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Estate of Charles K. McClatchy, William K. Coblentz and James McClatchy, Personal Representative v. Commissioner, 21876-93 (1996)

Court: United States Tax Court Number: 21876-93 Visitors: 3
Filed: Apr. 03, 1996
Latest Update: Nov. 13, 2018
Summary: 106 T.C. No. 9 UNITED STATES TAX COURT ESTATE OF CHARLES K. MCCLATCHY, DECEASED, WILLIAM K. COBLENTZ AND JAMES MCCLATCHY, PERSONAL REPRESENTATIVE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent Docket No. 21876-93. Filed April 3, 1996. Decedent owned shares of stock that before his death were subject to certain securities law restrictions adversely affecting the value of the shares. The restrictions were not applicable to the shares in the hands of decedent's personal representatives
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                        106 T.C. No. 9



                    UNITED STATES TAX COURT



ESTATE OF CHARLES K. MCCLATCHY, DECEASED, WILLIAM K. COBLENTZ
   AND JAMES MCCLATCHY, PERSONAL REPRESENTATIVE, Petitioner
        v. COMMISSIONER OF INTERNAL REVENUE, Respondent



   Docket No.   21876-93.           Filed April 3, 1996.



        Decedent owned shares of stock that before his
   death were subject to certain securities law
   restrictions adversely affecting the value of the
   shares. The restrictions were not applicable to the
   shares in the hands of decedent's personal
   representatives, so that the per share value
   automatically increased from $12.3375 to $15.56 at
   decedent's death. Held: the per share value for
   Federal estate tax purposes is $15.56, since that was
   the value at the "moment" of decedent's death.
   Ahmanson Foundation v. United States, 
674 F.2d 761
 (9th
   Cir. 1981), applied; United States v. Land, 
303 F.2d 170
 (5th Cir. 1962), followed; sec. 2033, I.R.C., which
   mandates the inclusion in a decedent's gross estate of
   the value of all property to the extent of his/her
   interest therein at the time of death, does not require
   a different result; Estate of Harper v. Commissioner,
   
11 T.C. 717
 (1948), explained.
     Jeffry A. Bernstein and James P. Mitchell, for petitioner.

     Kathryn K. Vetter, for respondent.



                               OPINION

     NIMS, Judge:    In this case, respondent determined a

$5,784,910 Federal estate tax deficiency, and a $1,156,982

addition to tax under section 6662(b)(1).    Unless otherwise

indicated, all section references are to sections of the Internal

Revenue Code in effect at decedent's date of death, and all Rule

references are to the Tax Court Rules of Practice and Procedure.

     After concessions, the sole remaining issue for decision is

whether certain securities law restrictions that applied to

shares of stock of McClatchy Newspapers, Inc. (the Company) owned

by decedent during his lifetime, but which became inapplicable by

reason of decedent's death, have the effect of limiting the value

of the shares for purposes of establishing the Federal estate tax

liability of decedent's estate.

     The parties submitted this case fully stipulated, and the

facts as stipulated are so found.   William K. Coblentz and James

McClatchy, decedent's executors, resided in California when they

filed the petition in this case.    Decedent's will was probated in

the Superior Court of Sacramento County, Sacramento, California.

     The decedent, Charles K. McClatchy, died on Sunday, April

16, 1989.   At his death, he owned 2,078,865 Class B Shares of the

Company.    The Class B Shares were reported by petitioner on Form
                              - 3 -


706, United States Estate (and Generation-Skipping Transfer) Tax

Return at a $12.3375 per share value for a total value of

$25,647,996.94.

     Decedent was a director, chairman of the board, and chief

executive officer (CEO) of the Company at the time of his death.

The Company had two classes of common stock:   Class A, which was

publicly traded, and Class B, which was not.

     The Class A and Class B stock had identical dividend rights

and equal rights in the event of dissolution or liquidation.    The

Class B stock had superior voting rights.   Class A shareholders

were entitled to one vote per share; Class B shareholders were

generally entitled to 10 votes per share.   Each share of Class B

stock was convertible at any time at the option of the holder

into one share of Class A stock, subject to the restrictions set

out in a Stockholders' Agreement.   At the time of his death

decedent owned no Class A stock.

