned by the taxpayer’s wife at her date of death. [Editorial note: This case also contains a valuation question, which will be addressed in a future ruling.]

The taxpayer, who owned preferred shares in a closely held family company, died in 2004. His two sons filed the estate return in 2006, reporting 600 preferred shares titled to the taxpayer, plus 140 preferred shares that had been owned by his wife, who died in 1997. The wife’s estate had not filed an estate return, and the sons assumed she had died intestate and that their father had inherited her assets.

In 2010, the sons discovered a 1991 will written by their mother (the taxpayer’s wife). They submitted a copy to the IRS and also to a Florida circuit court for probate. The probate documents stated that the only asset of the wife’s estate was 140 shares of preferred stock in the closely held company.

Because the wife’s will included a provision for a credit shelter trust, the sons believed their father’s estate return incorrectly reported her 140 shares as an asset. Instead, the total shares in the father’s estate should have been 600 shares.

The IRS says the shares were properly included in the father’s estate because he exercised dominion and control over them as a director of the corporation. In addition, the IRS says the sons failed to prove the father did not own the shares and the sons are therefore bound by the position they took by including them on the father’s estate tax return.

WHAT WOULD YOU DECIDE?

Make your selection, then see “The Court’s Decision” below for a full explanation

For the or for the

THE COURT’S DECISION

Download (PDF, 33KB)

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HL Carpenter, an experienced investor and a CPA, specializes in reader friendly articles on taxes and investing for individuals and small businesses, and publishes two newsletters: Taxing Lessons and Top Drawer Ink. Visit TaxingLessons.com and HLCarpenter.com.

This information should not be considered legal, investment or tax advice. Taxing Lessons and Top Drawer Ink Corp. do not provide legal, investment or tax advice. Always consult your legal, investment and/or tax advisor regarding your personal situation.

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Right answer!
Sorry, wrong answer :(
For the taxpayer. No actions were taken from the time of the wife’s death to the probate of her will which changed ownership of the 140 shares or which would make it more proper for the shares to be included in the father’s estate rather than the wife’s estate. The rediscovery of the wife’s will in 2010, its admission to probate (which under Florida law causes the credit shelter trust’s ownership of the 140 shares to date back to the date of the wife’s death) constitute proof that the 140 shares were not owned by the father at the time of his death and were incorrectly included in the father’s estate on the Form 706. As a result, petitioners are not bound by the position taken on the filed Form 706. The 140 shares were more properly includable in the wife’s estate.
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