Estate of Dorothy Walsh, Charles E. Walsh, Personal Respresentative v. Commissioner

110 T.C. No. 29
UNITED STATES TAX COURT
ESTATE OF DOROTHY M. WALSH, DECEASED,
CHARLES E. WALSH, PERSONAL REPRESENTATIVE, Petitioner
v. COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 15150-97. Filed June 15, 1998.
H and W formed a trust to hold their property
during their lives. The trust agreement provided that
the property would pass to two trusts (A and B) upon
the death of the first spouse, and that the surviving
spouse, while competent, was entitled during life to
A's income and corpus. The trust agreement provided
that, upon the death or incompetency of the surviving
spouse, A's property would be distributed to the
persons chosen by the surviving spouse, and, if no such
persons were chosen, in six equal shares to the
children of H and W. W died before H, and W's estate
claimed the marital deduction with respect to the
assets passing to A. B was funded with assets having
an aggregate value of $600,000, and A was funded with
the remaining assets.
Held: The incompetency provisions in the trust
agreement take the property passing to A outside the
requirements for the marital deduction; the surviving
spouse's power of appointment is not exercisable by the
surviving spouse alone and in all events, as is
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required by sec. 2056(b)(5), I.R.C., and the
regulations thereunder.
Thomas J. Shroyer, Robert B. Firing, Nicky R. Hay, and
Steven Z. Kaplan,1 for petitioner.
John C. Schmittdiel, for respondent.
OPINION
LARO, Judge: This case was submitted to the Court without
trial. See Rule 122. The Estate of Dorothy M. Walsh, Deceased,
Charles E. Walsh, Personal Representative, petitioned the Court
to redetermine respondent's determination of a $291,651
deficiency in Federal estate tax. We must decide whether certain
property is eligible for the marital deduction under section
2056(a). We hold it is not.
Unless otherwise indicated, section references are to the
applicable provisions of the Internal Revenue Code. Rule
references are to the Tax Court Rules of Practice and Procedure.
Decedent references are to Dorothy M. Walsh. Estate references
are to the decedent's estate.
Background
All facts have been stipulated and are so found. The
stipulation of facts and the exhibits submitted therewith are
incorporated herein by this reference. The decedent was a U.S.
1
Mr. Kaplan, who prepared the subject petition, withdrew as
counsel of record on Mar. 4, 1998.
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citizen who resided in Ramsey County, Minnesota, when she died
testate on July 30, 1993. Charles E. Walsh, her surviving spouse
and the estate's personal representative, is a U.S. citizen who
resided in St. Paul, Minnesota, when the petition was filed.
On October 30, 1992, Mr. Walsh and the decedent established
a revocable trust named the Dorchar Trust Agreement (the Trust),
and they transferred most of their assets to the Trust. Also on
that date, the decedent executed her last will and testament,
bequeathing to the Trust the residue of her estate.
Under the terms of the Trust agreement (the Agreement), each
spouse could independently alter, amend, or revoke the Trust if
competent, and both spouses served as cotrustees during their
joint lives. Upon the incompetence or death of either spouse,
the remaining spouse would serve as sole trustee until the need
for a successor arose.
The Agreement also provided that, upon the death of the
first spouse, the Trust's assets would be placed in Trust A and
Trust B. After the payment of all expenses, Trust B would be
funded with assets having an aggregate value of $600,000, and
Trust A would be funded with the remaining assets. The Agreement
provided:
The Trustee shall try to allocate to TRUST A only
property that will qualify for the marital deduction
* * * [and] it is our intention that TRUST A shall
qualify for the marital deduction under the federal
estate tax provisions of the Internal Revenue Code in
effect at the time of the death of the first one of us.
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The provisions shall be so construed and questions
pertaining to TRUST A shall be resolved accordingly.
With respect to the administration and distribution of the
assets in Trust A, Article VII of the Agreement provided:
1. During the life of the surviving
spouse who remains competent as set
forth in Article XXIII[2] * * *
a. The net income, beginning
as of the date of the
first to die, may be paid
to said spouse in
quarterly or other
convenient installments
during the life of said
spouse.
b. The Trustee may pay to
said spouse or apply for
the benefit of said
spouse such amounts of
principal as the Trustee
deems necessary or
advisable for the proper
care, comfort, support,
maintenance, and welfare
of said spouse, including
reasonable luxuries.
c. Said spouse shall
withdraw any amount or
all of this Trust by
written request to the
Trustee.
