1982-1 C.B. 139.
MARITAL DEDUCTION; "ESTATE EQUALIZATION CLAUSE;" ALTERNATE VALUATION DATE
SECTION 2056.--BEQUESTS, ETC., TO SURVIVING SPOUSE, 26 CFR 20.2056(b)-1: Marital deduction; limitation in case of life estate or other "terminable interest."
(Also Section 2032; 20.2032-1)
Marital deduction; "estate equalization clause;" alternate valuation date. Property passing to the decedent's spouse pursuant to an "estate equalization clause" qualifies for the marital deduction under section 2056 of the Code even though the clause allows for valuation of the spouse's estate on the alternate valuation date if elected for the estate of the decedent's.
ISSUE
For purposes of section 2056 of the Internal Revenue Code, does property passing to a decedent's surviving spouse under an "estate equalization clause" qualify for the marital deduction if the clause allows for valuation of the surviving spouse's estate on the alternate valuation date, if that date is elected for the valuation of the decedent's estate?
FACTS
The decedent, D, created a revocable trust in 1970. Under the terms of the trust, at D's death, a portion of the trust assets was to pass to D's spouse under an "estate equalization clause." D died in 1981.
The "estate equalization clause" provided that the spouse would be deemed to have died shortly after D but on the same day. The executor was directed to distribute to the spouse that portion of the trust assets that would equalize D's and the spouse's taxable estates, for federal estate tax purposes. In equalizing the estates, the spouse's estate was to be valued on the alternate valuation date if the executor elected alternate valuation for the decedent's estate under section 2032 of the Code. In valuing the estate the executor was to consider the value of the property owned by each spouse and the debts and expenses that would be attributed to each estate. The stated purpose of the clause was to obtain a marital deduction for D's estate that would result in the lowest amount of federal estate taxes on D's and the spouse's estate. The assets in the spouse's estate would be determined by the property owned by the spouse on the date of D's death. Disposition of any of those assets or acquisition of any new assets would be ignored.
The executor determined that, on D's date of death, the value of D's estate (assets less debts and expenses) was $1,000,000 and the value of the spouse's estate (assets less debts and expenses) was $500,000. Neither D nor the spouse had made any taxable gifts. On the applicable alternate valuation date, the value of D's estate was $1,000,000 and the value of the spouse's estate as $350,000.
To equalize the taxable estates to produce the lowest amount of federal estate tax, the executor used the alternate valuation date values. Property valued at $325,000 was distributed to the spouse, thereby increasing the value of the spouse's estate to $675,000. On the federal estate tax return filed for D's estate, the executor reported a taxable estate of $675,000, having deducted $325,000 as the marital deduction from the decedent's estate of $1,000,000.
If the date of death values had been used, property valued at $250,000 would have been distributed to the spouse. The executor would have claimed a marital deduction of $250,000, and the values of the decedent's taxable estate and the spouse's taxable estate would have each been $750,000.
LAW AND ANALYSIS
Section 2056(a) of the Code allows a marital deduction for the value of any interest in property that is included in the decedent's gross estate and that passes from the decedent to the surviving spouse.
Section 2056(b) of the Code provides that certain terminable interests do not qualify for the marital deduction.
Section 20.2056(b)-1(b) of the Estate Tax Regulations provides that a "terminable interest" in property is an interest that will terminate or fail on the lapse of time or on the occurrence or the failure to occur of some contingency. Section 20.2056(b)-1(c) of the regulations provides that a property interest that is a terminable interest, as defined above, is nondeductible if another interest in the same property passed from the decedent to some other person for less than an adequate and full consideration in money or money's worth, and because it passed, the other person may possess or enjoy any part of the property after the termination or failure of the spouse's interest.
Section 2032(a) provides that the executor may elect to determine the value of the property included in the gross estate as of 6 months after the decedent's death. However, property distributed, sold, exchanged, or otherwise disposed of within 6 months after death must be valued as of the date of distribution, sale, exchange, or other disposition.