     Decedent was an Affiliate of the Company for Federal

securities law purposes because he was CEO and a director of the

Company, a Class B shareholder, and had beneficial ownership of

Class B shares as trustee and beneficiary of certain trusts

holding Class B stock.

     The Class B stock owned by decedent prior to his death was

unregistered and restricted for Federal securities law purposes

under Rule 144 of the Securities Act of 1933 (S.E.C. Rule 144).
                              - 4 -


17 C.F.R. sec. 230.144(a)(1) (1989).   The same securities law

restrictions would have applied if decedent had at any time

converted his Class B stock to Class A stock; such converted

shares would also have been unregistered and restricted.    As a

result, the Class B stock (after conversion to unregistered Class

A stock) could only have been sold by decedent to the public in

accordance with certain volume and manner of sale restrictions

under S.E.C. Rule 144, and any donee or transferee of such shares

would have acquired the shares subject to such restrictions.

     Decedent's personal representatives, acting in that

capacity, were not collectively an Affiliate for Federal

securities law purposes and, therefore, were not subject to those

same securities law restrictions applicable to decedent.    The

decedent's estate was not an Affiliate for Federal securities law

purposes.

     The Federal securities law restrictions that affected

decedent's ability to sell shares of Class B stock (and shares of

Class A stock after a conversion) were not self-imposed or

voluntarily made, and did not result from an agreement or

arrangement by decedent.

     Petitioner and respondent have agreed that the fair value of

the Class B Shares for estate tax purposes was $12.3375 if the

securities law restrictions that affected decedent's ability to

dispose of or otherwise transfer the Class B Shares during life
                                 - 5 -


are taken into consideration.    Petitioner and respondent have

further agreed that the fair value of the Class B Shares for

estate tax purposes was $15.56 per share if the securities law

restrictions applicable to decedent are disregarded for Federal

estate tax valuation purposes.

     Petitioner argues that the Class B shares subject to

securities law restrictions comprise the "interest" in property

under section 2033 that was transferred by decedent at death,

that the value of such interest is all that is included in

decedent's gross estate, and that the value of the interest

transferred by decedent is determined by valuing only the

restricted share interest of decedent.

     Petitioner also urges that assuming, for the sake of

argument, valuation under section 2031 is at issue, the proper

measure of value for the interest transferred is limited to that

which decedent could have realized during his lifetime because

the securities law restrictions were not self-imposed, and the

facts do not present an abuse situation.

     Lastly, petitioner argues that an unrestricted valuation for

the Class B shares would be inconsistent with the underlying

policy of the unified estate and gift tax system.

     Respondent argues that the securities law restrictions

lapsed at decedent's death and should not be considered in

valuing the Class B shares at the moment of death because the
                                 - 6 -


valuation of decedent's Class B stock for Federal estate tax

purposes must take into account any changes brought about by

decedent's death.

     Respondent also argues that the unified gift and estate

transfer tax system does not require that the pre-death

securities law restrictions be taken into account because the

legislative history does not support petitioner's position, that

the willing-buyer willing-seller standard provides an objective

test for determining value, and that the same standard is used to

determine the amount of a gift and the amount of property

includable in the gross estate.

     We believe the correct result in this case is pointed to by

the decision of the Court of Appeals for the Ninth Circuit (the

Court to which an appeal in this case would normally be directed)

in Ahmanson Foundation v. United States, 
674 F.2d 761
 (9th Cir.

1981).   For our present purposes, the essential facts in that

case were as follows:   Ahmanson, at his death, owned 15 percent

of a savings and loan association of which 81 percent was owned

by HFA, a holding company.   Decedent controlled, through a

revocable trust, 600 out of 1,000 shares of voting common stock

of HFA, and an income interest in 11,000 out of 106,711 shares of

nonvoting common stock of HFA.    Also held in the revocable trust

were all of the shares of Ahmanco Inc., a corporate shell with no
                               - 7 -


assets prior to Ahmanson's death.   There were 99 nonvoting shares

and one voting share of Ahmanco common stock outstanding.

     At the moment of decedent's death, Ahmanco, the erstwhile

shell, became unconditionally entitled to the 600 shares of

voting HFA stock under the terms of certain declarations of

trust.   Under the same declarations of trust, Ahmanson

Foundation, a charitable trust received the 99 nonvoting shares

of Ahmanco.   The one voting share of Ahmanco remained in the

Ahmanson family.

