Bradley J. Bergquist and Angela Kendrick v. Commissioner

131 T.C. No. 2UNITED STATES TAX COURT
BRADLEY J. BERGQUIST AND ANGELA KENDRICK, ET AL.,1 Petitioners
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket Nos. 17530-06, 17535-06, Filed July 22, 2008.
17537-06, 17541-06,
17545-06, 17549-06.
As part of a consolidation of various separate
medical professional service corporations into a
single consolidated medical practice group controlled
and managed by the Oregon Health & Science
University, medical doctors donated their stock in
their medical professional service corporation to a
charity and for Federal income tax purposes claimed
charitable donations relating thereto of $401.79 per
share.
1
Cases of the following petitioners are consolidated
herewith: Robert E. and Patricia F. Shangraw, docket No.
17535-06; Stephen T. and Leslie Robinson, docket No. 17537-06;
William W. Manlove, III, and Lynn A. Fenton, docket No. 17541-
06; John L. and Catherine J. Gunn, docket No. 17545-06; and
Harry G.G. and Sonia L. Kingston, docket No. 17549-06.
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Held: On the date of donation the donated stock had
a fair market value of approximately $37 per share.
Held, further, on the facts of this case and in
spite of advice from attorneys, accountants, and
other advisers, the doctors are liable for the
applicable 40- or 20-percent accuracy-related
penalties.
Philip N. Jones and Peter J. Duffy, for petitioners.
Shirley M. Francis, for respondent.
SWIFT, Judge: Respondent determined deficiencies in
petitioners’ Federal income taxes and accuracy-related
penalties as follows:
Penalty
Petitioner Year Deficiency Sec. 6662
Kendrick 2001 $26,668 $10,667
2002 25,208 10,083
2003 6,662 2,640
Shangraw 2001 31,464 12,586
2002 23,400 9,360
Robinson 2001 25,703 10,281
2002 27,535 11,014
2003 6,289 2,516
Fenton 2001 19,603 7,841
2002 21,061 8,424
2003 14,174 5,670
Kingston 2001 61,024 24,410
2002 5,910 2,364
Gunn 2001 19,043 7,617
2002 4,710 942
2003 9,269 3,708
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The primary issue for decision in these consolidated cases
is the fair market value of stock in a medical professional
service corporation that was donated to a charitable
professional service corporation.
These cases were consolidated for purposes of trial,
briefing, and opinion. On the stock valuation issue, the
parties in 20 related but nonconsolidated cases also pending
before the Court have stipulated to be bound by the final
decisions rendered herein. The parties in the 20 related
nonconsolidated cases have stipulated to be bound by the final
decisions herein on the penalties only if our holding on the
penalties is the same for all consolidated petitioners.
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years at issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure.
FINDINGS OF FACT
Some of the facts have been stipulated and are so found.
At the time the petitions were filed, petitioners resided
in Oregon.
Petitioners Angela Kendrick, Robert Shangraw, Stephen
Robinson, Lynn Fenton, and Harry Kingston are medical doctors,
each with a specialty in anesthesiology and each licensed to
practice medicine in Oregon. Petitioner John Gunn (Gunn) is a
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certified public accountant. Hereinafter, all references to
petitioners and/or to any of the above surnames are to the
specific petitioners named in this paragraph, not to their
respective spouses with whom they filed joint Federal income
tax returns for the years in issue. Also, generally references
to petitioners are to the petitioners who are medical doctors,
not to Gunn.
From 1994 to 2001 petitioners practiced medicine as
employees of and as stockholders in University
Anesthesiologists, P.C. (UA), a medical professional service
corporation specializing in anesthesiology.2 From 1994 to 2001
Gunn was the chief executive officer of and a stockholder in
UA.
Through UA, petitioners provided medical services to
patients of the Oregon Health & Science University Hospital
(OHSU), a public teaching and research hospital in Portland,
Oregon. UA was the exclusive provider of anesthesiology
medical services to all OHSU hospitals and clinics.
Petitioners also took on significant teaching duties as members
of OHSU’s teaching faculty in the OHSU medical school’s
Department of Anesthesiology.
Petitioners were employed by UA on month-to-month
contracts. UA employment contracts with petitioners did not
2
Fenton did not affiliate with UA until 1997.
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include noncompete or nonsolicitation clauses and provided for
immediate termination if an anesthesiologist was terminated
from his or her OHSU medical school faculty position.
