Estate of Marion Levine, Robert L. Larson, Personal Representative

United States Tax Court
158 T.C. No. 2ESTATE OF MARION LEVINE, DECEASED, ROBERT L. LARSON,
PERSONAL REPRESENTATIVE,
Petitioner
v.
COMMISSIONER OF INTERNAL REVENUE,
Respondent
—————
Docket No. 13370-13. Filed February 28, 2022.
—————
D, the deceased, entered into split-dollar life-
insurance arrangements which required her revocable
trust to pay premiums for life-insurance policies taken out
on the lives of her daughter and son-in-law. When the
arrangements terminate, D’s revocable trust has the right
to be paid the greater of the premiums paid or the cash
surrender value of the policies. An irrevocable life-
insurance trust was the owner of these policies. D’s
children and grandchildren were the beneficiaries of the
irrevocable trust, and F, a family friend who was
substantially involved in the family’s businesses, was the
sole member of the investment committee that managed
the irrevocable trust. F and two of D’s children also acted
as D’s attorneys-in-fact and as the revocable trust’s
successor cotrustees. As the sole member of the irrevocable
trust’s investment committee, only F had the right to
prematurely terminate the life-insurance policies: the
arrangements gave D and the other two attorneys-in-fact
no rights to terminate the policies or the arrangement
itself.
1. Held: Treasury Regulation § 1.61-22 governs only the
gift-tax consequences of this transaction.
Served 02/28/22
2
2. Held, further, as of the date of her death, D possessed a
receivable created by the arrangements, which was only
the right to receive the greater of premiums paid or the
cash surrender values of the policies when they are
terminated.
3. Held, further, I.R.C. §§ 2036(a)(2) and 2038 do not
require inclusion of the policies’ cash-surrender values
because D did not have any right, whether by herself or in
conjunction with anyone else, to terminate the policies
because only the irrevocable trust had that right.
4. Held, further, I.R.C. § 2703 applies only to property
interests that D held at the time of her death. There were
no restrictions on the split-dollar receivable, so I.R.C.
§ 2703 is inapplicable.
—————
G. Michelle Ferreira, Brooke D. Anthony, and Joseph W. Anthony, for
petitioner.
Randall L. Eager, for respondent.
OPINION
HOLMES, Judge: Marion Levine entered into a complex
transaction in which her revocable trust paid premiums on life-
insurance policies taken out on her daughter and son-in-law that were
held by a separate and irrevocable life-insurance trust. Levine’s
revocable trust had the right to be repaid for those premiums. Levine
has since died, and the question is what has to be included in her taxable
estate because of this transaction—is it the value of her revocable trust’s
right to be repaid in the future, or is it the cash-surrender values of those
life-insurance policies right now?
We considered aspects of similar transactions both in Estate of
Morrissette v. Commissioner, 1 and in Estate of Cahill v. Commissioner, 2
1 146 T.C. 171 (2016).
2 115 T.C.M. (CCH) 1463 (2018).
3
but in this one we have novel questions of how to decide what the
revocable trust transferred before Levine’s death and what it held when
she died.
Background
Levine was born in St. Paul, Minnesota in 1920. She lived there
with her nine brothers and sisters through the Great Depression until
she married George Levine. They were of the Greatest Generation, and
Levine followed her new husband as best she could even after he was
drafted into service. He served honorably, and when we had won, he
and she made their way back to St. Paul. They enlisted together in the
ensuing baby boom, and had two children—Nancy and Robert. Nancy
married Larry Saliterman, and they themselves had three children:
Scott, P.J., and Jonathan. Robert has two of his own: Charles and
Michel. A family tree may be helpful here:
Marion Levine (d. 2009) -- George Levine (d. 1974)
_________________|______________
| |
Nancy Robert
______|________ ______|__________
| | | | |
Scott P.J. Jonathan Charles Michel
George died in 1974, and Levine married Henry Orenstein
sometime in the 1980s. This marriage lasted only a year before it ended
in divorce. Levine then married Harold Frishberg around 1990, and
they remained married until his death in 2005.
I. Levine’s Business Success
A. Humble Beginnings
Levine graduated from high school and received some business-
school training, but never earned a college degree. At a time when it
was especially unusual, she nevertheless became a highly successful
businesswoman. Her success began in 1950 when the Levines opened
Penny’s Supermarket. This small family business eventually grew to a
27-store, multimillion-dollar company. Levine did almost everything at
Penny’s—she collected timecards, oversaw payroll, paid bills, and
tracked inventory. She became the sole boss after George died, until
after more than three decades of minding the store, she sold the business
4
for $5 million in 1981. The proceeds did not become a nest egg for a
comfortable retirement; Levine used them instead as capital to hatch
new businesses that increased her net worth to $25 million over the next
twenty years.
B. After Penny’s
None of these new businesses had anything to do with groceries.
They were real-estate investments, a stock portfolio that she had begun
in the early ʼ60s and tended herself, interests in two Renaissance fairs
and several mobile-home parks, and loans to real-estate partnerships
and mobile-home park residents.
1. Real Estate Investments
Most of Levine’s real-estate investment activity was as a lender.
Levine, her close personal friend Bob Larson, Larry, and Robert created
two companies named 5005 Properties and 5005 Finance to manage all
the real-estate ventures. 3 Larson, Larry, and Robert managed the day-
to-day business for these properties, while Levine mostly supplied the
financing. One of Levine’s biggest and most profitable assets in her real-
estate portfolio was Penn Lake Shopping Center, LLC (Penn Lake). She
and her late husband had built Penn Lake in 1959, and by 2007 the
property was free of debt and produced approximately $200,000 in
annual income.
2. Mobile Home Parks
Levine owned several mobile-home parks through 5005
Properties. This business began in 1979 when she bought a mobile-
home park in Dayton, Minnesota. These investments settled into a
simple pattern: 5005 Properties would buy the property and rent spaces
to residents. At the height of this business, 5005 Properties owned 30
mobile-home parks, but its portfolios had shrunk. Banks had stopped
financing mobile homes after enactment of reform legislation, 4 so 5005
3 5005 was the address of the office building that used to house Penny’s
business.
4 Under the Dodd-Frank Wall Street Reform and Consumer Protection Act,
Pub. L. No. 111-203, 124 Stat. 1376 (2010), manufactured-home loans were classified
as “high cost.” The Act also classified manufactured-home retailers as “mortgage
originators.” A widely reported, if unintended, consequence was that almost all lenders
chose to stop making these loans. See The Impact of Dodd-Frank’s Home Mortgage
5
Finance itself stepped in and got extra revenue from lending to
prospective residents. Many of these tenants had low credit scores, but
5005 knew its tenants and with some care could lend them money to buy
their homes at rates they could afford. Levine took pride in avoiding
evictions and was pleased when the tenants’ improved scores let them
climb the ownership ladder up to “stick-built” homes.
3. Renaissance Fairs
Levine also began to invest at some point in Renaissance fairs.
These are a bit like state fairs, if the state were a small principality in
fifteenth-century Europe populated entirely by modern people who enjoy
costumed role-playing and adding extra “e’s” to words like “old” and
“fair.” There are 20 major Renaissance fairs around the country, and
5005 Properties owns and runs 2 of them—the Arizona and Carolina
Renaissance Festivals (the latter in North Carolina). Levine entered the
business in 1988 and her festivals were generally open 7-8 weekends a
year. Each festival is a small business. 5005 Properties charges
admission, sells food and drinks for all concessions, contracts with
skilled craftsmen and entertainers, and buys advertising to make it all
profitable.
II. Family and Business Dynamics
Levine’s entrepreneurial success allowed her to support her
children. Nancy graduated from the University of Minnesota in 1967
with a major in English literature and minors in humanities and art
history. She worked mainly in different retail jobs after college
(including at Penny’s for a short time), but for the most part was not
active in the family businesses.
Her brother Robert, on the other hand, became deeply involved
early on and remains so today. He graduated from the Wharton School
of Business with a degree in economics and a major in accounting and
finance. He then went on to get his J.D. from the University of Colorado
Reforms: Consumer and Market Perspectives: Hearing Before the Subcomm. on Fin.
Insts. and Consumer Credit of the Comm. on Fin. Servs., 112th Cong. 10-11 (2012)
(statement of Tom Hodges, General Counsel, Clayton Homes, Inc., on behalf of the
Manufactured Housing Institute). Congress later amended the Truth in Lending Act
to solve this problem. See Economic Growth, Regulatory Relief, and Consumer
Protection Act, Pub. L. No. 115-174, 132 Stat. 1296 (2018).
6
Law School in 1977. He is still a member of the Minnesota bar, although
he has not practiced since the mid-1980s.
He also seems to have inherited his parents’ business acumen.
He acquired his first piece of real estate—the Time Square Shopping
Center in Minnesota—in 1974 upon his father George’s death. He got
involved in the purchase of Levine’s first mobile-home park in 1979 and
even worked at Penny’s for about two years until its sale in 1981. He
now works at 5005 Properties, where he is an astute manager of the
Levine family’s investments.
As the turn of the millennium neared, Levine began to plan for
her own old age. She gave both of her children a statutory power of
attorney in 1996 to take care of her affairs if something happened. But
Nancy and Robert have not always gotten along, so Levine thought it
was necessary to have a third attorney-in-fact to play the referee. This
role was played by Bob Larson.
Larson is a Vietnam-era Marine who earned an accounting degree
in 1966. He was working two different accounting jobs when his
career—and his life—changed after meeting Levine in 1969. Larson’s
wife was Levine’s hair dresser, and the Larsons got invited to Nancy and
Larry’s wedding. After meeting Levine at the wedding, Larson ran into
her again while she was getting her hair done at his wife’s salon. They
started chatting, and at one point he complained about the prospect of
moving to a small town in Oklahoma for a job. Levine listened, and she
had a better idea. She told Larson that she needed an in-house
controller for Penny’s and he should consider interviewing for the job. It
all worked out very well. Larson won the position and began a 50-year
professional and personal relationship.