     On the foregoing facts, Ahmanson Foundation argued that the

value of the HFA stock should be disregarded, and that the

Ahmanco stock should be valued in separate units, with most of

the value being allocated to the block of nonvoting stock going

to charity, and a relatively nominal value being allocated to one

share of voting stock going to the family.

     The Ninth Circuit held that even though Ahmanco had no

assets, and therefore no value at the moment before decedent's

death, "we must valuate the HFA and Ahmanco stock as of the

moment of [the decedent's] death, bearing in mind that the HFA

shares, in their entirety, have become an asset of Ahmanco.     In

effect, this is to valuate the Ahmanco stock."   674 F.2d at 767.

Thus, the Court valued the Ahmanco stock, not before decedent's

death, when the stock had no value, nor after decedent's death,

when the ownership became fragmented under the estate plan, but
                                - 8 -


at the precise moment of death.   "Therefore", said the Court, "we

are instructed to determine the value at the moment of death of

the 600 shares of HFA stock and the 100 shares of Ahmanco stock.

In doing so we must take into account any transformations of the

property that are logically prior to its distribution to the

beneficiaries."    Id. (citation omitted).

     Unlike the situation in Ahmanson, we are not called upon to

consider the effect of any plan of postdeath distribution of

decedent's corporate stock in the case before us.   We are

nevertheless required to determine the consequences of the

valuation change that occurred at the moment of death.   The Court

in Ahmanson states that it is "undisputed" that value is to be

determined at the moment of death, citing as settled law an

analogous holding in United States v. Land, 
303 F.2d 170
, 171-175

(5th Cir. 1962).

     In the Land case, the Court of Appeals for the Fifth Circuit

held that the fair market value of a partnership interest at the

death of a partner was its full value in a situation where the

partnership agreement provided that if any member wished to

withdraw from the partnership during his lifetime, another

partner would have the option of purchasing the withdrawing

partner's interest at two-thirds of its calculated value.    But,

at the death of a partner a surviving partner would be entitled

to purchase the decedent's interest at its full value.
                              - 9 -


     The Fifth Circuit very succinctly stated the basis for its

holding in the following language:

          Brief as is the instant of death, the court must
     pinpoint its valuation at this instant--the moment of
     truth, when the ownership of the decedent ends and the
     ownership of the successors begins. It is a fallacy,
     therefore, to argue value before--or--after death on
     the notion that valuation must be determined by the
     value either of the interest that ceases or of the
     interest that begins. Instead, the valuation is
     determined by the interest that passes, and the value
     of the interest before or after death is pertinent only
     as it serves to indicate the value at death. In the
     usual case death brings no change in the value of
     property. It is only in the few cases where death
     alters value, as well as ownership, that it is
     necessary to determine whether the value at the time of
     death reflects the change caused by death, for example,
     loss of services of a valuable partner to a small
     business. [303 F.2d at 172; emphasis in original.]

     We think "the interest that passes" in the case before us is

the value of the shares unencumbered by the securities act

restrictions; i.e., $15.56 per share.   As stated earlier, this is

the value agreed to by the parties if the securities law

restrictions applicable to decedent are disregarded for Federal

estate tax valuation purposes, as we think they must be.    As

stated in the Land case, in the few cases where death alters

value, it is necessary to determine whether the value at the time

of death reflects the change caused by death.   In our case, the

change in value was caused by death because at the instant of

death, the securities law restrictions no longer applied.    The

valuation depressant occasioned by the securities law

restrictions during decedent's lifetime became interesting
                              - 10 -


history--nothing more--at the instant of his death, and unlike

the usual case where death brings no change in value, the

restricted value of the shares in decedent's hands while he was

living does not serve to control the value transferred.

     The parties have brought to our attention, in addition to

Ahmanson Foundation v. United States, supra, a number of cases in

this Court and others where the holding in the Land case has been

cited with approval and relied upon.   A non-all-inclusive list of

such cases includes:   Estate of Bright v. United States, 
658 F.2d 999
 (5th Cir. 1981); Estate of Chenoweth v. Commissioner, 
88 T.C. 1577
 (1987); Estate of Harrison v. Commissioner, T.C. Memo. 1987-

8.   As respondent points out on brief, Propstra v. United States,

680 F.2d 1248
 (9th Cir. 1982), does not cite the Land case, but

relies heavily on Bright, so it can be said that Propstra relies

indirectly on Land.