Before the donation of the stock that is in issue in these
cases, petitioners and Gunn each held 100 shares of UA’s voting
common stock which they purchased in 1994 at $1 per share.
In addition to UA, approximately 30 other medical practice
specialty groups (e.g., OBGYNs, cardiologists, radiologists,
and orthopedic surgeons) were affiliated with OHSU through
separate medical professional service corporations in a manner
similar to that of UA in which the medical doctors provided
specialty medical services to OHSU hospitals and clinics and
also took on teaching duties as members of the OHSU medical
school teaching faculty.
Consistent with the typical management of medical
professional service corporations, at the end of each year UA
generally paid bonuses, salaries, and prepaid expenses that
offset reported income. UA never declared or paid cash
dividends to its stockholders. UA’s only significant booked
asset was its accounts receivable.
In the late 1990s and after careful consideration and
discussion, because of perceived risks and management concerns
associated with the many separate medical practice specialty
groups that were providing (through their respective
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professional service corporations) medical services to OHSU
hospitals and clinics, OHSU’s executive management concluded
that the consolidation into a single medical practice group,
controlled and managed by a single professional service
corporation which in turn would be under OHSU’s direct
management and administration, would be required of all the
different medical practice specialty groups that wished to
continue to be affiliated with OHSU (hereinafter sometimes
referred to simply as the consolidation).
Under the consolidation, medical doctors practicing at
OHSU hospitals and clinics, including petitioners, were to
leave their separate medical practice specialty groups and
their medical professional service corporations and were to
become employees of a newly formed single consolidated medical
practice group operating and providing medical services through
a newly formed tax-exempt professional services corporation.
In the late 1990s the OHSU Business Operations Steering
Committee, of which Gunn was a member, was formed to assist in
the planning and implementation of the consolidation.
In 1998 OHSU management formed the OHSU Medical Group
(OHSUMG) as a section 501(c)(3) tax-exempt professional service
corporation to serve as the single consolidated medical group
into which all of the then-extant 30 different medical practice
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specialty groups whose doctors were affiliated with OHSU would
be consolidated.
An initial target date for consolidation into OHSUMG of
the medical practice specialty groups was set for January 1,
2001, but for reasons not clear in the record the target date
was rescheduled for July 1, 2001.
Initially it was intended that OHSUMG would offer to all
of the medical doctors to be employed by OHSUMG a governmental
pension plan, exempt from ERISA requirements, with flexibility
and various contribution and retirement options for the medical
doctors. In an effort to provide such a plan, OHSUMG
management requested a private letter ruling from respondent
under which OHSUMG would be treated as a governmental
instrumentality and the OHSUMG proposed pension plan would be
treated as an ERISA-exempt governmental plan within the meaning
of section 414(d).
OHSUMG management and attorneys were optimistic that
respondent would issue a favorable private letter ruling with
regard to the pension plan. As a contingency, however, in case
OHSUMG did not receive from respondent a favorable tax ruling,
OHSUMG management began developing an ERISA-compliant,
nongovernmental pension plan. Robinson, as a member of
OHSUMG’s pension committee, presented to the committee several
viable ERISA-compliant plans and took part in strategizing how
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to “sell” an ERISA-compliant plan to the doctors. Although
some doctors preferred a governmental plan, in general
petitioners and the other UA anesthesiologists appeared not to
have a preference and were concerned only that OHSUMG have some
form of a pension plan in place by the date of the
consolidation.
In early 1999 Gunn attended a conference sponsored by the
Medical Group Management Association. During a roundtable
discussion at the conference, Gunn learned that for Federal
income tax purposes some doctors throughout the country
apparently were claiming substantial charitable contribution
deductions relating to donations to academic-affiliated
institutions of stock in their medical professional service
corporations.
Upon returning from the conference and in view of the
planned consolidation, Gunn discussed with UA’s attorney, UA’s
accountant, and OHSUMG’s C.E.O. the possible tax benefits and
other ramifications if, as a step associated with the
consolidation, petitioners and the other UA anesthesiologists
were to donate their UA stock to OHSUMG and to claim charitable
contribution deductions with regard thereto.
On June 7, 1999, UA held a stockholders meeting at which
the potential tax benefits of donating UA stock to OHSUMG were
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described as offering a “huge [tax] windfall” of “150K” to each
UA stockholder.