Penny’s had just moved its accounting in-house, and Larson
became head of its accounting staff, took care of the financial
statements, and did the bank reconciliations. After George died in 1974,
Larson became more deeply involved with the family’s business. When
the family sold Penny’s, he even stayed on for another year or two to
help close the business out.
He also helped Levine as she began exploring other investments.
According to Larson, Levine had her eye out for investments that would
help the key people that she worked with, all of whom were family—
except for Larson himself. Indeed, it was Larson who saw the potential
in that first mobile-home park in Dayton, Minnesota. He brought the
7
idea to Levine, she approved, and the family went off in that new
direction.
Larson’s role grew with the business, and he has stayed on with
5005 Properties and 5005 Finance, where he is president of both. He
oversees the tax and accounting work for the companies, and he signs
most of the companies’ tax returns. Levine’s making him one of her
attorneys-in-fact was especially sensible as he was close with every
member of the Levine family. 5 Levine drafted these powers of attorney;
if there are any disagreements among the three attorneys-in-fact, the
decision of the majority takes the day.
Levine’s decision to name attorneys-in-fact meant that she
contemplated her mortality, but it didn’t mean at first that she was any
less active. She continued to manage her own legal affairs and stayed
involved in the businesses. She was happy to delegate, but always
stayed alert as the “watchdog.” She would look over financials with
Larson monthly and made sure she knew all that was going on with the
businesses. Then, in 2003, she suffered a stroke while on vacation in
Palm Springs. 6 In 2004 or 2005 Robert and Nancy became concerned
about her driving skills. They arranged for her to take a driver’s test,
and her driver’s license was taken away. This was an important event.
Levine remained involved in the business, but she worked less and less.
She hired someone to drive her to the office but came in only about twice
a week. Her health did not improve. It took another step down in 2008,
when signs of dementia began to appear, but even as she neared 90,
Levine still wanted to know what was going on. Larson began to go to
her home with financial statements to review, but more out of habit and
to hear echoes of earlier times than to get her advice or seek her
approval.
5 Larson described Levine as “my second mom.” Nancy claimed that Larson
was “as close to [Levine] as any person could have been” and his role as an attorney-
in-fact was to protect her. And Robert credibly stated that he and Larson “have been
friends forever.”
6 There was sincere but conflicting testimony regarding when and exactly how
much Levine’s health began to decline. Robert identified the stroke in 2003 as the first
sign that his mother was no longer as mentally sharp as she used to be. Larson also
thought that her mental activity probably started to decline after the stroke, although
at first he didn’t notice anything different about her when she returned to work. And
Nancy claimed not to notice any real changes until around 2006, after her mother’s
third husband died.
8
III. Levine’s Estate Planning
Well before any of these health issues arose, Levine began to plan
her estate. She first created a revocable trust—the Marion Levine
Trust—in May 1988. Levine herself was the trustee; she named Larson,
Robert, and Nancy as successor trustees; and Nancy, Robert, and their
children as beneficiaries. 7 She first amended this trust agreement in
May 1996 to add Larson, Robert, and Nancy as cotrustees. Then, in
February 2005 she resigned as trustee and made Larson, Nancy, and
Robert the sole cotrustees at about the same time as she signed the
short-form power of attorney that we’ve already mentioned. See Minn.
Stat. § 523.23 (2005).
Between 1996 and 2007 Levine used an attorney named Bill
Brody to do her estate planning, and Brody had prepared all of Levine’s
estate-planning documents. But as Levine’s health grew worse, her
family and Larson pressed her to search for a new lawyer to advise them.
Shane Swanson, an attorney at Parsinen Kaplan Rosberg & Gotlieb,
P.A. (Parsinen), was referred to the Levine family by Levine’s sister, who
had been using Swanson and was extremely pleased with his work. The
family and Swanson clicked, and in November 2007 they retained the
Parsinen firm to review and revise Levine’s estate plan. Although
Howard Rubin, a senior estate-planning partner at Parsinen, negotiated
the fee for services and signed the engagement letter on behalf of the
firm, Swanson was the primary point of contact for Levine and her
attorneys-in-fact, and he took the lead on the estate-planning work.
Swanson first worked with Levine to make sure all her business
entities both were properly structured and meshed well with a
comprehensive estate plan. Many of the entities that Levine had
invested in—especially the partnerships—were governed by old
documents, so Swanson worked to revise them. While he ran into
difficulties when multiple other partners and parties were involved,
7 Levine limited the interests of her grandchildren to a subtrust that would be
funded by whatever was left of her generation-skipping-transfer-tax (GSTT)
exemption. (The GSTT prevents taxpayers from avoiding the estate tax by passing
their property to grandchildren instead of children. It includes an exemption that
allows taxpayers to exclude a certain amount, and in 2009, this amount was $3.5
million. See § 2010.) The remaining unused amount of Levine’s GSTT exemption that
was accounted for in creating the grandchildren’s subtrust was a little over $3 million.
(All section references are to the Internal Revenue Code and regulations in effect at
the relevant time, and all Rule references are to the Tax Court Rules of Practice and
Procedure, unless we state otherwise.)
9
Swanson was able to either update or restructure the partnerships that
Levine controlled directly into more modern entities such as LLCs.
Swanson also created different trusts to hold some of Levine’s real-
estate assets which allowed her to pass them to her children in ways
that would produce estate-tax savings. He wasn’t looking to do anything
radical and started by using two tools well known to estate planners:
the grantor retained annuity trust (GRAT) and the qualified personal
residence trust (QPRT).
A GRAT is a “tax-saving device in which a grantor transfers
assets into trust and retains an annuity payable for a specified term.”
Estate of Hurford v. Commissioner, T.C. Memo. 2008-278, 96 T.C.M.
(CCH) 422, 425 n.2 (citing Bittker et al., Federal Estate and Gift
Taxation 80-81 (9th ed. 2005)). When these GRATS are structured
according to the Code, the transferor avoids incurring any gift-tax
liability. See Grieve v. Commissioner, T.C. Memo. 2020-28, at *6 & n.4.
If the grantor survives to the end of the specified term, any appreciation
in the asset’s value over the rate specified in section 7520 passes to the
beneficiaries without any gift or estate tax. Id. If the grantor does not
survive, however, the full value of the asset is included in her gross
taxable estate. Treas. Reg. § 20.2036-1(c)(2)(i). This GRAT structure is
specifically provided for in the regulations under special valuation rules.
See Treas. Reg. § 25.2701-1 to -8. Levine placed her Dayton Park project
partnership—located in Dayton, Minnesota—into the GRAT with a two-
year term, with any appreciation on the asset to pass to Nancy and
Robert at the end of this term.
A QPRT allows an individual to transfer her home into a trust,
which makes it exempt from estate and gift taxes so long as the
transferor uses the home as her personal residence for the specified
term. See § 2702; Treas. Reg. § 25.2702-5. Levine placed 50% of her
Minneapolis condo into a QPRT with a two-year term, and the other 50%
in a different QPRT with a three-year term. During these terms, she
was able to live in her condo rent free, but after the terms expired, title
would pass to Nancy and Robert. If Levine wanted to continue to live in
the condo, she would at that point be required to pay fair market rent to
them to do so. A QPRT can reduce the value of the property it holds by
an amount equal to the value of the right to live in it for the trust’s term,
10
which would also reduce potential estate tax. 8 See Estate of Riese v.
Commissioner, T.C. Memo. 2011-60, 101 T.C.M. (CCH) 1269.
Levine’s specific estate-planning goals and her diverse assets
presented challenges even to estate planners as skilled as the ones the
family retained. From the beginning, Larson and Levine’s children
made it clear to Swanson that Levine wanted enough money to maintain
her lifestyle until her death. This meant that any estate planning
needed to be done with Levine’s excess capital—i.e., assets that she
would not likely need during her lifetime. This would be difficult in most
circumstances, but especially because so much of Levine’s wealth was in
real estate or partnerships that owned real estate. She owned a number
of properties that were unencumbered by any debt—her condo in
Minneapolis, a home in Rancho Mirage, California, her interests in the
mobile-home parks and the two Renaissance fairs, and the Penn Lake
Shopping Center. Levine wanted these assets to stay in her estate so
that her children would inherit them with stepped-up bases when they
passed to her children. 9 But, like a halberd, stepped-up basis cuts both
ways. Holding onto real estate might cut future capital-gains tax, but it
also meant that its value would be part of Levine’s gross taxable estate.
In situations like this, Swanson typically suggested looking to insurance
as a way to help clients prepare to pay the estate tax that would
eventually be due on these relatively illiquid investments. Swanson
knew that Levine earned more than $1 million annually and that this
money would need to be redeployed into other investments. He also
thoughtfully asked about the children’s situation and learned that they
themselves also had large real-estate holdings and completely lacked
any estate plans. So he suggested to them and Larson that there just
might be a way for Levine to invest her excess capital to provide her with
a good return, while at the same time meshing with the Levine
children’s needs for estate plans of their own.
His idea: intergenerational split-dollar life insurance.
Since Levine did not survive the full term of either the QPRTs or the GRAT,
8
the gamble did not pay off, and the full values of both the Dayton Park partnership
and the Minneapolis condo became includible in her gross estate.
9 Section 1014 resets basis in property to its fair market value at the time of
its owner’s death. This results in a smaller taxable gain realized by the heir if he ever
sells the property and the property’s value has increased.
11
A. Planning the Split-Dollar Life-Insurance
While Swanson had done a split-dollar insurance arrangement
before, he had never done a transaction like the one he was proposing
for Levine—loans from a parent to her children to buy life insurance for
them. He explained that the circumstances that might make this type
of transaction attractive are very rare, and require that the client
• has enough cash to buy a substantial amount of life
insurance, and to live on for the rest of her life;
• faces an estate-tax bill large enough to justify the costs of
planning and execution;
• has children whose lives would be insured, and who
themselves have a sufficient net worth to qualify for large
life-insurance policies; and
• has children who are healthy enough to navigate the
underwriting process successfully.
