Tax Court Says 1972 Settlement Transfer Was Not a Gift
The Tax Court recently found that a petitioner had not made a taxable gift in 1972 when he transferred stock to his children to settle a family lawsuit. Although the transfer had occurred decades earlier, the IRS issued a notice of deficiency to petitioner in 2013, asserting that the taxpayer (who was deceased at the time) owed $737,625 in unpaid gift taxes and an addition to tax of $368,813 for fraud. As an alternative to the fraud claim, the IRS contended that the petitioner owed an addition to tax of $36,881 for negligence and $184,406 for failing to file a timely gift tax return.
The petitioner was the son of a movie theater mogul. The petitioner owned one-third of the shares of the family business and had worked in the business for years with his father and brother. The petitioner left the business abruptly in 1971 because of a major family dispute. He sought to redeem his shares in the closely held family corporation, but his father and brother refused. The father argued that he contributed more capital to the business than the petitioner because he wanted a portion of the petitioner’s shares to go to the petitioner’s children. He thus argued that the petitioner held a certain number of his shares in an oral trust for the benefit of the grandchildren.
After a court battle, the petitioner agreed to transfer one-third of his shares to his children to settle the matter. He then received cash from the family corporation for the value of his remaining shares. The petitioner’s accountant did not file a gift tax return because he did not consider the settlement transfer to be a gift.
And that’s the last the parties thought of the issue until the IRS learned of the transfer through a related court battle in 2010. The IRS filed its notice of deficiency in 2013, two years after the petitioner had died.
The estate challenged the notice, and the tax court ruled that the transfer was not a taxable gift. The tax court found that there was no evidence that the petitioner, in making the transfer, was “motivated by love and affection or other feelings that normally prompt the making of a gift.” Instead, the petitioner’s transfer “represented the settlement of a bona fide dispute, made at arm’s length, and free from any donative intent.” The tax court thus ruled that it met the three criteria for a transaction “in the ordinary course of business” specified in Treas. Regs. § 25.2512-8.
The IRS had primarily argued that it was a gift because the children had not provided any consideration for the transfer. The tax court, however, found that the IRS was asking the wrong question. The question was not whether the transferee paid any consideration, but rather whether the transferor received any consideration. The court ruled that the petitioner received “full and adequate consideration in money or money’s worth” as required by Treas. Reg. § 25.2511-1(g)(1). His consideration, the tax court found, was recognition by his father and brother that he was the outright owner of his remaining shares.
One takeaway of this case for those outside of the Redstone family is recognition of the cold, hard fact that no statute of limitations applied to prevent the IRS from collecting taxes on this alleged 1972 gift. In general, IRC §6501(a) requires the IRS to assess gift tax liability within three years after the due date of the gift tax return or three years after the gift tax return was actually filed, whichever is later. If no gift tax return is filed, no limitations period begins to run. Thus, alleged donors (or their families) can receive an unwelcomed letter from the taxman decades after an alleged gift was made. Yet another reason to consult with qualified tax professionals when transferring property.
The case was Estate of Edward S. Redstone, 145 T.C. No. 11.
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