On February 27, 2001, the chairman of the OHSU Department
of Anesthesiology and the president of UA sent an e-mail
message to the UA stockholders which stated:
As the time to convert to OHSUMG comes closer, we
need to meet and thoroughly discuss implications of
our donation of * * * [UA stock] to OHSUMG. As you
are aware, we believe that there are some significant
tax advantages to doing this.
I would like to call a shareholders’ meeting for
Tuesday, March 6 at 4:30 pm. The object will be to
talk about the transition and the legal and tax
implications of this. At a later stage, should this
be necessary, I would be pleased to invite * * *
[UA’s attorney] and * * * [UA’s accountant] to be
present to answer any questions you may have.
[Emphasis deleted.]
In or around April 2001 an attorney for UA informed each
UA stockholder of the steps to be taken to make the donation to
OHSUMG of his or her UA stock and to claim a charitable
contribution deduction with regard thereto.
Under the plan outlined by the UA attorney, a new class of
nonvoting UA stock would be issued through the distribution of
a UA stock dividend. The attorney believed that this step was
necessary to comply with Oregon law under which a majority of
voting stock in a medical professional service corporation was
required to be held by licensed Oregon doctors. See Or. Rev.
Stat. sec. 58.375(1)(a) (2001).
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The attorney’s plan then called for UA stockholders to
donate their UA stock to OHSUMG in two stages. Before the
consolidation they would donate to OHSUMG their newly created
UA nonvoting stock and claim substantial charitable
contribution deductions relating thereto. After the
consolidation they would donate to OHSUMG their UA voting stock
and possibly claim additional charitable contribution
deductions relating thereto.
The UA attorney believed his plan would maximize the
amounts of charitable contribution deductions UA stockholders
could claim by allowing UA stockholders to donate most of their
UA stock while at the same time retaining control of UA to
avoid violating Oregon law.
Once the consolidation was completed, UA would have no
doctors and no patients, and UA would not operate and would
continue in existence for a period of time simply to collect
accounts receivable outstanding as of the date of the
consolidation. It was expected that after the consolidation
UA’s winding-down expenses would reduce UA’s taxable income to
zero.
On May 9, 2001, an OHSUMG attorney was contacted by
respondent’s representative and was informed that respondent
would not treat OHSUMG as a governmental instrumentality and
that the proposed OHSUMG pension plan would not be exempt from
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ERISA. To have more time to attempt to reverse respondent’s
position, OHSUMG management postponed the planned consolidation
until January 1, 2002.
On May 23, 2001, pursuant to the UA attorney’s plan of
donation, UA declared a stock dividend and issued to each of
the 28 UA stockholders 4 shares of nonvoting stock for each
share of UA voting stock held, so that after the stock dividend
each UA stockholder held 100 shares of voting stock and 400
shares of nonvoting stock.
On June 6, 2001, UA retained Houlihan Valuation Advisors
(Houlihan) to value the UA stock to be donated. In a letter to
Houlihan, the UA attorney described the planned consolidation
and wrote that OHSUMG would “be the employer of all of the
physicians, including the [UA] anesthesiologists, after the
reorganization is completed.”
In June 2001 Gunn retired as UA’s C.E.O. and was hired by
UA as a business consultant. Gunn was not replaced as UA’s
C.E.O., but on July 1, 2001, UA hired Lynda Johnson as chief
administrative officer (C.A.O.) largely to plan for the
consolidation.
On approximately September 8, 2001, upon OHSUMG’s request,
UA staff began preparing pro forma cashflow projections.
OHSUMG requested that the cashflow projections be prepared
under the assumption that at the end of 2001 all UA
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anesthesiologists would move to OHSUMG and that UA would no
longer operate.
On September 10, 2001, the UA accountant, the UA attorney,
and Robinson met to discuss the planned consolidation and the
planned donation of UA stock to OHSUMG. The final decision
made at the meeting was that the planned donation by the UA
stockholder of their UA stock would go forward on September 14,
2001.
On September 14, 2001, 24 of the 28 UA stockholders each
donated to OHSUMG 40 shares of their UA voting stock and all
400 shares of their UA nonvoting stock. On that same day each
of the remaining four UA stockholders, including Gunn, donated
to OHSUMG all 100 shares of their UA voting stock and all 400
shares of their UA nonvoting stock. At the time of the above
donation, each of the UA stockholders had a basis of 20 cents
per share in his or her UA stock.