Swanson spent a good deal of time thinking through all the advantages
and disadvantages, conditions and qualifiers. He put together a
PowerPoint presentation for the family in late 2007 or early 2008. Then
in January 2008 he sent a letter to Larson and the children in which he
described the transaction and its legal and tax implications.
He told them that Levine could contribute money to a trust that
would be for the benefit of Robert, Nancy, and her grandchildren. Its
trustees would then use the money to buy life-insurance policies on
Nancy and Robert’s lives. This would not be purely a gift—the trust
would get Levine’s money only in exchange for a promise by the trust to
pay her the greater of the money she advanced, or the cash value of the
policies upon the earlier of the insureds’ deaths or the policies’
surrender. The right to this repayment would be held by Levine as a
“receivable”, 10 or in other words an asset that the Estate had to report
on its estate-tax return. His proposal assumed that Levine would lend
the trust enough to pay $10 million in premiums, but he said that the
technique could be used at any premium level depending on the
insured’s insurability—i.e., “proof of good health of the insured.” See
Likly & Rockett Trunk Co. v. Provident Mut. Life Ins. Co., 85 F.2d 612,
10 When we refer to the “split-dollar receivable” or “receivable” we are referring
to this contract right.
12
613 (6th Cir. 1936). Swanson’s proposal was complex, and we believe
the testimony of Levine’s children and Larson that, even though they
each received a copy of this detailed proposal letter, they actually
learned more about the transaction and finally understood it better
through Swanson’s discussions with them.
Levine, her children, and Larson spoke among themselves about
the costs and benefits of the deal. Levine herself approved the
transaction, but limited the amount that she was willing to lend to the
trust for premiums to $6.5 million. Levine thought that she had done
enough for her kids and wanted to make sure that she could take care
of her grandchildren.
Swanson set to work.
1. Establishing the Irrevocable Life-Insurance Trust
First he created the trust that would own the split-dollar life-
insurance policies—the Marion Levine 2008 Irrevocable Trust
(Insurance Trust). 11 Irrevocable life-insurance trusts are typically used
as a vehicle to own life-insurance policies to reduce gift and estate taxes.
See Estate of Petter v. Commissioner, T.C. Memo. 2009-280, 98 T.C.M.
(CCH) 534, 535 n.3, aff’d, 653 F.3d 1012 (9th Cir. 2011). If done
properly, a life-insurance trust can take a policy out of its settlor’s estate
and allow the proceeds to flow to beneficiaries tax free. Id. Levine’s
Insurance Trust was signed at the end of January 2008 by her children
and Larson as attorneys-in-fact and the South Dakota Trust Company,
LLC (South Dakota Trust) as an independent trustee. The Insurance
Trust’s beneficiaries were Robert, Nancy, and Levine’s grandchildren—
the grandchildren that Levine naturally wanted to take care of.
Swanson settled the Insurance Trust in South Dakota because its
laws are favorable—it has no rule against perpetuities, but does have a
taxpayer-friendly state income tax and a favorable premium tax. South
Dakota is also one of the few states with a “directed” trustee statute,
which allows the separation of management and administration of a
trust’s investments. See S.D. Codified Laws ch. 55-1B (1997). Levine’s
Insurance Trust named South Dakota Trust as its directed trustee. This
put South Dakota Trust in charge of administration—opening up trust
11 While Swanson created the Insurance Trust to own the life-insurance
policies taken out as part of the split-dollar transaction, we find him credible when he
said that he also viewed the Insurance Trust as something Nancy and Robert could
use in their own eventual estate planning.
13
accounts and handling them according to the terms of the trust
document. But South Dakota Trust was only the administrator—it had
no authority to choose what the trust would invest in. 12 Swanson
drafted the trust to have trustees whose job it would be to direct its
investments. This was the “investment committee,” and its membership
consisted of one person—Larson. 13 Levine picked Larson for this role
because he had long been very close to the Levine family yet was not a
part of it. Levine knew the relationship between her children was
fraught. She wanted someone she could trust to manage not just the
trust but the relationship—and her children understood this. Larson
has been the sole member of the investment committee since it began.
South Dakota law defines this committee’s fiduciary obligations to the
Insurance Trust and its beneficiaries. See S.D. Codified Laws § 55-1B-
4 (1997). And we specifically find that, as the committee’s only member,
Larson was under a fiduciary duty to exercise his power to direct the
Insurance Trust’s investments prudently, and he faced possible liability
to its beneficiaries if he breached that duty.
Larson approved the split-dollar life-insurance arrangement on
behalf of the Insurance Trust in his role as the investment committee.
2. Acquiring the Life Insurance Policies
The next step was for the Insurance Trust to buy insurance.
Levine, her children, and Larson first had to decide who would be the
insured parties. Swanson initially suggested that the life-insurance
policies should be taken out on the lives of both Nancy and Robert. But
Robert had a preexisting medical condition that would have made him
uninsurable at a reasonable price. So Levine, her children, and Larson
decided instead that the Insurance Trust would buy policies on the lives
of Nancy and her husband Larry. Swanson then worked with an
12 South Dakota Trust could also be directed by the investment committee on
how to deal with distributions for the trust, although it maintained discretion on how
to do this.
13 S.D. Codified Laws § 55-1B-9 (2017) states:
A trust instrument governed by the laws of South Dakota may provide
for a person to act as an investment trust advisor or a distribution trust
advisor, respectively, with regard to investment decisions or
discretionary distributions. Unless otherwise provided or restricted by
the terms of the governing instrument, any person may simultaneously
serve as a trust advisor and a trust protector.
This allows for an investment committee of just one person.
14
insurance broker to find the right insurance companies. After mulling
over Swanson’s advice Levine, her children, and Larson settled on two
last-to-die policies with John Hancock and Pacific Life. Once the
applications for the life-insurance policies were submitted in April 2011,
the process of pulling together the cash to fund the policies began.
This had to be given some thought. Even though Levine had a
net worth in excess of $25 million in 2008, Swanson and Levine’s
children decided to borrow money to fund these life-insurance
premiums. 14 This was an investment decision made by Levine and her
children. They wanted to lock in the quoted premium rates for the
policies, so they quickly took out short-term loans to do so. Several of
these loans would be taken out by Levine’s real-estate partnerships.
And, with the exception of the Central Bank loan, they expected to
quickly repay the loans and any of Levine’s advances by refinancing the
debt on the partnerships, as well through the sale of the Arizona
Renaissance Festival.
Between June and August 2008, the children and Larson—as
Levine’s attorneys-in-fact–executed the paperwork to marshal the $6.5
million they needed, almost all through loans:
14 Larson credibly testified that they could have paid all the premiums in cash
if they had decided to take that route.
15
Annual Term
Source Amount
interest rate
$3,800,000
6.35% 60 equal monthly
Central bank loan ($3,730,000 used
payments
for premiums)
Private bank line $2,000,000 5.25% 1 year, single balloon
of credit payment
60 monthly payments,
$516,000
Business bank 6.9% plus one lump-sum
($500,000 used
loan payment at end of 5
for premiums)
years
Penn Lake
Shopping Center’s $270,000 N/A N/A
savings account
a. Central Bank Loan
The first loan was $3.8 million from Central Bank to Penn Lake.
Levine owned 100% of Penn Lake and had paid off the mortgage on the
property years before. This loan had an interest rate of 6.35%, and Penn
Lake promised to make 60 equal monthly payments until July 1, 2013.
Penn Lake pledged various properties that it owned as collateral.
Levine and her children felt no urgency to repay the principal of
this loan. Their plan was instead to pay the interest, which they’d been
advised would increase Levine’s basis in the receivable that the Estate
would be obtaining as part of this split-dollar transaction. 15 Levine’s
estate would eventually owe tax on what it got back from the Insurance
Trust through the receivable the Estate held, and that tax would shrink
if Levine’s basis in the receivable increased. 16
While interest paid can be deducted from income under section 163, section
15
264 denies this deduction to the extent that the money is borrowed to fund a life-
insurance policy, and in effect defers the deduction until the policy matures.
16 The family thought that the tax that would eventually be owed by Levine’s
estate on this receivable would be determined by the difference between the
receivable’s value at the date of its repayment and its basis. The receivable’s basis
would be the receivable’s reported value on the estate-tax return plus the total deferred
interest payments from the Central Bank loan. If it all worked, the arrangement
would produce a nice deferral of the tax owed until the Insurance Trust repaid the
Estate its receivable.
16
b. Private Bank Line of Credit
The children and Larson, acting as her attorneys-in-fact, also
opened a personal line of credit with Private Bank of Minnesota. This
gave Levine access to $2 million for a term of one year at 5.25%. Any
outstanding balance was due and payable in a single balloon payment
in thirteen months. They secured this line of credit with various
properties and assets that Levine Investments, 5005 Properties, and
5005 Finance owned.
c. Business Bank Loan
The last of the three loans was arranged by Nancy and Robert in
their capacities as cotrustees of Levine’s Revocable Trust. It was with
Business Bank for $516,000 at an annual rate of 6.9%, with monthly
payments of $4,000 over the course of 5 years, followed by a balloon
payment of any unpaid principal and interest at the end of that term.
They secured it with the Revocable Trust’s interests in several
installment-sales contracts and leases.
With the loan proceeds and some cash from Penn Lake’s account,
Levine’s children and Larson—again acting as her attorneys-in-fact—
wired $4 million from Penn Lake to the Pacific Life Insurance Company
to pay the one-time premium for insurance on the lives of Nancy and
Larry. It is a whole-life policy with a face value of $10,750,000 that will
pay out after both of their deaths. It also had a cash-surrender value
that was guaranteed to increase by at least 3% per year.
A few days later, Private Bank of Minnesota wired $2 million to
the John Hancock Life Insurance Company. A month later, Business
Bank wired another $500,000. This paid the one-time premium for
another last-to-die whole-life policy, this one for $6,496,877. It had a
cash-surrender value guaranteed to increase by at least 3% per year.