2
Article XXIII provides that: "Incompetency * * * simply
means 'unable to handle ones [sic] affairs with adequate
competence'". Article XXIII also provides that successor
trustees are directed "to sign * * * [a form declaring the
surviving spouse incompetent] if, in each Successor Trustee's
complete discretion it will preserve the assets of this Trust."
Article XXIII further provides that the surviving spouse, if
incompetent, is "barred from receiving any of the benefits of
this Trust."
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d. If said spouse should at
any time be determined as
incompetent * * *, said
spouse shall take no
benefits hereunder and
this Trust shall be
treated and distributed
as if said spouse had
died.
2. After the death of the surviving
spouse or after the incompetency of
the surviving spouse * * *
a. All property in TRUST A,
including income, shall
be distributed to such
appointee or appointees
in the manner and
proportions as the
surviving spouse may
designate by Will
expressly referring to
this general power of
appointment, including
the power in said spouse
to appoint all thereof to
said spouse's estate,
free of any Trust
hereunder. Such general
power of appointment
shall exist immediately
upon the death of the
first one of us to die
and shall be exercisable
by the surviving spouse
exclusively and in all
events.
b. Any portion of TRUST A
which is not effectively
disposed of by the above
provision shall be
divided into six (6)
equal shares so as to be
disposed of in cash or
property, in kind, as the
Trustee deems best in the
Trustee's complete
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discretion as * * * [a
distribution to or in
trust for the settlors'
children].
Mr. Walsh has not executed the power of appointment mentioned in
the Agreement, and neither his will nor the decedent's will
provided for the exercise of this power.
The decedent's Federal estate tax return reported a gross
estate of $1,533,805, deductions of $933,805, a taxable estate of
$600,000, and no tax liability. The reported deductions included
funeral and administrative expenses of $13,198 and a marital
deduction of $920,607. The estate claimed the marital deduction
with respect to the assets passing to Trust A under the
Agreement.
Discussion
We must decide whether the property passing to Trust A
qualifies for the marital deduction under section 2056. Section
2056 provides in part:
SEC. 2056. BEQUESTS, ETC., TO SURVIVING SPOUSE.
(a) Allowance of Marital Deduction.--* * * the
value of the taxable estate shall, except as limited by
subsection (b), be determined by deducting from the
value of the gross estate an amount equal to the value
of any interest in property which passes or has passed
from the decedent to his surviving spouse, but only to
the extent that such interest is included in
determining the value of the gross estate.
(b) Limitation in the Case of Life Estate or Other
Terminable Interest.--
(1) General rule.--Where, on the lapse
of time, on the occurrence of an event or
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contingency, or on the failure of an event or
contingency to occur, an interest passing to
the surviving spouse will terminate or fail,
no deduction shall be allowed under this
section with respect to such interest—-
(A) if an interest in such
property passes or has passed (for
less than an adequate and full
consideration in money or money's
worth) from the decedent to any
person other than such surviving
spouse (or the estate of such
spouse); and
(B) if by reason of such
passing such person (or his heirs
or assigns) may possess or enjoy
any part of such property after
such termination or failure of the
interest so passing to the
surviving spouse;
and no deduction shall be allowed with
respect to such interest (even if such
deduction is not disallowed under
subparagraphs (A) and (B))—-
* * * * * * *
(5) Life estate with power of
appointment in surviving spouse.--In the case
of an interest in property passing from the
decedent, if his surviving spouse is entitled
for life to all the income from the entire
interest, or all the income from a specific
portion thereof, payable annually or at more
frequent intervals, with power in the
surviving spouse to appoint the entire
interest, or such specific portion
(exercisable in favor of such surviving
spouse, or of the estate of such surviving
spouse, or in favor of either, whether or not
in each case the power is exercisable in
favor of others), and with no power in any
other person to appoint any part of the
interest, or such specific portion, to any
person other than the surviving spouse—
(A) the interest or such
portion thereof so passing shall,
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for purposes of subsection (a), be
considered as passing to the
surviving spouse, and
(B) no part of the interest so
passing shall, for purposes of
paragraph (1)(A), be considered as
passing to any person other than
the surviving spouse.
This paragraph shall apply only if such power
in the surviving spouse to appoint the entire
interest, or such specific portion thereof,
whether exercisable by will or during life,
is exercisable by such spouse alone and in
all events.