OHSUMG’s executive management accepted the donation of UA
stock as a professional courtesy to the UA stockholders. At
the time of donation, OHSUMG’s management did not expect to
derive any economic benefit from the donated UA stock. OHSUMG
management did not expect to receive and in fact did not
receive from UA any dividends or distributions.
On October 5, 2001, Houlihan appraised the donated UA
voting and nonvoting stock as of August 31, 2001, at $401.79
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per share, or a total donation of $200,895 for Gunn and a total
donation of $176,787 for each of the other petitioners.
On October 23, 2001 because respondent had not yet issued
the requested private letter ruling, the OHSUMG board agreed to
implement an ERISA-compliant plan under section 403(b) to
become effective on January 1, 2002.
In October 2001, the medical practice groups for the
OHSUMG Departments of Ophthalmology, Orthopedics, Integrated
Primary Care Organization, and Pediatric Surgery consolidated
into OHSUMG, and the doctors from those practice groups became
employees of OHSUMG.3
On November 11, 2001, Kingston, Robinson, and Gunn met
with UA’s attorney and accountant to discuss whether the UA
anesthesiologists should donate to OHSUMG their remaining UA
stock. At the meeting it was decided that the planned second
donation of UA stock would not be beneficial because there
likely would not be enough value in the UA shares to justify
the expenses involved with claiming a charitable contribution
deduction--namely, a second appraisal fee. Accordingly, the
planned second donation of the remaining UA voting stock never
occurred.
3
The record does not indicate why certain medical groups
joined OHSUMG before the scheduled consolidation date of Jan.
1, 2002.
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On January 1, 2002, the remaining medical speciality
practice groups affiliated with OHSU and their doctors,
including UA’s anesthesiologists, consolidated into OHSUMG, and
the doctors became employees of OHSUMG. After the
consolidation, UA no longer operated as a provider of
anesthesiology services but continued in existence only to
collect its accounts receivable.4 After the consolidation,
any proceeds UA received as a result of collecting accounts
receivable were, after payment of expenses, distributed to the
UA anesthesiologists in the form of bonus and severance pay.
Of the many doctors from the different specialty practice
groups that consolidated into OHSUMG, the UA anesthesiologists
were the only ones who donated to OHSUMG stock or any other
interest in their preconsolidation professional service
corporation.
By letter dated January 8, 2002, OHSUMG’s president
notified Kingston that on its books OHSUMG would enter a value
of zero for donated UA stock that it received, and he
explained:
Based on advice from our legal and accounting
advisors, we are placing the total value of all of
the donated shares at $0 on our books. This net
valuation is in recognition of the consensus pro-forma
cash flow projections developed by * * * [UA] for CY2002
and reviewed by OHSUMG staff. These financials indicate
4
It is not clear from the record whether or when UA was in
fact liquidated.
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that, as the affairs of UA are wound up over the next
year, total projected cash disbursements will approximate
total projected cash receipts, thus leaving no
unencumbered residual value for the benefit of OHSUMG.
In preparation for a UA January 29, 2002, stockholders
meeting, the January 8, 2002, letter from the OHSUMG president
was distributed to the UA stockholders, along with a copy of
the Houlihan appraisal. Before the meeting each UA stockholder
was given by UA a Form 8283, Noncash Charitable Contributions,
that reflected Houlihan’s appraised fair market value of the
donated UA stock. In advance of the meeting each UA
stockholder was advised by UA’s attorney and accountant not to
bring to the meeting his or her own tax adviser.
At the January 29, 2002, UA stockholders meeting the UA
stockholders discussed how they should report and claim on
their 2001 Federal income tax returns charitable contribution
deductions with respect to the donation of their UA stock. At
the meeting, in response to concerns from several UA
stockholders who suggested that they were considering claiming
tax deductions lower than the amounts reported on the Forms
8283 they had been given, UA’s attorney and accountant advised
the UA stockholders not to attract respondent’s attention by
deviating from the amounts reported on the Forms 8283 and not
to discuss the donations with respondent if contacted.
At the January 29, 2002, stockholders meeting UA’s
attorney and accountant further advised the UA stockholders not
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to show to their own tax advisers the minutes from the UA
stockholders meetings or the January 8, 2002, letter from
OHSUMG’s president. The trial evidence suggests that
petitioners complied with this advice and further that
petitioners apparently, with respect to the donations, did not
consult with any attorney or accountant who was truly
independent and not involved with the planned donation of UA
stock.