B. Levine’s Split Dollar Arrangement
Between June and July 2008, Nancy, Robert, and Larson—in
their capacities as Levine’s attorneys-in-fact and as trustees of her
Revocable Trust—executed several documents to put the split-dollar
arrangement into effect. We summarize the most important parts of the
deal:
17
• The Insurance Trust agreed to buy insurance policies on
the lives of Nancy and Larry;
• The Revocable Trust agreed to pay the premiums on these
policies;
• The Insurance Trust agreed to assign the insurance
policies to the Revocable Trust as collateral;
• The Insurance Trust agreed to pay the Revocable Trust the
greater of (i) the total amount of the premiums paid for
these policies—$6.5 million—and (ii) either (a) the current
cash-surrender values of the policies upon the death of the
last surviving insured or (b) or the cash-surrender values
of the policies on the date that they were terminated, if
they were terminated before both insureds died.
It was very important, if this deal was to work, that the Insurance Trust
and not the Revocable Trust own the policies. The recitals in the
arrangements state that the parties do not intend to convey to Levine or
the Revocable Trust any “right, power or duty that is an incident in
ownership . . . as such is defined under Section[s] 2035 and 2042” in the
life-insurance policies at the time of Levine’s death. They also state that
neither the Insurance Trust, nor its beneficiaries, nor the insureds—
Nancy and Larry—would have access to any current or future interest
in the cash value of the insurance policies.
We also specifically find that only the Insurance Trust—and that
means Larson—had the right to terminate the arrangements. There
were two split-dollar arrangements, one for each insurance company.
Paragraph 6 from both arrangements controlled the right to terminate
the arrangements:
The Insurance Trust shall have the sole right to surrender
or cancel the Policy during the lifetime of either insured.
In addition the Insurance Trust may terminate this
Agreement in a writing delivered to the other party,
effective upon the date set forth in such writing.
If the Insurance Trust did terminate the Agreement, however, it
would get nothing:
The Revocable Trust shall have the unqualified right to
receive the total amount payable upon such surrender or
18
cancellation of this Policy, or upon termination by notice
from the Insurance Trust, and the Insurance Trust shall
not have access to, or any current or future interest in, the
Cash Value. Upon such payment of said funds to, and
receipt of said funds by, the Revocable Trust, this
Agreement shall terminate.
With the split-dollar deal done, Swanson had finished hammering
into place the paper armor he had designed to protect as many of
Levine’s assets from tax as he legally could. He was just in time; within
months, Levine’s physical and mental health began to deteriorate more
rapidly. She became more forgetful and began to not recognize her
family and friends. At the start of 2009, she became bedridden. On
January 22 she died.
C. Tax Reporting
Everyone involved knew that Levine, through her Revocable
Trust, had given away some of her property to the Insurance Trust and
its beneficiaries—they knew, in other words, that the value of the money
the Revocable Trust would get years later wasn’t equal to the $6.5
million it had given to the Insurance Trust for it to buy the insurance
policies on Nancy and her husband. They knew that this was a taxable
gift. Swanson prepared gift-tax returns for 2008 and 2009. Larson and
Nancy signed these returns in their capacities as Levine’s attorneys-in-
fact. Each Form 709, United States Gift (and Generation-Skipping
Transfer) Tax Return, reported the value of the gift as the economic
benefit transferred from the Revocable Trust to the Insurance Trust.
Gifts of valuable property for which the donor receives less valuable
property in return are called “bargain sales.” See Estate of Bullard v.
Commissioner, 87 T.C. 261, 265 (1986). And the value of gifts made in
bargain sales is usually measured as the difference between the fair
market value of what is given and what is received. Id. at 270–71. Not
so here. The Secretary, for whatever reason, has issued regulations that
provide a different measure of value when split-dollar life insurance is
involved. See Treas. Reg. § 1.61-22(d)(2). The number Larson and
Nancy came up with after applying the valuation rules in the
regulations was $2,644. See Treas. Reg. § 25.2512-1.
Everyone involved also knew that the promise of the Insurance
Trust to pay the Revocable Trust some amount sometime in the future
was also valuable. It had to be reported on the Levine’s estate-tax
return. And on Levine’s Schedule G, Transfers During Decedent’s Life,
19
of the Form 706, United States Estate (and Generation-Skipping
Transfer) Tax Return, the value of the split-dollar receivable, as owned
by the Revocable Trust on the alternate valuation date, was reported as
an asset worth about $2 million. 17
IV. Audit and Trial
This shift of money from the Revocable Trust for the purchase of
the life-insurance policies that benefited the Insurance Trust caught the
IRS’s attention. The Commissioner issued his challenge, and the joust
between the IRS and the Estate began. The Commissioner noticed two
things in particular. The first was the small amount—only $2,644—that
Levine reported as the gift that her Revocable Trust had made to the
Insurance Trust. The second was that the Insurance Trust had
promised to pay the Revocable Trust the greater of $6.5 million or the
policies’ cash surrender value at either the death of both Nancy and her
husband or upon termination of the policies. At the time of Levine’s
death, this value was close to $6.2 million, and the Commissioner
suspected there was no insurmountable hurdle to the Insurance Trust’s
terminating the policies well before Nancy and her husband both died.
This would mean that the Insurance Trust and Levine’s descendants, as
beneficiaries of the Revocable Trust, had ready access to $6.2 million,
not just the $2.1 million + $2,644 that was reported on the estate and
gift-tax returns.
The Commissioner assigned as his champion estate-and-gift-tax
attorney Scott Ratke. Ratke conducted an extensive audit, and in the
end the Commissioner issued a notice of deficiency to the Estate for
slightly more than $3 million. This reflected several adjustments, but
his adjustment to the value of Levine’s rights under the split-dollar
arrangement was by far the biggest. He also determined that the Estate
was liable for a 40% gross-misvaluation penalty under section 6662(h)
because the value that it had reported for the split-dollar receivable was
way too low. Ratke prepared a penalty-approval form for this penalty,
which was signed by his immediate supervisor at the time—Nicole
Bard—before the notices of deficiency were sent. 18
17 The parties later stipulated that the fair market value of the split-dollar
receivable, if the Estate prevails, is a bit higher—$2,282,195.
18 The Commissioner also issued a notice of deficiency for Levine’s 2008 gift-
tax return. Levine’s estate challenged this as well, and we consolidated the cases. We
20
Counsel for the parties worked together to narrow the issues so
their combat could be confined to a small tilt and not become a general
melee. Three stipulations settled most issues. Only two remain:
• Was the value of the split-dollar receivable in Levine’s
estate on the alternative valuation date $2,282,195, or the
policies’ cash-surrender value of $6,153,478; and
• Is any resulting underpayment subject to the 40% gross-
misvaluation penalty under section 6662(h). 19
The parties have also stipulated that this case is appealable to the
Eighth Circuit. See § 7482(b)(2).
Discussion
I. Split Dollar Life Insurance
Split-dollar life-insurance deals began as a form of employment
compensation. Employers wanted to pay the premiums on life insurance
for their employees, keep an interest in the insurance policy’s cash value
and death proceeds, and pass on to the employee—or the employee’s
designated beneficiary—any remaining death benefit. See De Los
Santos v. Commissioner, T.C. Memo. 2018-155, 116 T.C.M. (CCH) 304,
306. (The “split” in “split-dollar” refers to this division of the insurance
proceeds between the insured and the person or entity that paid the
premium.) In 1964, the IRS issued Revenue Ruling 64-328, 1964-2 C.B.
11, revoking Rev. Rul. 55-713, 1955-2 C.B. 23, in which it announced
that it would include the death-benefit portion of a life-insurance policy
in a recipient’s income because it was an economic benefit. Tax planners
and professionals began to devise different variations of these sorts of
then issued our opinion in Estate of Morrissette v. Commissioner (Morrissette I), 146
T.C. 171 (2016). Both the Estate and the Commissioner agreed that Morrissette I
required us to enter judgment against the Commissioner in the gift-tax case. We then
severed the cases. The decision in the gift-tax case—that there was no deficiency
despite the remarkably low value of the gift—has long since become final and
unappealable.
19 There was one additional issue that the parties did not settle—whether the
Estate was entitled to a $1 million charitable contribution to the George and Marion
Levine Foundation. That contribution has not yet been made, but the parties
stipulated that this deduction will be allowable once the Estate provides proof of
payment. The Estate intends to make this charitable contribution once we enter a
decision.
21
plans, and split-dollar arrangements eventually moved beyond the
employment field.
They became a tool for estate planners who aimed to remove
death benefits from their clients’ taxable estates—or at least defer
payment of any tax owed. What makes this attractive are some unusual
advantages that the Code gives to buyers of life insurance—especially
on what is called “inside buildup.” An insurance company can sell a
policy with premiums much larger than one would pay for term
insurance. This money can go to work for the policyholder or her
beneficiaries and “build up” as long as the policy remains in effect. It
can make for a much larger death benefit or a substantial cash
surrender value. Details quickly become very complicated, but it
suffices here to characterize these policies as a form of tax-advantaged
savings. Unlike income earned on other savings accounts–such as bank
CDs or mutual funds—inside buildup is not taxed under section 72(e) as
it accrues. It is eventually taxed when it is distributed to the policy
holders, id., but that can be a long time into the future, and all other
things being equal, tax tomorrow is better than tax today. And tax
decades from now is better still.
Over the years, the IRS provided limited guidance on the taxation
of split-dollar life-insurance arrangements, mostly in the form of notices
and revenue rulings. 20 That all changed when the Treasury Department
issued final regulations in 2003. These govern all split-dollar
arrangements entered into or materially modified after September 17,
2003. Treas. Reg. § 1.61-22. The final regulations broadly define a split-
dollar life-insurance arrangement between an owner and a nonowner of
a life-insurance contract in which:
• either party to the arrangement pays, directly or indirectly,
all or a portion of the premiums;
• the party making the premium payments is entitled to
recover all or a portion of those premium payments, and
repayment is to be made from or secured by the insurance
proceeds; and
20 William L. Raby & Burgess J.W. Raby, The Split-Dollar life Insurance
Regimes, 94 Tax Notes 353 (2002); Sherwin P. Simmons, Economic Benefit Under A
Split Dollar Arrangement, 1 Tax Prac. & Controv. 550 (Mar. 21, 1994).