Respondent determined and argues that the property passing
to Trust A does not qualify for the marital deduction because the
property is a terminable interest. Respondent reaches this
result mainly because, in respondent's view, the Agreement
revokes the surviving spouses's right to receive income from the
Trust, or to appoint the Trust's property, upon incompetency.
The estate argues primarily that the property is not a terminable
interest because the surviving spouse has a general power of
appointment over the Trust's assets that allows the surviving
spouse to dispose of these assets any time before the Trust
terminates on account of the surviving spouse's death or
incompetency. The estate asserts that the Agreement states
clearly that the intent of the Trust's settlors was to qualify
Trust A for the marital deduction. If the property is a
terminable interest, the estate argues alternatively, the
decedent's estate tax liability must be computed as if no
completed gift of property was made to the Trust before the
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decedent died.3 The estate asserts that the Trust fails because
its settlors never relinquished control over the property
transferred to it. The estate asserts that the Trust is revoked
if the settlors' intent to qualify Trust A for the marital
deduction is thwarted.
We agree with respondent that the property passing to
Trust A does not qualify for the marital deduction. Property
interests included in a decedent's gross estate generally meet a
threshold requirement for the marital deduction if the interests
pass to the decedent's surviving spouse. Sec. 2056(a). An
interest will not qualify for this deduction, however, if it is
terminable within the meaning of section 2056(b). Jackson v.
United States, 376 U.S. 503, 508 (1964) (citing Starrett v.
Commissioner, 223 F.2d 163 (1st Cir. 1955), affg. Estate of
Tingley v. Commissioner, 22 T.C. 402 (1954)); Hansen v. Vinal,
413 F.2d 882, 886 (8th Cir. 1969); Allen v. United States,
359 F.2d 151, 154 (2d Cir. 1966); United States v. First Natl.
Trust & Sav. Bank, 335 F.2d 107, 113 (9th Cir. 1964); Bookwalter
v. Lamar, 323 F.2d 664 (8th Cir. 1963). An interest is
terminable if: (1) It will terminate or fail on the lapse of
time, on the occurrence of an event or contingency, or on the
failure of an event or contingency to occur, (2) it passes for
less than adequate and full consideration from the decedent to a
3
The estate requests that it be allowed to recompute its
Federal estate tax liability by reference to only those assets in
the Trust which the decedent had contributed to the Trust.
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person other than the surviving spouse or his or her estate, and
(3) the person to whom the interest passes may possess or enjoy
any part of the property after the interest passing to the
surviving spouse terminates or fails. Sec. 2056(b)(1); Estate of
Abely v. Commissioner, 60 T.C. 120, 122 (1973), affd. 489 F.2d
1327 (1st Cir. 1974); see also Estate of Cunha v. Commissioner,
279 F.2d 292, 296 (9th Cir. 1960), affg. 30 T.C. 812 (1958).
An interest is usually not terminable when the surviving
spouse receives a life estate and a general power of appointment
over it. Sec. 2056(b)(5); Estate of Meeske v. Commissioner,
72 T.C. 73, 77 (1979), affd. sub nom. Estate of Laurin v.
Commissioner, 645 F.2d 8 (6th Cir. 1981). An interest passing
from a decedent to his or her surviving spouse may qualify for
the marital deduction when the surviving spouse: (1) Is entitled
for life to all income from that interest, payable at least
annually and (2) has a general power of appointment over the
interest which is exercisable in all events by the surviving
spouse alone, either by will or during life. Estate of Meeske v.
Commissioner, supra at 77; see sec. 20.2056(b)-5(a), Estate Tax
Regs. A spouse has the right to income for life if, under the
terms of the trust, the spouse has a right, exercisable at least
annually, to receive distributions of income, or the income must
be accumulated and added to corpus over which the spouse has a
power of appointment. Sec. 20.2056(b)-5(f)(8), Estate Tax Regs.
A surviving spouse does not have the right to all income if:
(1) The income must be accumulated, in whole or in part, or may
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be accumulated in the discretion of any person other than the
surviving spouse, or (2) the consent of any person other than the
surviving spouse is required to distribute the income. Sec.
20.2056(b)-5(f)(7), Estate Tax Regs. The power of appointment,
if exercisable during life, must be fully exercisable during
life. If exercisable by will, the power must be fully
exercisable regardless of the time of death. A power of
appointment is not exercisable in all events if it may terminate
during the life of the surviving spouse without his or her
complete exercise or release of it. Sec. 20.2056(b)-5(g)(3),
Estate Tax Regs.