On their respective 2001 Federal income tax returns, using
the Houlihan appraised per-share value therefor of $401.79 for
both the voting and the nonvoting shares, 26 of the 28 UA
stockholders claimed charitable contribution deductions with
respect to the donation of their UA stock. The remaining two
UA stockholders claimed no charitable contribution deduction
with respect to the donation of UA stock.
Before taking into account charitable contribution
limitations, petitioners generally claimed charitable
contribution deductions of $176,788 on their 2001 Federal
income tax returns with respect to their UA stock donations.
Gunn claimed a charitable contribution deduction of $200,895 on
his 2001 joint Federal income tax return relating to his UA
stock donation. Because of the charitable contribution
limitation, a number of petitioners carried over the claimed
contribution deductions to subsequent years.
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On audit of the returns of each of petitioners and the
other UA stockholders, respondent, determining that on
September 14, 2001, the UA stock had no value, disallowed in
their entirety the claimed charitable contribution deductions
relating to the donation of UA stock.
Before trial and on the basis of an expert appraisal,
respondent agreed that the UA stock had a value of $37 per
voting share and $35 per nonvoting share and that charitable
contribution deductions were allowable to petitioners to that
extent.
OPINION
Section 170(a)(1) allows a deduction for charitable
contributions made during a year. The amount of a charitable
contribution of property is equal to the fair market value
(FMV) of the contributed property, defined as the price at
which, on the date of contribution, “the property would change
hands between a willing buyer and a willing seller, neither
being under any compulsion to buy or sell and both having
reasonable knowledge of relevant facts.” Sec. 1.170A-1(c)(2),
Income Tax Regs.
In general, for Federal tax purposes property is valued as
of the valuation date “on the basis of market conditions and
facts available on that date without regard to hindsight.”
Estate of Gilford v. Commissioner, 88 T.C. 38, 52 (1987)
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(emphasis deleted); see Ithaca Trust Co. v. United States, 279
U.S. 151, 155 (1929).
Subsequent events “are not considered to fix fair market
value, except to the extent that they were reasonably
foreseeable at the date of valuation.” Trust Servs. of Am.,
Inc. v. United States, 885 F.2d 561, 569 (9th Cir. 1989)
(citing Estate of Gilford v. Commissioner, supra at 52). Thus,
courts may consider relevant subsequent events if they are
reasonably foreseeable “because they would be foreseeable by a
willing buyer and a willing seller, and they therefore would
affect the valuation of the property”. Estate of Gimbel v.
Commissioner, T.C. Memo. 2006-270.
In deciding valuation issues, trial courts often receive
into evidence and consider the opinions of expert witnesses.
Helvering v. Natl. Grocery Co., 304 U.S. 282, 295 (1938).
Courts may accept the opinion of one expert over the opinion of
another expert, Buffalo Tool & Die Manufacturing Co. v.
Commissioner, 74 T.C. 441, 452 (1980), and courts may be
selective in determining which portion of an expert’s opinion
to accept, Parker v. Commissioner, 86 T.C. 547, 562 (1986).
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The dramatic difference between petitioners’ experts’5 and
respondent’s expert’s appraised values for the UA stock stems
largely from the experts’ respective conclusions as to the
proper valuation premise--whether to value UA as a going
concern.
Petitioners’ experts valued UA as of September 14, 2001,
as a going concern because they viewed the scheduled January 1,
2002, consolidation of UA into OHSUMG as uncertain.6
After careful consideration of the trial testimony and
other evidence (including letters, e-mails, minutes of
meetings, financial statements, and handwritten notes), we
conclude that as of September 14, 2001, UA should not be valued
as a going concern. The donation of UA stock was driven by the
imminent consolidation of UA (along with the other medical
groups) into OHSUMG. On the evidence, it is beyond any
reasonable question that petitioners would not have donated
their UA stock to OHSUMG had there existed any realistic
5
At trial, in addition to the Houlihan expert petitioners
presented expert testimony and an expert report from another
expert witness who valued the UA stock at $326 per voting share
and $323 per nonvoting share.
6
In their expert reports neither of petitioners’ experts
explain how or why they selected a going concern premise of
value, and they conveniently and incredibly make no mention of
the scheduled Jan. 1, 2002, consolidation.
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possibility that the consolidation would not occur by yearend
2001 or soon thereafter.