     None of the cases included in the above list involved a fact

situation sufficiently analogous to the facts of the instant case

to warrant discussion herein, and to do so, we believe, would

lengthen this Opinion without providing any equivalent aid to our

analysis.   We believe the moment-of-death concept as delineated

in the Land case has been accepted widely enough by the Ninth

Circuit, other Courts of Appeal, and this Court, as to constitute

established law, and that it is applicable to the facts of this

case.   We so hold.
                               - 11 -


     Petitioner cites and strongly relies upon our decision in

Estate of Harper v. Commissioner, 
11 T.C. 717
 (1948).     Petitioner

cites Harper to support the proposition that for estate tax

purposes the value that is transferred under section 2033 is the

realizable value of an asset during decedent's life and no more.

     Section 2033 provides:

     Sec. 2033.   Property In Which The Decedent Had An
     Interest.

          The value of the gross estate shall include the value
     of all property to the extent of the interest therein of the
     decedent at the time of his death.

     Petitioner states on brief that "In Harper the Court faced

the precise issue of this case".     We do not agree.

     On the surface, some of the words of Harper might, when read

out of context, appear to support petitioner's position.    There

we concluded our Opinion by saying that

     At the time of her death the decedent had an interest
     in notes the value of which did not exceed the value of
     the assets held as security therefor plus the net worth
     of the makers, and that is the interest which ceased at
     her death. We hold that the petitioner correctly
     returned the value of the interest of the decedent in
     the notes at the time of her death for estate tax
     purposes. [11 T.C. at 720.]

This passage was in response to an argument by the Commissioner

that the value of the notes was enhanced because immediately upon

the death of the decedent the makers of the notes, who were also

Harper's heirs, became invested with more than sufficient assets

to satisfy their obligation.   Id.
                              - 12 -


     Harper deals with an entirely different situation than that

present here.   Our decision in Harper is consistent with Ahmanson

Foundation, supra, which states:

           We must distinguish, however, the effect of
     "predistribution" transformations and changes in value
     brought about by the testator's death, from changes in
     value resulting from the fact that under the decedent's
     estate plan the assets in the gross estate ultimately
     come to rest in the hands of different beneficiaries.
     [Ahmanson Foundation v. United States, 674 F.2d at
     768.]

The estate tax is a tax on the privilege of passing on property,

not a tax on the privilege of receiving property.   "The tax is on

the act of the testator not on the receipt of the property by the

legatees."   Ithaca Trust Co. v. United States, 
279 U.S. 151
, 155

(1929).   Unlike Harper, petitioner's case does not involve a

change in value resulting from the distribution of decedent's

estate.

     In Goodman v. Granger, 
243 F.2d 264
 (3d Cir. 1957), the

court evaluated three employment contracts carrying "contingent

benefits" of $2,000 annually for 15 years after the employee

ceased to be employed by the employer by reason of death or

otherwise.   The post-employment contingent payments were to be

made only if the employee did not engage in any competing

business for a certain period of time and if his post-employment

earnings from other work did not exceed a certain amount.   The

court held that since the possibility of forfeiture was

extinguished by the decedent's death the contract rights should
                                - 13 -


be given their full value for estate tax purposes.    In reaching

this conclusion the court observed that

          Since death is the propelling force for the
     imposition of the tax, it is death which determines the
     interests to be includible in the gross estate.
     Interests which terminate on or before death are not a
     proper subject of the tax. Assets may be acquired or
     disposed of before death, possibilities of the loss of
     an asset may become actualities or may disappear. Upon
     the same principle underlying the inclusion of
     interests in a decedent's gross estate, valuation of an
     interest is neither logically made nor feasibly
     administered until death has occurred. The taxpayer's
     theory of valuing property before death disregards the
     fact that generally the estate tax is neither concerned
     with changes in property interests nor values prior to
     death. The tax is measured by the value of assets
     transferred by reason of death, the critical value
     being that which is determined as of the time of death.
     [243 F.2d at 268-269; emphasis supplied.]