22
• the arrangement is not part of a group-term life insurance
plan (other than one providing permanent benefits).
Id. para. (b)(1)
The split-dollar arrangement in this case meets these specific
requirements. After defining what a split-dollar arrangement is, the
final regulations create two different and mutually exclusive regulatory
regimes—called the “economic benefit regime” and the “loan regime”—
that govern the income- and gift-tax consequences of split-dollar
arrangements. Which regime a particular arrangement falls under
depends on who “owns” the life-insurance policy at issue. Id. subpara.
(3)(i). The general rule is that the person named as the owner is the
owner. Id. para. (c)(1). Nonowners are any person other than the owner
who has a direct or indirect interest in the contract. Id. subpara. (2).
Under this general rule, the Insurance Trust would be the owner of the
policies here, and the loan-regime rules would apply.
But there is an exception to this general rule. If the only right or
economic benefit provided to the donee under a split-dollar life-
insurance arrangement is an interest in current life-insurance
protection, then the regulations tell us to ignore the formal ownership
designation and treat the donor as the owner of the contract. This is the
economic-benefit regime. Id. subpara. (1)(ii)(A)(2). So there’s at least a
threshold question here about whether the Insurance Trust received any
economic benefit in addition to current life-insurance protection.
On this we have precedent. In Morrissette I, we held that a split-
dollar arrangement much like this one fell under the economic-benefit
regime for gift-tax purposes. But we also noted in Morrissette I, 146 T.C.
at 172 n.2, that “we [were] not deciding whether the estate’s valuation
of the receivables . . . in the gross estate [was] correct.” And section
1.61-22(a)(1) seems not to cover the estate-tax consequences of split-
dollar arrangements at all. 21 The final regulations do make one
reference to estate tax in their preamble, which states “[f]or estate tax
21 Treasury Regulation § 1.61-22(a)(1) states:
This section provides rules for the taxation of a split-dollar life
insurance arrangement for purposes of the income tax, the gift tax, the
Federal Insurance Contributions Act (FICA), the Federal
Unemployment Tax Act (FUTA), the Railroad Retirement Tax Act
(RRTA), and the Self-Employment Contributions Act of 1954 (SECA).
(Emphasis added.)
23
purposes, regardless of who is treated as the owner of a life insurance
contract under the final regulations, the inclusion of the policy proceeds
in a decedent’s gross estate will continue to be determined under section
2042.” T.D. 9092, § 5, 2003-2 C.B. 1055, 1063. But the express terms of
section 2042 limit its applicability to life-insurance policies on a
decedent’s own life, not split-dollar arrangements where policies are
taken out on the lives of others. See § 2042(1); Treas. Reg. § 20.2042-
1(a)(2) (“[S]ection 2042 has no application to the inclusion in the gross
estate of the value of rights in an insurance policy on the life of a person
other than the decedent”). From this we conclude that neither the
regulation nor section 2042 governs our valuation of the split-dollar
arrangement we have to analyze.
II. Estate Tax Generally
That leaves us to look to the default rules of the Code’s estate-tax
provisions to figure out how to account for the effect of this split-dollar
arrangement on the gross value of this estate. The Code defines a
taxable estate as the value of a decedent’s gross estate minus applicable
deductions. § 2051. A decedent’s gross estate includes the value of any
property that a decedent had an interest in at the time of her death.
§ 2033. Some taxpayers reduce their estate-tax liability by making inter
vivos transfers several years before death 22 and pay a usually smaller
tax on the transfer. 23 § 2501(a). Sections 2034 through 2045 tell us
what other property to include in an estate.
Among these sections is section 2036, which generally includes in
a decedent’s taxable estate the value of property that she transfers if,
after the transfer, she kept either possession or the right to income from
the property; or even if she kept a right—either alone or in conjunction
with another—to designate who would receive possession of that
property or its income. Section 2038 generally claws back into a
decedent’s estate the value of property that she transferred in which she
retained an interest or right—either alone or in conjunction with
another—to alter, amend, revoke, or terminate the transferee’s
enjoyment of the transferred property. Both sections 2036 and 2038
22To reduce her estate-tax liability, a decedent must give property away more
than three years before her death. If she doesn’t, any tax paid on the gift must be
added to her estate. § 2035(b).
23 Usually, but not always. Federal gift-and-estate-tax law allows a credit that
reduces the tax on gifts made while the donor is alive; and if it’s not used up, it can
reduce the estate tax. § 2505(a).
24
include an exception for transfers that are “a bona fide sale for an
adequate and full consideration in money or money’s worth.” §§ 2036(a),
2038(a)(1).
Section 2703 also tells us how to value property for gift, estate,
and generation-skipping-transfer tax purposes. It states that under
certain circumstances property must be valued without regard to any
right or restriction relating to the property that would result in the
property’s being valued at less than its fair market value. See § 2703(a).
The Estate asserts that the only asset from the split-dollar
arrangement that Levine’s Revocable Trust owned at the time of her
death was the split-dollar receivable. In its view, Levine did not own, or
have any other interest in, the life-insurance policies because those
policies were owned by the Insurance Trust. And, as the Estate also
points out, the value of that receivable is a number that the parties have
stipulated. See supra note 17.
In the Commissioner’s view, this entire transaction was merely a
scheme to reduce Levine’s potential estate-tax liability and, if it was a
sale, it was not bona fide because it lacked any legitimate business
purpose. He argues that the Estate should have reported on its return
the cash-surrender values of the life-insurance policies, not the value of
the receivable. He reasons that:
• under section 2036 Levine retained the right to income—
or the right to designate who would possess the income—
from the split-dollar arrangement, and
• under section 2038 she maintained the power to alter,
amend, revoke, or terminate the enjoyment of aspects of
the split-dollar arrangement,
• even if the full values of the life-insurance policies are not
includible in Levine’s estate under section 2036 or 2038,
the restrictions in the split-dollar arrangement should be
disregarded under the special valuation rules provided in
section 2703, which would force the Estate to include in its
taxable value the full cash-surrender values of the policies.
25
III. Sections 2036 and 2038: What Rights Were Transferred and
Retained
We look first at what rights the Estate, through the Revocable
Trust, transferred and what rights it retained. We agree with the
Commissioner that the two snippets of the Code that we have to decrypt
here are sections 2036 and 2038.
Section 2036(a) is a catchall designed to prevent a taxpayer from
avoiding estate tax simply by transferring assets before she dies.
Strangi v. Commissioner, 417 F.3d 468, 476 (5th Cir. 2005), aff’g Estate
of Strangi v. Commissioner, T.C. Memo. 2003-145, 85 T.C.M. (CCH)
1331; Estate of Bigelow v. Commissioner, 503 F.3d 955, 963 (9th Cir.
2007), aff’g T.C.M. (RIA) 2005-065; Estate of Thompson v.
Commissioner, 382 F.3d 367, 375 (3d Cir. 2004), aff’g 84 T.C.M. (CCH)
374 (2002). It states:
Sec. 2036(a). General rule.—The value of the gross estate
shall include the value of all property to the extent of any
interest therein of which the decedent has at any time
made a transfer (except in case of a bona fide sale for an
adequate and full consideration in money or money’s
worth), by trust or otherwise, under which he has retained
for his life or for any period not ascertainable without
reference to his death or for any period which does not in
fact end before his death—
(1) the possession or enjoyment of, or the right
to the income from, the property, or
(2) the right, either alone or in conjunction
with any person, to designate the persons who shall
possess or enjoy the property or the income
therefrom.
(Emphasis added.) Section 2038 also speaks of transferred “property”,
and includes in the gross value of an estate all property
[t]o the extent of any interest therein of which the decedent
has at any time made a transfer (except in case of a bona
fide sale for an adequate and full consideration in money
or money’s worth), by trust or otherwise, where the
enjoyment thereof was subject at the date of his death to
any change through the exercise of a power (in whatever
26
capacity exercisable) by the decedent alone or by the
decedent in conjunction with any other person (without
regard to when or from what source the decedent acquired
such power), to alter, amend, revoke, or terminate, or
where any such power is relinquished during the 3 year
period ending on the date of the decedent’s death.
(Emphases added.)
The Estate argues that:
• it made no transfer of its property that could trigger these
sections,
• it retained no interest in the property that it did transfer,
and in any event,
• the bona fide sale for adequate and full consideration
exemption applies.
We will take these arguments in order.
A. What Was “Transferred”?
Cases tell us to define “transfer” broadly. Estate of Bongard v.
Commissioner, 124 T.C. 95, 113 (2005); Estate of Jorgensen v.
Commissioner, T.C. Memo. 2009-66, 97 T.C.M. (CCH) 1328, 1333, aff’d,
431 F. App’x 544 (9th Cir. 2011). “A section 2036(a) transfer includes
any inter vivos voluntary act of transferring property.” Estate of
Jorgensen, 97 T.C.M. (CCH) at 1333 (citing Estate of Bongard, 124 T.C.
at 113). Section 2038’s scope likewise imposes “a broad scheme.” Estate
of Morrissette v. Commissioner (Morrissette II), T.C. Memo. 2021-60,
at *66, 121 T.C.M. (CCH) 1447 (quoting Guynn v. United States, 437
F.2d 1148, 1150 (4th Cir. 1971)).
But what property? Here the parties disagree. Is the property
we look at the policies themselves? Is it the rights under the split-dollar
arrangement to receive the greater of $6.5 million or the cash-surrender
values of those policies? Or is it simply the $6.5 million in cash wired to
the Insurance Trust from Levine’s assets before she died?
We find that the “property” at issue cannot be the life-insurance
policies, as these policies have always been owned by the Insurance
Trust. The split-dollar transaction was structured so that the $6.5
27
million was paid by the Revocable Trust in exchange for the split-dollar
receivable. It was the Insurance Trust that bought the policies and held
them. These policies were never owned by the Revocable Trust, and
there was no “transfer” of these policies from the Revocable Trust to the
Insurance Trust.