Petitioners inflate the importance of the problems and
delay relating to the OHSUMG pension plan and argue without
credible evidence that OHSUMG’s ability to provide a
governmental plan was a necessary condition for the
consolidation. OHSUMG’s ability to offer a governmental plan
clearly was not a major requirement for the planned
consolidation but simply a potential benefit of it. The fact
that the consolidation occurred without a governmental plan
belies petitioners’ argument. Further, with the exception of
self-serving testimony by petitioners at trial, there is no
evidence in the record that UA management and petitioners were
concerned in the least with the possibility that OHSUMG might
not offer a governmental retirement plan. The credible
evidence indicates that, in this regard, their only real
concern was that by the consolidation OHSUMG have some form of
pension plan in place.
In addition, the evidence establishes that as of the
September 14, 2001, UA stock donation date, it was well known
to all concerned individuals that it was highly likely that UA
and UA anesthesiologists would take part in the scheduled
January 1, 2002, consolidation. The evidence does not indicate
that UA management or petitioners at any time expressed to
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anyone that petitioners and other UA anesthesiologists had any
reservations about the planned consolidation or might decline
to participate in the consolidation. Two key UA stockholders
held OHSU or OHSUMG board or committee positions and took part
in planning and implementing the consolidation--Gunn and
Robinson. Gunn retired as UA’s C.E.O. just months before the
scheduled consolidation and was replaced with a C.A.O. who
worked almost exclusively on the consolidation.
Petitioners refer to brief statements extracted from two
e-mails and from a handwritten note to support their argument
that the January 1, 2002 consolidation was uncertain.
Petitioners, however, place inordinate weight on this evidence.
When viewed and considered in context, the statements do not
support petitioners’ argument that as of September 14, 2001,
there was uncertainty as to whether the consolidation would
occur.
While the January 1, 2002, consolidation date may not have
been set in stone, by September 2001 there was tremendous
commitment by UA, by OHSU, and by OHSUMG management to ensure
that by January of 2002 the consolidation would occur. On the
facts before us, a reasonably informed and willing buyer or
seller certainly would have known about and would have taken
into account the fact that as of September 14, 2001, there was
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an extremely high likelihood that by early 2002 UA would no
longer be an operating entity.7
For the above reasons, in their valuations of UA stock,
petitioners’ experts erred in treating UA as a going concern.
Because petitioners’ experts’ valuations are based entirely on
an incorrect valuation premise, we choose not to rely upon
their reports in determining the FMV of the donated UA stock.
Petitioners argue alternatively that even if it were known
on September 14, 2001, that on January 1, 2002, UA would no
longer be operating, the donated UA stock would at least have a
value of approximately $114 per share. We decline to rely on
7
Petitioners argue that regardless of the certainty of the
planned consolidation, as of Sept. 14, 2001, a hypothetical
willing buyer should be treated as not knowing what everyone
else in fact knew of and anticipated (i.e., the planned and
imminent consolidation), and a hypothetical willing buyer would
make an offer to buy UA stock only on the condition that UA
anesthesiologists sign long-term employment contracts and
noncompete agreements with UA. While the willing buyer and the
willing seller are hypothetical persons who are “presumed to be
dedicated to achieving the maximum economic advantage”, Estate
of Newhouse v. Commissioner, 94 T.C. 193, 218 (1990) (citing
Estate of Curry v. United States, 706 F.2d 1424, 1429 (7th Cir.
1983)), petitioners’ experts fail to take into account that the
economic “advantage must be achieved in the context of market
conditions”, see id., and that for valuation purposes the
“positing of transactions which are unlikely” is frowned upon,
Estate of Curry v. United States, supra at 1429. After UA’s
incorporation, UA employment agreements were month-to-month and
did not contain noncompete agreements. Given the clear
movement and momentum to consolidate and the UA history of no
long-term employment agreements, we find it most improbable and
highly unlikely that the UA anesthesiologists would have been
willing to enter into any such contracts, and any hypothetical
buyer must be deemed to know of that fact during the course of
his or her hypothetical negotiations to buy UA.
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petitioners’ alternative valuation of the UA stock because it
did not appear in any of the expert reports and was not
adequately explained in petitioners’ briefs.
Respondent’s expert valued UA as an assemblage of assets
because, in his opinion, it was known or knowable on
September 14, 2001, that on January 1, 2002, UA very likely
would no longer be operating.
Having concluded that UA should be treated as not
operating beyond January 1, 2002, respondent’s expert dismissed
the income approach and the market approach to valuation
because those approaches generally presume ongoing business
operations, and respondent’s expert concluded that the asset-
based approach would be the most accurate valuation method.