In Jackson v. United States, 376 U.S. 503 (1964), Ct.D. 1889, 1964-2 C.B. 522, the Court considered whether a 24-month support allowance awarded by the state court under California law qualified for the marital deduction. The Court held that the date of the decedent's death is the correct point of time to determine the nature of the spouse's interest for purposes of the terminable interest rule. As of the date of death, the widow's allowance was not indefeasibly vested. Instead, it was subject to termination or failure because (1) under California law, the spouse would not have been entitled to any allowance at all if the spouse had died or remarried before the allowance order was entered, and (2) the allowance, once ordered, would terminate on the spouse's death or remarriage during the 24 months. Accordingly, the allowance was a non-deductible terminable interest that did not qualify for the marital deduction.
In Estate of Smith v. Commissioner, 565 F.2d 455 (7th Cir.1977), aff'g 66 T.C. 415 (1976), nonacq. 1978-2 C.B. 4, the Service contended that the surviving spouse's interest in property passing to a marital trust under an "estate equalization clause" was a non-deductible terminable interest. Relying on Jackson, the Service contended that, because the executor was allowed to value the spouse's estate on the alternate valuation date, the spouse's interest in property passing under the clause was not indefeasibly vested until (1) the value of the spouse's estate had been ascertained on the alternate valuation date and (2) the trustee decided what property would be distributed to the marital deduction trust for the purpose of equalizing the taxable estates. On the decedent's date of death, it was not known whether any portion of the decedent's property would be distributed to the marital deduction trust because the value of the spouse's "estate" could have exceeded the value of the decedent's estate. The Service argued that spouse's interest in property passing under the "estate equalization clause" was contingent or subject to divestment upon an event, the valuation of the spouse's "estate," that would occur after the decedent's date of death. Therefore, the Service took the position that the spouse's interest passing under the clause was a terminable interest that, upon lapse or failure, would pass to others designated by the decedent.
The Tax Court held that the terminable interest rule, as stated in Jackson, did not apply to the "estate equalization clause" in Smith. The Court found that in Smith the trustee's option to value the spouse's estate on the alternate valuation date affected the value of the interest passing under the "estate equalization clause" rather than its character. The court reasoned that, although the value of the interest in the marital deduction trust would remain unknown until a later time, the spouse was nevertheless indefeasibly vested in the interest in the trust upon the decedent's death. Therefore, the marital deduction was allowed for the property passing to the trust under the clause. The Court of Appeals, Seventh Circuit, affirmed the Tax Court and held that the spouse's interest was not a nondeductible terminable interest because the interest was vested and could not terminate after the decedent's death even though the value of the interest remained to be determined. Accord, Estate of Laurin v. Commissioner, 645 F.2d 8 (6th Cir.1981), aff'g T.C.M. 1979-145 and Estate of Meeske v. Commissioner, 72 T.C. 78 (1979) Acq., see page 1, this Bulletin.
The Internal Revenue Service will follow the decisions in Smith, Laurin, and Meeske, and will allow a marital deduction under section 2056 of the Code for property passing under an "estate equalization clause" in which the executor has an option to value the spouse's estate, for equalization purposes, on the alternate valuation date, if that is elected for the valuation of the decedent's estate. The Commissioner's nonacquiescence in Smith is withdrawn. See page 1, this Bulletin.
In the present situation, a marital deduction of $325,000 is allowable to D's estate for property passing to spouse under the "estate equalization clause." The fact that the executor could value the spouse's estate on the alternate valuation date does not affect the allowance of the marital deduction.
HOLDING
For purposes of section 2056 of the Code, property passing to a surviving spouse under an "estate equalization clause" qualifies for the marital deduction even though the clause allows for valuation of the spouse's estate on the alternate date if elected for the decedent's estate.
Rev. Rul. 82-23, 1982-1 C.B. 139.