The “property” is also not the receivable itself. That property
belonged to the Revocable Trust and now it belongs to the Estate. It
wasn’t “transferred”; it was retained.
That leaves the $6.5 million that Levine sent to the Insurance
Trust from her assets that the Insurance Trust used to pay for the
insurance policies. And we do find that through her attorneys-in-fact
Levine made a voluntary inter vivos transfer within the meaning of
sections 2036(a) and 2038 when she wired $6.5 million to the life-
insurance companies.
From the Commissioner’s perspective, this is much too
abbreviated an analysis. Don’t look at the money or the policies or the
receivable, he argues. Look for that right to unlock the cash-surrender
values of those policies. To be sure, those values may be defined by the
terms of the life-insurance policies and thus defined by an arrangement
between the Insurance Trust and the insurance companies in property
that the Estate did not itself transfer; but does the right of the Revocable
Trust (and now the Estate) under the split-dollar arrangement to receive
those cash-surrender values not somehow make them includible in the
Estate’s gross value?
Perhaps it might make sense, were this our first pass at the
target, to more simply analyze the problem. We might just ask whether
an estate that holds a split-dollar receivable has a right to a policy’s cash
surrender value in its gross value directly—to ask first whether an
estate has such a right and, if so, what its value is as of the date of
death. 24 But our approach as it has evolved instead elides the questions
of whether this right was retained when the property creating it was
transferred and whether it might somehow be exercised by the estate.
B. Were Rights Retained?
Section 2036’s regulations tell us that “[a]n interest or right is
treated as having been retained or reserved if at the time of the transfer
24 Remember that an estate’s gross value is “the value at the time of . . . death
of all property, real or personal, tangible or intangible, wherever situated.” § 2031(a).
28
there was an understanding, express or implied, that the interest or
right would later be conferred.” Treas. Reg. § 20.2036-1(c)(1)(i). The
use, possession, enjoyment, right to income, or other enjoyment of
property is considered having been retained or reserved “to the extent
that the use, possession, right to the income, or other enjoyment is to be
applied towards the discharge of a legal obligation of the decedent, or
otherwise for his pecuniary benefit.” Id. para. (b)(2).
If we are right that the only property that Levine transferred was
cash, then our analysis under section 2036 would seem to be easy—she
retained no “interest” in that cash. But she did get something in
return—the split-dollar receivable created and defined by the split-
dollar arrangements. The receivable gave her the right to the greater of
$6.5 million or the cash-surrender values of the policies. Under the
terms of the split-dollar arrangements, however, Levine did not have an
immediate right to this cash-surrender value. She (or her estate) had to
wait until the deaths of both Nancy and Larry, or the termination of the
policies according to their terms. Here we find what could be a very
important difference between the split-dollar arrangements here and
those analyzed in Estate of Cahill and Morrissette II. In Levine’s case,
the split-dollar arrangements between the Revocable Trust and the
Insurance Trust expressly stated that only the Insurance Trust had the
right to terminate the arrangement.
The split-dollar arrangements we analyzed in Morrissette II and
Estate of Cahill were different. Look at the language in those
arrangements. In Morrissette II:
The Donor and the Trust may mutually agree to terminate
this agreement by providing written notice to the Insurer,
but in no event shall either the Donor or the Trust possess
the unilateral right to terminate this Agreement.
And in Estate of Cahill:
This Agreement may be terminated during the Insured’s
lifetime only by written agreement of the Donor and the
Donee acting unanimously. Such termination shall be
effective as of the date set forth in such termination
agreement.
This difference matters. Unlike what we saw in Morrissette II
and Estate of Cahill, we see here a carefully drafted arrangement that
expressly gives the power to terminate only to the Insurance Trust. It
29
gave Levine herself no unilateral power to terminate the policies and no
language like that in the arrangement at issue in Estate of Cahill or
Morrissette II that gave her that right acting in conjunction with the
Insurance Trust. See supra pp. 16–17. By requiring both parties’
approval, the arrangements that we analyzed in Morrissette II and
Estate of Cahill necessarily required each decedent’s approval to
terminate the arrangement. The opposite is true here, where only the
Insurance Trust could terminate the arrangement. Without any
contractual right to terminate the policies, we can’t say that Levine had
any sort of possession or rights to their cash-surrender values. If the
contest between the Estate and the Commissioner were confined to the
tiltyard defined by the transactional documents, we would have to
conclude that sections 2036(a) and 2038 do not tell us to include the
polices’ cash surrender values in the Estate’s gross value.
The Commissioner, however, tries to unhorse the Estate’s
argument with the pointed assertion that we should look at the
transaction as a whole to get a clear picture of where each party stands
and its role in the transaction. And that is exactly what we will do. We’ll
do it in two ways. We will question whether our review of the rights
that any decedent might keep in a split-dollar arrangement really
should be defined by the documents alone. Then we will look carefully
to the particular circumstances of this transaction to see whether, as a
practical matter on the facts of this case, Levine kept a right to the cash-
surrender values of the policies bought by the Insurance Trust.
First to the law—should it make a difference whether the
transactional documents in a split-dollar arrangement put the
unilateral right to unwind the transaction onto the donee rather than
split it between the donor and donee? First-year law students almost
all learn that a black-letter rule of contract law is that the parties to a
contract are free to modify it. See Joseph M. Perillo, Contracts (7th ed.
2014). The Commissioner would surely have a strong argument that
this implicit power of parties to a contract is a “right, either alone or in
conjunction with any person, to designate the persons who shall possess
or enjoy the property or the income therefrom.” § 2036(a)(2).
The Commissioner’s first pass at the Estate in this part of their
joust would thus be something like this: The Estate is a party to the
split-dollar arrangement with the Insurance Trust. The insurance
policies belong to the Insurance Trust. But the policies’ cash-surrender
values are a form of income from that property. The right to the cash-
surrender values belongs to the Revocable Trust (and thus the Estate)
30
if the split-dollar arrangements are terminated. The arrangement may
say that only the Insurance Trust has the power to terminate the deal
and hand over that income to the Estate, but general principles of
contract law allow the Estate to modify any term of the arrangements
in conjunction with the Insurance Trust.
The language of section 2036(a)(2) is broad—it uses the word
“right” without a modifier like “contract” or “instrument creating the.”
So why shouldn’t we construe that word to include background rights
like the right to modify a contract? And, if so, wouldn’t the cash-
surrender values of the insurance policies be either a “right to the
income” from that property, § 2036(a)(1), or a right that could be
exercised in “conjunction with” another to the income from that
property, §§ 2036(a)(2), 2038(a)(1)?
The problem for the Commissioner is Helvering v. Helmholz, 296
U.S. 93 (1935), a case about revocable transfers. Helmholz was a
widower, whose wife had named him her sole heir. Id. at 96. While she
was alive, she settled valuable stock in a privately held corporation into
a trust. Id. at 94. Her brothers and sisters and her parents were the
other shareholders, and the trust corpus was destined for later
descendants or, if her family line died out, to charity. Id.But her will left everything she owned at death to her husband.
Id. at 96. The Commissioner argued that settlors of a trust may, with
the consent of its beneficiaries, terminate the trust and restore the
contributed property to the settlors. Id. at 97. Is this not, the
Commissioner argued (and here the quote is from the slightly different
language of the Code’s equivalent of section 2038 back then) “a power,
either by the decedent alone or in conjunction with any person, to alter,
amend, or revoke” a transfer of property? Id. at 96.
A persnickety textualist might quickly respond that it was. But
the Supreme Court looked at the text of the trust agreement itself. That
language had express provisions for the trust’s termination—the death
of the last surviving grandchild in the family, the written agreement of
all the beneficiaries, a resolution by the directors of the family’s
corporation, or the corporation’s liquidation. Id. at 97. The Court
characterized these express provisions for the termination of the trust
as typical of “every welldrawn instrument.” Id. at 96. The Court
acknowledged that it was true that “a writing might have been executed
by Mrs. Helmholz and her cobeneficiaries while she was alive, with the
31
effect of revesting in her the shares which she had delivered into the
trust.” Id. at 97. But it held that
[t]his argument overlooks the essential difference between
a power to revoke, alter or amend, and a condition which
the law imposes. The general rule is that all parties in
interest may terminate the trust. The clause in question
added nothing to the rights which the law conferred.
Congress cannot tax as a transfer intended to take effect in
possession or enjoyment at the death of the settlor a trust
created in a state whose law permits all the beneficiaries
to terminate the trust.
Id. (emphasis added) (footnote omitted).
A more recent case that addresses the same problem is Estate of
Tully v. United States, 528 F.2d 1401 (Ct. Cl. 1976). Tully owned half
the stock in a private corporation. Id. at 1402. He and his partner
reached an agreement long before his death that their company would
pay a large death benefit to each of their widows. Id. Tully died, and
the government argued that the death benefit owed his widow from the
corporation had to be included in his estate. Id. There was nothing in
the instrument that created the benefit that gave Tully himself any
interest in it at the date of death, but the government noted that he
continued to own half his company till the day he died. Id. at 1403. It
reasoned that this meant that he had the power, acting with his partner,
to do anything he wanted with corporate assets, and maybe he could
have persuaded his partner to change the death benefit at any time. Id.
Nice try, held the Court of Claims. A power to “alter, amend,
revoke or terminate” would trigger inclusion in an estate, but that kind
of power “does not extend to powers of persuasion.” Id. at 1404. To be
included within the Code’s sweep, a power has to be in the instrument
itself, not a speculative possibility allowed by general principles of law.
A broader reading—that a power to amend an instrument in conjunction
with others includes all speculative possibilities—“would sweep all
employee death benefit plans into the gross estates of employees.” Id.
at 1405.