The asset-based approach is a method of business valuation
whereby the appraiser estimates the value of the business on
the basis of the business’s equity.
To estimate total UA equity, respondent’s expert first
estimated the FMV of UA’s assets and liabilities individually.
As is typical under the asset-based approach, respondent’s
expert examined UA’s balance sheet to determine the book value
of the assets and liabilities. To estimate the FMV of the
assets and liabilities, respondent’s expert then made
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adjustments8 to several of the book values of the assets and
liabilities and concluded that as of July 31, 2001,9 UA had
total assets valued at $3,658,887 and total liabilities valued
at $2,200,500, for a total equity value of $1,458,387.
To account for the noncontrolling, nonmarketable nature of
UA stock, respondent’s expert then applied a 35-percent lack of
control discount and a 45-percent lack of marketability
discount to the $1,458,387 UA equity value, resulting in a
discounted equity FMV of $521,373.
Respondent’s expert derived the 35-percent lack of control
discount from a study of mergers and acquisitions of publicly
traded companies in the health care industry which compared the
difference in an entity’s share price just before an announced
acquisition to the price paid per share by the acquiring
business. The study demonstrated that in 1999 and 2000 share
prices of stock in health care companies before a merger traded
at an average discount of approximately 35 percent relative to
8
In particular, respondent’s expert decreased net accounts
receivable to account for expected collection costs, created an
accrued sick leave entry to account for an estimated accrued
sick leave liability as of the valuation date, and accounted
for estimated Federal and State income taxes that would be paid
on receivables expected to be collected.
9
Because UA financial statements were dated July 31, 2001,
respondent’s expert used a valuation date of July 31, 2001, not
Sept. 14, 2001. We perceive no practical difference between
the two dates and treat respondent’s expert’s report as
applicable to the date of the donation--Sept. 14, 2001.
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their postacquisition share prices--a discount respondent’s
expert attributes to lack of control.
Respondent’s expert derived his 45-percent lack of
marketability discount from a study of restricted stock health
care companies and from a study of initial public offerings
(IPOs). The restricted stock study compared prices of freely
traded stock in public companies with those of restricted but
otherwise similar stock. The study demonstrated that from 1983
to 2000 restricted stock of health care companies traded at a
mean and median discount of approximately 39 percent relative
to their unrestricted counterparts--a discount respondent’s
expert attributed to lack of marketability. The IPO study
compared the private-market price of stock sold before a
company went public with the public-market price obtained for
the stock shortly after the IPO. The study demonstrated that
from 1975 to 1997 pre-IPO stock traded at mean and median
discounts of approximately 44 and 46 percent, respectively,
relative to the post-IPO stock prices--a discount respondent’s
expert attributed to lack of marketability.
Respondent’s expert then divided the discounted UA equity
value of $521,373 by 14,000 (the number of UA stock shares
outstanding) to arrive at a per-share value of $37 for voting
UA stock. On the basis of several studies, respondent’s expert
then applied an additional 5-percent discount to account for
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the lack of voting rights of the nonvoting UA stock, resulting
in a value of $35 per share for the nonvoting UA stock.
Petitioners have not pointed to, nor do we find,
significant flaws in respondent’s expert’s analysis or in the
studies he relied upon that would suggest his report is
unreliable, and we adopt respondent’s expert’s discounts and
conclusions of value. On the basis of respondent’s expert’s
appraisal, respondent’s concession as to the value of the UA
stock, and respondent’s concession as to petitioners’
entitlement to charitable contribution deductions relating
thereto, we conclude that on September 14, 2001, the UA voting
and nonvoting stock had a per-share value of $37 and $35,
respectively. Petitioners are entitled to charitable
contribution deductions only in the amounts now allowed by
respondent.10
Under section 6662(h) a taxpayer may be liable for a 40-
percent accuracy-related penalty on the portion of an
underpayment of tax attributable to a gross valuation
misstatement. Section 6662(h)(2)(A) provides that there is a
gross valuation misstatement if the value of property as
claimed on a tax return is 400 percent or more of the amount
10
For a recent Tax Court opinion involving a donation and
the valuation of a medical professional service corporation’s
goodwill to a tax-exempt entity and the Court’s disallowance of
claimed charitable contribution deductions relating thereto,
see Derby v. Commissioner, T.C. Memo. 2008-45.
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determined to be the correct value. However, no valuation
misstatement penalty is imposed unless the portion of the
underpayment attributable to the valuation misstatement exceeds
$5,000. See sec. 6662(e)(2).