The incompetency provisions in Article VII of the Agreement
take the property passing to Trust A outside the statutory and
regulatory requirements for the marital deduction. In Estate of
Tingley v. Commissioner, 22 T.C. 402 (1954), the surviving spouse
received an income interest and an inter vivos right to withdraw
corpus. Under the terms of the trust, this right terminated upon
the surviving spouse's legal incapacity or upon the appointment
of a guardian; upon legal incapacity or the appointment of a
guardian, the trustee was given the discretion to use and apply
this part of the net income and corpus for the surviving spouse's
benefit. The Court in Estate of Tingley held that the estate was
not entitled to the marital deduction mainly because the income
interest and power of appointment were outside the scope of the
predecessor to section 2056(b)(5). This was so even though the
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surviving spouse could invade corpus and actually did so shortly
after the decedent died. The Court noted that the surviving
spouse could not invade corpus in all events because the trust
would terminate that right upon legal incapacity or upon the
appointment of a guardian. The Court noted that the surviving
spouse's right to receive income would terminate at the same
time.
The estate argues that the facts of Estate of Tingley are
distinguishable from the facts at hand. The estate contends that
the power of appointment in Estate of Tingley, which terminated
upon the surviving spouse's legal incapacity or the appointment
of a guardian, is different from the power of appointment in this
case, which, the estate asserts, is activated by incompetency.
The estate claims that the surviving spouse in Estate of Tingley
could lose the power to appoint the property for reasons other
than legal incapacity, whereas the Agreement here terminates the
Trust only on death or incompetency. The estate concludes that
these differences in fact warrant a result in the instant case
different from the result in Estate of Tingley.
We disagree with the estate that Estate of Tingley is
inapposite to our decision herein. Although there may be
differences between the facts of Estate of Tingley and the facts
of this case,4 the critical fact that appears in both cases is
4
We do not agree with the estate that one of these
(continued...)
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that the surviving spouse could lose power over the corpus upon
the happening of a contingent event; namely, incompetency (in the
instant case) and incapacity or the appointment of a guardian (in
the case of Estate of Tingley). In Estate of Tingley, the
surviving spouse would lose any power over the corpus if the
contingent event occurred before the surviving spouse withdrew
the corpus. Although the surviving spouse in Estate of Tingley
did actually withdraw the corpus before the happening of this
contingent event, the Court held that, when viewed at the time of
the decedent's death, the surviving spouse's power was not
exercisable in all events. Estate of Tingley v. Commissioner,
22 T.C. 404, 406.5 The same is true here. When viewed at the
time of the decedent's death, the surviving spouse would lose
4
(...continued)
differences concerns the contingent events that would cause the
surviving spouse in each case to lose his or her power to appoint
the property. We read the definition of "incompetency" as set
forth in Article XXIII of the Agreement to be essentially similar
to the conditions in Estate of Tingley v. Commissioner, 22 T.C.
402 (1954), affd. sub nom. Starrett v. Commissioner, 223 F.2d 163
(1st Cir. 1955), that would have caused the surviving spouse
there to have lost the right to appoint the property.
5
In affirming our decision, the Court of Appeals for the
First Circuit stated:
We agree with the Tax Court that the marital
deduction was properly disallowed in this case, because
the power in the surviving spouse to invade the corpus
was not exercisable by her "in all events", in view of
the terminating condition, as specified in the will,
"in case of her legal incapacity from any cause or upon
the appointment of a guardian, conservator, or other
custodian of her person or estate". [Starrett v.
Commissioner, 223 F.2d at 166-167.]
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power over the corpus if the contingent event occurred before the
surviving spouse either withdrew the corpus or provided in his
will for the corpus' disposition. Given this possible loss of
power, we are unable to conclude that the surviving spouse's
power of appointment was exercisable by the surviving spouse
alone, see sec. 20.2056(b)-5(g)(1), Estate Tax Regs., and that it
was exercisable by the surviving spouse in all events, see sec.
20.2056(b)-5(g)(3), Estate Tax Regs.;6 see also S. Rept. 1013,
80th Cong., 2d Sess. 17 (1948), 1948-1 C.B. 285, 343 ("An example
of a power which * * * [is not exercisable alone and in all
events] is a power which (unless sooner exercised or released)
will terminate on * * * [a given date], or on the date of death
of the surviving spouse, whichever occurs first.").7
Section 20.2056(b)-5(g)(1) and (3), Estate Tax Regs.,
provides:
(g) Power of appointment in surviving spouse.--
(1) The conditions * * * that the surviving spouse must
have a power of appointment exercisable in favor of
herself or her estate and exercisable alone and in all
events, are not met unless the power of the surviving
spouse to appoint the entire interest or a specific
portion of it falls within one of the following
categories:
6
We are also unable to conclude that the Trust meets the
requirements of sec. 2056(b)(5) in that the Agreement provides
that the surviving spouse is not entitled to any trust income
upon incompetency.
