Posted on February 22, 2017 in
Small Business Law
The following story should serve as a word of warning to those who try to get too far ahead of the tax code. Corporate structuring, trusts and insurance products offer unparalleled benefits to those who know how to use them. The risk is when one becomes too greedy. The following story should help us remember the old adage about death and taxes. It’s something we often have to remind clients about. Why try to save an extra few percent when you are forced to gamble everything else on it? Be happy about what you have and don’t dwell you couldn’t reduce your rate a further 1%.
The Eighth Circuit affirmed a Tax Court ruling that transfers of stock by a decedent to his brother’s family were actually indirect gifts of stock to his own children. Anyone attempting to maximize lifetime giving with gift tax annual exclusions should understand that plans involving reciprocal transfers to receive extra exclusions, as in this case, do not generally work unless the transferors can prove a valid business purpose to the transfers.
Robert Schuler and his brother George devised such a plan with the help of their insurance agent. The brothers owned stock in two companies (Company A and Company B) and wanted to transfer the ownership of the companies to their children. Robert and his wife would transfer their stock in Company A to their children, and George and his wife would transfer their stock in Company A to Robert’s children. The same process would be completed for Company B, but George’s children would receive the shares.
The reciprocal transfers were completed in December of 1994 and January of 1995. In total, Robert transferred stock valued at $440,467.20 (nearly $20,000 per recipient per year) to George’s family, and George transferred stock valued at $382,140 to Robert’s family. After Robert’s death, his estate claimed that each gift qualified for the annual gift tax exclusion. However, the IRS determined that Robert’s transfers to George’s children were indirect gifts to his own children. The service disallowed the annual exclusions for the gifts and determined a deficiency of $215,758.
Before the Tax Court, the estate argued that the transfers had a valid business purpose: to divide the ownership of the two companies so that Robert’s family owned Company A and George’s family owned Company B. The Court rejected this argument on several points. Most notably, the transfers only shifted about 5% of the ownership of Company B from Robert’s family to George’s. Also, Robert had transferred some shares of Company A to George’s children as well as his own, and George had transferred some shares of Company B to Robert’s children.
The Court concluded that the brothers had made the reciprocal gifts for the sole purpose of receiving extra annual exclusions. What we see here is clear evidence of demanding too much from a given situation. We must advise our clients to work within the confines of the law, not to bend the law and hope to get away with it. Besides, a well worked strategy provides peace of mind that isn’t present when one has “skeletons in the closet” so to speak. Learn more at the Cloud Peak Law website.
We begin our intake sessions with a simple questionnaire to get a feel for what our clients intents are. For example, our corporate structuring can be seen as aggressive, but we do not want to attract unsavory clients as a result of this. This is why we clearly advise clients that, for example, anonymous LLC ownership should not promote illicit activities or the avoidance of taxes. It should merely be used to keep yourself out of the public eye. Similarly, a Wyoming holding company set-up is designed to minimize taxes not to eliminate them entirely.