The increased penalty under section 6662(h) will not apply
to any portion of an underpayment if the taxpayer establishes
that there was reasonable cause for such portion and that the
taxpayer acted in good faith. See sec. 6664(c)(1). However,
the exception under section 6664(c)(1) can apply to a section
170 deduction only if (1) the claimed value of the property was
based on a “qualified appraisal” made by a “qualified
appraiser”, and (2) the taxpayer made a good-faith
investigation of the value of the contributed property. See
sec. 6664(c)(2).
Respondent argues that petitioners did not act in good
faith and did not make a good-faith investigation of the value
of the donated UA stock.
We agree with respondent. From the beginning, the plan to
donate UA stock on the brink of the January 1, 2002,
consolidation was presented to UA stockholders as a way to reap
a potential “150K” windfall. Petitioners are well educated and
surely were cognizant of the imprudence of valuing the UA stock
at such a high value given the likelihood that by 2002 UA would
no longer be an operating entity.
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Petitioners were aware of the January 8, 2002, letter from
OHSUMG’s president stating that OHSUMG had decided to book the
donated stock at zero; and while the value of property in the
hands of the donee is generally not determinative of FMV, see
Estate of Robinson v. Commissioner, 69 T.C. 222, 225 (1977),
petitioners should have at least questioned the difference in
reporting by OHSUMG and by themselves. Furthermore, the fact
that petitioners were advised not to bring their own tax
advisers to the January 29, 2002, UA stockholders meeting and
were directed to withhold information from their own tax
advisers should have put petitioners on notice as to the
inaccuracy of the claimed donations.
Petitioners argue that they relied in good faith on the
Houlihan appraisal and on advice from UA’s attorney and
accountant. However, to establish good faith, petitioners
cannot blindly rely on advice from advisers, nor on an
appraisal. Kellahan v. Commissioner, T.C. Memo. 1999-210;
Estate of Goldman v. Commissioner, T.C. Memo. 1996-29. We note
that under section 1.6664-4(c)(1)(ii), Income Tax Regs., a
taxpayer will not be considered to have reasonably relied in
good faith on advice from an adviser if the advice is based on
an “unreasonable” assumption the “taxpayer knows, or has reason
to know, is unlikely to be true”. This would appear to be
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particularly applicable where no adviser is sought out who is
truly independent of the planned transaction.
We conclude that petitioners did not make a good faith
investigation as to the value of their donated UA stock and did
not act in good faith, and we conclude that the reasonable
cause exception in section 6664(c)(1) does not apply.
The value of the donated UA stock that was claimed on
petitioners’ Federal income tax returns ($401.79 per share for
voting and nonvoting stock) exceeds 400 percent of the value
determined to be correct ($37 and $35 per-share for voting and
nonvoting stock, respectively). However, whether the portion
of the underpayment attributable to the valuation misstatement
exceeds $5,000, and thus whether the 40-percent penalty under
section 6662(h) applies, will depend on the magnitude of the
underpayment of tax as calculated for each petitioner under
Rule 155.
We hold that each petitioner is liable for the 40-percent
accuracy-related penalty of section 6662(h) if, for the years
in issue, the Rule 155 calculation determines that each
petitioner’s underpayment exceeds $5,000.
Under section 6662(a) and (b)(1), a taxpayer may be liable
for a 20-percent accuracy-related penalty on the portion of an
understatement of tax attributable to negligence or to
disregard of rules or regulations. Negligence is strongly
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indicated where a taxpayer “fails to make a reasonable attempt
to ascertain the correctness of a deduction, credit or
exclusion on a return which would seem to a reasonable and
prudent person to be ‘too good to be true’ under the
circumstances”. Sec. 1.6662-3(b)(1)(ii), Income Tax Regs.
In view of the evidence before us, we conclude that
petitioners were negligent and that petitioners’ underpayments
were attributable to their negligence. We hold that to the
extent petitioners are not liable for the 40-percent penalty
under section 6662(h) (because their underpayments do not
exceed $5,000 under the Rule 155 calculation), petitioners are
liable for the 20-percent penalty under section 6662(b)(1).
These cases are decided on the preponderance of the
evidence and are unaffected by section 7491. See Estate of
Bongard v. Commissioner, 124 T.C. 95, 111 (2005).
To reflect the foregoing,
Decisions will be entered
under Rule 155.