In a footnote to Goodman v. Granger, the court also observed that

the result reached in Estate of Harper v. Commissioner, 
11 T.C. 717
 (1948), is consistent with "our approach in the instant case,

although the language used by the Tax Court was perhaps something

less than fortunate."   [243 F.2d at 269, fn. 7.]

     When the foregoing reasoning is applied to this case, it is

apparent that the stock at issue must be valued without the

S.E.C. Rule 144 restrictions.    The decedent was considered an

Affiliate for securities law purposes at the time of his death

and therefore pursuant to S.E.C. Rule 144, he was subject to

stringent volume limitations, disclosure, and other requirements

if he were to dispose of the shares.     This stock was transferred

at the moment of death and passed to the decedent's estate.    The
                               - 14 -


estate was not an Affiliate and pursuant to S.E.C. Rule 144 could

freely sell the shares without regard to such restrictions.

     The Court of Appeals in United States v. Land, 303 F.2d at

172, emphasized the fact that the Federal estate tax is imposed

on the transfer of property, and reasoned that from this it

follows that the valuation of the estate should be made at the

time of transfer; i.e., the "instant of death".   Since in the

instant case the securities law restrictions evaporated at the

moment of death, we hold that the shares must be valued free of

the restriction, at $15.56 per share.

     As we have previously noted, petitioner makes two additional

arguments.   Petitioner emphasizes that the securities law

restrictions were not, through some contrivance, self-imposed by

decedent.    Consequently, petitioner says, no potential abuse is

involved, and the estate should therefore receive the tax benefit

of the limitation on value during decedent's lifetime.   We would

simply respond by agreeing that in some instances it becomes

necessary to look through form to substance where a decedent was

in a position during his/her lifetime to manipulate the future

value of an asset at death.   We believe, however, that in the

absence of atypical circumstances, not present here, the "instant

of death" rule enunciated in United States v. Land, supra, and as

we have applied it, is an objective test where the question of

intent--inherent in contrived value situations--is not relevant.
                               - 15 -


     Petitioner also argues that the general policy of the

unified gift and estate transfer tax system (enacted as a part of

The Tax Reform Act of 1976, Pub. L. 94-455, sec. 2001, 90 Stat.

1520, 1846) dictates that the restrictions have an effect on the

determination of value for estate tax purposes, and that since

the securities law restrictions were applicable to gifts by the

decedent, they are required to be taken into account in this case

for the sake of consistency.    Petitioner's argument is not

convincing.

     According to a Joint Committee "Blue Book", Congress

believed that, as a matter of equity, transfers of the same

amount of wealth should be treated substantially the same when

transfers were made both during life and at death, or made only

upon death.    Congress believed that it was desirable to reduce

the disparity of treatment between lifetime transfers and

transfers at death through the adoption of a single unified

estate and gift tax rate schedule providing progressive rates

based on cumulative transfers.    See Staff of Joint Committee on

Taxation, General Explanation of the Tax Reform Act of 1976 (J.

Comm. Print), 1976-3 C.B. (Vol. 2) 537.    Accordingly, the Tax

Reform Act of 1976 provided a rate schedule for estate and gift

taxes which eliminated the preferential rate for lifetime

transfers.    The Tax Reform Act of 1976 also provided for a

unified credit against estate and gift taxes.    The amount of the
                               - 16 -


estate tax was to be determined by applying the unified rate

schedule to the aggregate of cumulative transfers during life and

at death and then subtracting the gift taxes payable on the

lifetime transfers.    General Explanation, supra.

     The Joint Committee explanation indicates that Congress

intended that the transfer tax for the same amount of property

should be the same whether the property was transferred by gift

or at death.   There is nothing to suggest that Congress intended

to ignore changes in the value of property that were brought

about by death.   In the instant case, the value of property

transferred would depend on whether the stock was donated before

death or whether the stock passed to the estate at the moment of

death, since the nature of the property changed at the moment of

death.   The unified gift and estate transfer tax system was not,

we believe, intended to affect the question of value for transfer

tax purposes, whether the tax in question were to be the gift tax

or the estate tax.    We consequently cannot accept petitioner's

argument to the contrary.

     To reflect the foregoing, and concessions,



                                     Decision will be entered

                                under Rule 155.

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