We encountered a somewhat similar argument in conservation-
easement cases. Congress enacted a Code section to allow a deduction
for such easements if done properly. One requirement of a proper
easement is that it preserve land in perpetuity. But remember that the
32
parties to a contract can modify its terms, and easements are a kind of
contract. We rejected the Commissioner’s argument that a power to
amend means that the parties might amend it so as to destroy
perpetuity, which means that the easement wasn’t perpetual. We
disagreed: “Generally speaking, the parties to a contract are free to
amend it, whether or not they explicitly reserve the right to do so. . . .
Respondent’s argument would apparently prevent the donor of any
easement from qualifying for a charitable contribution deduction under
section 170(h) if the easement permitted amendments.” Pine Mountain
Pres. LLLP v. Commissioner, 151 T.C. 247, 282 (2018), rev’d in part, aff’d
in part, vacated and remanded, 978 F.3d 1200 (11th Cir. 2020).
We therefore agree with Helmholz and Estate of Tully that
general default rules of contract—rules that might theoretically allow
modification of just about any contract in ways that would benefit the
IRS—are not what’s meant in phrases like section 2036’s “right, either
alone or in conjunction with any person, to designate the persons who
shall possess or enjoy the property or the income therefrom,” or section
2038’s “power . . . by the decedent alone or by the decedent in
conjunction with any other person (without regard to when or from what
source the decedent acquired such power).” What’s meant are rights or
powers created by specific instruments. A more extensive reading, as
the old Court of Claims noted in Estate of Tully, would swing a broadax
to fell large swaths of estate and retirement planning that Congress
meant to allow to stand.
We therefore conclude that the Commissioner doesn’t win as a
matter of law here.
But we do think he’s correct that we also must avoid being so
blinded by any formal gleam from the Estate’s armor that we overlook
some practical chinks that deals like this may have: Can the
Commissioner dismount from purely legal or theoretical arguments and
start wielding shorter, sharper weapons forged from the particular facts
of particular cases?
The Commissioner thinks he can, and would have us focus on our
holdings in Estate of Strangi, 85 T.C.M. (CCH) 1331, and Estate of
Powell v. Commissioner, 148 T.C. 392 (2017), cases in which we
concluded that section 2036(a)(2) clawed value back into a decedent’s
taxable estate despite the drafting skills of talented estate lawyers. In
both Estate of Strangi and Estate of Powell we distinguished the
33
Supreme Court’s opinion in United States v. Byrum, 408 U.S. 125 (1972),
in which an estate won, so we can begin by summarizing that case.
In Byrum, the Supreme Court held that a decedent’s right to vote
shares of stock in three corporations that he had transferred to a trust
for the benefit of his children did not cause those shares to be included
in his estate under section 2036(a)(2). The Court noted that any powers
the decedent might have had were subject to a number of different
“economic and legal constraints” that prevented those powers from being
equivalent to the right to designate a person to enjoy trust income. Id.
at 144. One of these constraints was that the decedent, as the
controlling shareholder of each corporation whose stock was transferred
into the trust, owed fiduciary duties to minority shareholders that
limited his influence over the corporations’ dividend policies. Id.at 142–43. The Supreme Court also noted that an independent
corporate trustee alone had the right under the trust agreement to pay
out or withhold income, id. at 137, so the decedent had no way of
compelling the trustee to pay out or accumulate that income, id. at 144.
That the decedent had fiduciary duties to these minority shareholders—
duties that were legally enforceable—was important to the Supreme
Court’s analysis. Id. at 141–42.
We have been careful to distinguish Byrum in later cases when
we see something behind a transaction’s facade that suggests
appearance doesn’t match reality. Estate of Strangi, 85 T.C.M. (CCH)
at 1333–34, featured a decedent who could act with others to dissolve a
family limited partnership to which he had transferred property in
exchange for a 99% limited-partner interest. The decedent in Estate of
Strangi—through his son-in-law—also had the right to determine the
amount and timing of partnership distributions. Id. at 1337. This led
us to distinguish Byrum, because in Byrum the son-in-law had fiduciary
duties to other members of the family limited partnership; in Estate of
Strangi, the son-in-law’s potential fiduciary duties—as the decedent’s
attorney-in-fact and 99% owner of the family limited partnership—were
duties he owed “essentially to himself.” Id. at 1343.
We decided Estate of Powell on essentially the same grounds as
Estate of Strangi. In Estate of Powell, 148 T.C. at 394–95, a fiduciary
also owed duties to the decedent both as his attorney-in-fact and as
partner in a family limited partnership. We found that there was
nothing in the record of that case to suggest that as a fiduciary he “would
have exercised his responsibility as a general partner of [the family
limited partnership] in ways that would have prejudiced decedent’s
34
interests.” Id. at 404. And we again determined that whatever duties
were owed were duties that “he owed almost exclusively to decedent
herself.” Id.
Here’s where the Commissioner makes his thrust. He contends
that Levine—through her attorneys-in-fact—stood on both sides of these
transactions and therefore could unwind the split-dollar transactions at
will. This meant that she—again through the attorneys-in-fact—had
the power to surrender the policies at any time for their cash-surrender
values. (Remember that, under the terms of the split-dollar
arrangements, if the Insurance Trust surrendered the policies before the
deaths of both Nancy and her husband, it would immediately owe the
Revocable Trust the full cash-surrender values of the policies.) The
Commissioner argues that these powers constitute the right to
possession and enjoyment of, or the right to income from, the split-dollar
receivable under section 2036(a)(1). If he’s right, we would have to value
the receivable at the policies’ cash-surrender values.
We agree that Robert, Nancy, and Larson—as Levine’s attorneys-
in-fact—stood in the shoes of Levine for this split-dollar arrangement.
That is the point of giving someone a power of attorney. The Revocable
Trust is the entity that paid the $6.5 million, and its cotrustees are
Nancy, Larry, and Larson. The Insurance Trust, however, owns the life-
insurance policies, and its trustee is South Dakota Trust. South Dakota
Trust is directed by the investment committee, and the investment
committee’s only member is Larson. This, however, means that the only
person that stood on both sides of the transaction is Larson—in his role
as the investment committee and as one of Levine’s attorneys-in-fact.
We therefore must look at each of Larson’s roles in this
transaction to consider how to apply sections 2036(a) and 2038. Under
the 1996 power of attorney and Minnesota law, all actions taken by
Larson as an attorney-in-fact are considered to be actions of Levine. See
Minn. Stat. § 523.12 (2008). 25 The Insurance Trust’s instrument,
however, states that the Insurance Trust is irrevocable. We have no
reason to doubt that this means what it says. And the consequence is
that Levine irrevocably surrendered her interest in the Insurance Trust
and had no right to change, modify, amend, or revoke its terms. Once it
25 The Minnesota statute states: “Any action taken by the attorney-in-fact
pursuant to the power-of-attorney binds the principal, the principal’s heirs and
assigns, and the representative of the estate of the principal in the same manner as
though the action was taken by the principal . . . .” (Emphasis added.)
35
was created, Levine had no legal power over its assets. Levine did not
have the power to surrender the policies by herself. Since Larson—in
his role as an attorney-in-fact—could not take any action which Levine
could not take herself, we find that he could not surrender the policies
in his capacity as attorney-in-fact. This means that even if we treat the
Insurance Trust, the policies, or that Trust’s rights under the split-dollar
deal as the “property transferred” (and thus the property whose value
we look for) under section 2036, Levine did not retain any right to
possession or enjoyment of the property transferred.
To get around these problems, the Commissioner has to argue
that Larson has the right to designate who shall possess or enjoy the
cash-surrender value of the policies, either by surrendering them or by
terminating the entire arrangement. See Estate of Cahill, 115 T.C.M.
(CCH) at 1467. For example, in Estate of Cahill, we found that section
2036(a)(2) applied when the decedent jointly held the right to terminate
the split-dollar life-insurance policy with the irrevocable trust that held
the policies. Id. We think that’s the only way the Commissioner can
include the combined cash-surrender values of the life-insurance
policies in Levine’s estate under section 2036(a)(2) or section 2038.
But we also think that this argument fails to consider the
fiduciary obligations Larson owes to the beneficiaries of the Insurance
Trust—obligations that would prevent him from surrendering the
policies. The Commissioner first questions the validity and existence of
these duties. He notes that “Larson was not compensated for his role as
the sole member of the Investment Committee despite the fact that
petitioner has taken the position that he assumed significant fiduciary
responsibilities under this role.” But we don’t think that matters. There
is no requirement under either South Dakota law 26 or general trust
26 S.D. Codified Laws § 55-1B-4 (2008) provides:
If one or more trust advisors are given authority by terms of the
governing instrument to direct, consent to, or disapprove a fiduciary’s
investment decisions, or proposed investment decisions, such trust
advisors shall be considered to be fiduciaries when exercising such
authority unless the governing instrument provides otherwise.”
(Emphasis added).
And S.D. Codified Laws § 55-2-1 (2008) provides that “[i]n all matters
connected with his trust a trustee is bound to act in the highest good faith toward his
beneficiary . . . .”
36
law 27 that a trustee or trust adviser be compensated to have fiduciary
obligations. The terms of the Insurance Trust expressly state that
Larson—in his role as the single-member investment committee—shall
be considered to be acting in a fiduciary capacity. Therefore we do find
that Larson was under fiduciary obligations in his role as the sole
member of the investment committee.
Larson’s duties in his role for the Insurance Trust required him,
however, to look out for the interests of that Trust’s beneficiaries. And
here is where the Commissioner makes a different and subtler
argument. He contends that, since Nancy and Robert are beneficiaries
of the Insurance Trust, they stand to benefit under the split-dollar
arrangement regardless of whether the life-insurance policies remain in
place or are surrendered during their lifetime. This means, he says, that
Larson would not violate his fiduciary duties to the beneficiaries of the
Insurance Trust if he either surrendered, or didn’t surrender, the
policies because Nancy and Robert would benefit no matter what. If
Larson immediately terminated the split-dollar arrangement,
surrendered the policies, and sent the money out of the Insurance Trust
to the Estate and then to Levine’s children, he’d just be benefiting the
children in a different capacity.