7
This report accompanied H.R. 4790, 80th Cong., 2d Sess.
(1948), which was enacted as the Revenue Act of 1948, ch. 168,
62 Stat. 110. Sec. 2056(b) had its origin in sec. 361 of the
Revenue Act of 1948, 62 Stat. 117.
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(i) A power so to appoint fully
exercisable in her own favor at any time
following the decedent's death (as, for
example, an unlimited power to invade); or
(ii) A power so to appoint exercisable
in favor of her estate. Such a power, if
exercisable during life, must be fully
exercisable at any time during life, or, if
exercisable by will, must be fully
exercisable irrespective of the time of her
death * * *; or
(iii) A combination of the powers
described under subparagraphs (i) and (ii) of
this subparagraph. * * * However, the
condition that the spouse's power must be
exercisable in all events is not satisfied
unless irrespective of when the surviving
spouse may die the entire interest or a
specific portion of it will at the time of
her death be subject to one power or the
other * * *.
* * * * * * *
(3) A power is not considered to be a power
exercisable by a surviving spouse alone and in all
events * * * if the exercise of the power in the
surviving spouse to appoint the entire interest or a
specific portion of it to herself or to her estate
requires the joinder or consent of any other person.
The power is not "exercisable in all events", if it can
be terminated during the life of the surviving spouse
by any event other than her complete exercise or
release of it. * * *
From this text, we discern that the surviving spouse must have
the ability during life to exercise or release the power of
appointment in all events. A power of appointment that may
terminate upon the happening of an event does not meet this
requirement, unless the event is the voluntary exercise or
release of the power by the surviving spouse. See Eckel v.
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United States, 259 F. Supp. 184 (S.D.N.Y. 1966) (surviving spouse
not entitled to income for life when spouse's right to income is
terminated upon remarriage); see also Starrett v. Commissioner,
223 F.2d at 166. A power of appointment that lapses on the
happening of a contingent event such as incompetency is outside
the reach of section 2056(b)(5). This is especially true in the
instant case where applicable State law requires that an exercise
or release of a power of appointment must adhere to the same
formalities as those that must be followed to create a power of
appointment or to transfer property in general, e.g., by a
written instrument. Minn. Stat. Ann. sec. 502.64, 502.79 Subd. 2
(West 1990).
We also disagree with the estate's alternative argument.
The estate has set forth no good reason why we should disregard
the validity of the Trust, and we decline to do so. Although the
estate states correctly that we must (and do) interpret the
language of the Agreement in accordance with the settlors'
intent, see, e.g., In re Trust Created Under Agreement with
McLaughlin, 361 N.W.2d 43, 44 (Minn. 1985), the mere fact that
the settlors meant for Trust A to qualify for the marital
deduction does not mean that it does so qualify, United States v.
First Natl. Trust & Sav. Bank, 335 F.2d at 113-114. In order for
the estate to avail itself of the marital deduction, the Trust
must fall within the statutory and regulatory requirements for
that deduction. Id. As discussed above, it does not.
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We note that the Trust serves more than just the settlors'
stated intent to avail themselves of the marital deduction. The
Agreement indicates that a principal purpose for the Trust was to
provide subsistence for the surviving spouse during his or her
competency and, thereafter, to allow the spouse to qualify for
medical assistance at minimal family expense. The Agreement
states that the Trust's assets shall be distributed to the
settlors' children upon the surviving spouse's incompetency, or,
in other words, when the surviving spouse may potentially incur
increased medical expenses for physician care and/or the need for
a nursing home. Because the Trust's assets would be outside the
Trust, they would not be counted as an asset of the surviving
spouse for purposes of ascertaining the amount that he or she
would have to pay for these expenses. Thus, more of the
settlors' assets would pass to the settlors' children.
For the foregoing reasons, we sustain respondent's
disallowance of the estate's marital deduction. In so doing, we
have considered all arguments made by the parties, and, to the
extent not discussed above, find them to be irrelevant or without
merit.
To reflect respondent's concessions,
Decision will be entered
under Rule 155.