To this subtle thrust, the Estate has a blunt parry: Levine’s
children are not the only beneficiaries under the Insurance Trust. Her
grandchildren are also beneficiaries, and Larson has fiduciary
obligations to them as well. According to the terms of the Insurance
Trust, Levine’s grandchildren would receive nothing if the life-insurance
policies were surrendered. Left unmentioned is the final step in this
argument—that Larson has no right to violate his fiduciary obligations
by looting the Insurance Trust for the benefit of only some of its
beneficiaries.
The Commissioner counters by arguing that the Insurance Trust
itself allows Nancy and Robert to extinguish their children’s interests in
it. This means, he says, that Nancy and Robert are the only real
beneficiaries, and stand to benefit regardless of whether the life-
insurance policies stay in effect.
27 Restatement (Third) of Trusts § 70, cmt. d(1) (Am. L. Inst. 2007) states that
“[w]hether or not a person receives compensation for serving as trustee, the person is
subject to a duty to administer the trust in accordance with its terms . . . with prudence
. . . and in good faith and conformity with other fiduciary duties referred to in
Clause (b).”
37
This misinterprets the way that “extinguishment” works under
the provisions of the Insurance Trust, however. The Trust plainly states
that “the special testamentary power of appointment hereby granted to
said Beneficiary shall not be exercisable in favor of or for the benefit of
the Beneficiary . . .”—i.e. they can’t extinguish another beneficiary’s
interest in favor of themselves. The Insurance Trust also states that
extinguishment of a beneficiary’s interest can occur only by will and
cannot take place until the death of the beneficiary doing the
extinguishing (which in this case would be Nancy or Robert). So if
Nancy and Larry hoped to extinguish the interests of their own children,
they couldn’t do so until they themselves directly named some other
beneficiary to take their place. This means that during the lives of
Nancy and Robert, their children will remain beneficiaries of the
Insurance Trust, and a decision by Larson to surrender the policies
would mean the grandchildren would receive nothing. This would
breach his fiduciary duties to them.
Levine’s case is thus distinguishable from Estate of Strangi and
Estate of Powell. Many of the same “economic and legal constraints”
that existed in Byrum exist here. First, the fiduciary obligations that
Larson owed were not duties that he “essentially owed to himself.” His
fiduciary obligations are owed to all the beneficiaries of the Insurance
Trust, which include not just Levine’s children, but her grandchildren.
As we’ve already discussed, if Larson surrendered the life-insurance
policies, those grandchildren would receive nothing as beneficiaries.
That makes these fiduciary obligations more analogous to the duties
owed to the minority shareholders in Byrum, which like them are duties
that do limit the powers of the person who holds them. They are also
legally enforceable duties, established by South Dakota state law,
see, e.g., S.D. Codified Laws §§ 55-2-1, 55-1B-4 (2008), and if Larson
breached these duties or was put in a position where he was forced to do
so, he would be required under S.D. Codified Law § 55-2-6 (2008) to
inform all of the beneficiaries of the Insurance Trust, and he could be
removed. He could also be subject to liability under South Dakota law
for breach of his duty. See, e.g., Matter of Heupel Fam. Revocable Tr.,
914 N.W.2d 571 (S.D. 2018) (trustee breaching fiduciary duties removed
and required to personally reimburse trust).
We stress that the fiduciary duties that Larson owed to the
beneficiaries of the Insurance Trust do not conflict with the fiduciary
duties that he owed Levine as one of her attorneys-in-fact. In both
Estate of Strangi and Estate of Powell we held that the fiduciary’s role
as the attorney-in-fact would potentially require him to go against his
38
duties as a trustee. Estate of Strangi, 85 T.C.M. (CCH) at 1343; Estate
of Powell, 148 T.C. at 404. This is not the case here: Under Minnesota
law, whenever Larson and the other attorneys-in-fact exercise their
powers, they are to do so “in the same manner as an ordinarily prudent
person of discretion and intelligence would exercise in the management
of the person’s own affairs and shall have the interests of the principal
utmost in mind.” Minn. Stat. § 523.21 (1992). And Larson, Nancy, and
Robert all credibly testified that one of the reasons for this split-dollar
arrangement was that Levine wished to provide for her grandchildren
and keep this arrangement in effect until the insureds died. So not only
did Larson’s role as an attorney-in-fact not require him to go against his
duties as a trustee, the two roles reinforced each other and pushed him
to fulfill Levine’s stated purpose in her estate planning. They made it
more likely that he would not want to cancel the life-insurance policies.
We therefore find it more likely than not that the fiduciary duties
that limit Larson’s ability to cancel the life-insurance policies were not
“illusory”. It also persuades us that we cannot characterize his ability
to unload the policies and realize their cash-surrender values as a right
retained by Levine, either alone or in conjunction with Larson, to
designate who shall possess or enjoy the property transferred or the
income from it.
We conclude that this precludes the inclusion of the cash-
surrender values of the life-insurance policies in Levine’s estate under
section 2036(a)(2). 28
Section 2038 focuses on a decedent’s power to “alter, amend,
revoke, or terminate” the enjoyment of the property in question. The
Commissioner’s argument under section 2038 mirrors his argument
under section 2036—that the attorneys-in-fact have controlled the
entirety of Levine’s affairs since 1996, and that this control includes the
ability to “alter, amend, revoke or terminate” any aspect of the split-
dollar arrangements. He argues again that the termination of the split-
dollar arrangements would provide Levine—through her attorneys-in-
fact—with complete control over the cash-surrender values of the
policies, and the power to do this would fall within section 2038(a)(1).
He argues that it applies to section 2038(a)(1) for the same reasons that
28 Section 2036(a) also excepts from its sweep transfers that are bona fide sales
for adequate and full consideration. We need not determine whether this exception
applies.
39
he argues it applies to section 2036. We disagree for the same reasons
and need not repeat them.
The cash-surrender values of the insurance policies are not
includible under section 2038(a)(1) either. 29
IV. Section 2703
The Commissioner argues as a third alternative that the special
valuation rules under section 2703 apply to Levine’s split-dollar
arrangement. Section 2703(a) provides:
Sec. 2703(a). General Rule.—For purposes of this subtitle,
the value of any property shall be determined without
regard to—
(1) any option, agreement, or other right to
acquire or use the property at a price less than the
fair market value of the property (without regard to
such option, agreement, or right), or
(2) any restriction on the right to sell or use
such property.
The Commissioner argues that when Levine—through her
attorneys-in-fact—entered into the split-dollar arrangement, she placed
a restriction on her right to control the $6.5 million in cash and the life-
insurance policies. And the restriction on Levine’s right to unilaterally
access the funds transferred to the insurance companies for the benefit
of the Insurance Trust is what should be disregarded when determining
the value of the property under section 2703(a)(2).
The Estate argues that section 2703 applies only to property
owned by Levine at the time of her death, not to property she’d disposed
of before, or property like the insurance policies that she never owned at
all. If the inability to surrender the life-insurance policies is considered
a “restriction”, it is not a restriction on any property rights held by
Levine since she never owned the policies.
29 Section 2038 also includes an exception for a “bona fide sale for an adequate
and full consideration in money or money’s worth.” We need not decide whether this
exception applies here.
40
The Commissioner doesn’t parry this other argument, but argues
instead that if we focus on the “rights” held by Levine under the split-
dollar arrangement—and not the $6.5 million in cash—the result would
remain the same. He wants to imagine that despite the different
language in the split-dollar arrangement here compared to those in
Morrissette II and Estate of Cahill, it should still be read to mean that
both parties may consent to any early termination of the insurance
policies. He says that without this restriction, the value of Levine’s
rights would equal the cash-surrender values of the life-insurance
policies.
We disagree. Section 2703 does refer to “any property.” But the
“any property” it refers to is property of an estate, not some other entity’s
property. Our caselaw confirms the plain meaning of the Code, and tells
us to confine section 2703’s valuation rule to property held by a decedent
at the time of her death. See, e.g., Estate of Strangi v. Commissioner,
115 T.C. 478 (2000), aff’d in part, rev’d in part, 293 F.3d 279 (5th Cir.
2002). The district court in Church v. United States, 85 A.F.T.R.2d 2000-
804 (W.D. Tex. 2000), aff’d without published opinion, 268 F.3d 1063(5th Cir. 2001), rejected precisely this argument when it held that
“property” in section 2703 consideration does not include assets that a
decedent contributed to a partnership before her death, but only the
partnership interest she got in exchange. See also Estate of Strangi, 115
T.C. at 488 (“Congress ‘wanted to value property interests more
accurately when they transferred, instead of including previously
transferred property in the transferor’s gross estate.’” (citing Kerr v.
Commissioner, 113 T.C. 449 (1999), aff’d, 292 F.3d 490 (5th Cir. 2002))).
The property we have to value here is the property in Levine’s
estate, which is the split-dollar receivable she held at the time of her
death. There were no restrictions on that property. She could do with
the receivable what she wanted. She was free to sell it or transfer it as
she wished. One needs to remember that what the Estate valued on its
return was the receivable owned by Levine in her Revocable Trust.
Section 2703 is not relevant to the valuation of the receivable because
Levine had unrestricted control of it. Section 2703 therefore does not
apply.
The only property left in the Estate after this arrangement was
done was the split-dollar receivable. It is the value of that property that
must be included in the gross estate, and the parties have agreed that
its value is $2,282,195. The Estate having almost entirely prevailed, no
accuracy-related penalties apply.
41
Conclusion
If there is a weakness in this transaction, it lies in the calculation
of the value of the gift between Levine and the Insurance Trust—the
difference between the value that her Revocable Trust gave to the
Insurance Trust and what it got in return. But the gift-tax case is not
this estate-tax case.
And the problem there is traceable to the valuation rule in the
regulations. No one has suggested that this rule is compelled by the
Code and, if it isn’t, the solution lies with the regulation writers and not
the courts. See Carpenter Fam. Invs., LLC v. Commissioner, 136 T.C.
373, 387 (2011).
Decision will be entered under Rule 155.