Alternate valuation: the silver living to the cloud over the market.

• Author: Pratt, David A.
• Position: Tax planning regarding estates

The Silver Lining to the Cloud Over the Market?

The alternate valuation election is a valuable post-mortem tax planning technique that is often overlooked, especially in a bull market. This article discusses the election and reminds practitioners that when the stock market declines subsequent to a decedent's date of death, the election can result in a significant amount of estate tax savings.

The world heard a collective groan in the late summer and early fall of 1998 when the stock market declined significantly for the first time in recent memory. At the time of the plunge, most investors were too distressed over their own potential losses to consider whether anything good could actually come out of such a disaster. Potential estate tax savings via an alternate valuation election on an estate tax return may be the one positive "gain" from the negative market. The purpose of this article is to summarize the requirements and various considerations of alternate valuation and remind practitioners that all is not lost during the inevitable periods of market decline.

Consider the following: The Dow Jones industrial average closed on April 1, 1998, at 9,162.27. Six months later, on October 1, the industrial average closed at 7,632.53, a decline of more than 1,200 points, or approximately 14 percent. If the value of the assets of a decedent who died on April 1,1998, decreased by 14 percent six months later, the estate tax liability would also decrease significantly. For example, if the value of a decedent's assets on April 1 (date of death) were $5,000,000, the estate tax liability would be $2,188,750. If the value of the assets were $4,300,000 on October 1 (the alternate valuation date) and an alternate valuation election was made, the estate tax liability would be $1,803,750. This represents an estate tax reduction of $385,000.

Generally, the value of a decedent's gross estate is the fair market value of all of the decedent's property as of the date of his or her death,[1] unless the "alternate valuation method" under [sections] 2032 is elected.[2] Alternate valuation "permit[s] a reduction in the amount of tax that would otherwise be payable if the gross estate has suffered a shrinkage in its aggregate value in the six months following the decedent's death."[3] If elected,[4] [sections] 2032(a) provides that the gross estate is valued as of the date which is six months after the decedent's date of death,[5] except:

1) With respect to the decedent's property that is distributed, sold, exchanged, or otherwise disposed of within six months after date of death, such property is valued as of the date of such distribution, sale, exchange, or other disposition,[6] and

2) With respect to any interest in the decedent's estate which is affected "by mere lapse of time," such interest is valued as of the decedent's date of death with adjustments for any valuation differences not due to mere lapse of time as of the appropriate alternate valuation date.[7]

Distributions, Sales, Exchanges....

The phrase "distributed, sold, exchanged, or otherwise disposed of" includes all possible ways by which property ceases to be part of a decedent's gross estate, but does not include "transactions which are mere changes in form."[8] In Revenue Ruling 57-495, the IRS concluded that the division of a trust into "two equal parts" in order to facilitate the payment of income to the life beneficiaries was not a "distribution" within the meaning of [sections] 2032(a) because the trust "[did] not cease to form a part of the decedent's gross estate by reason of the division of the assets of the trust."[9] In Revenue Ruling 73-97, the IRS distinguished Revenue Ruling 57-495 and ruled that the division of a trust into "separate trusts" for each of the decedent's children was a distribution within the meaning of [sections] 2032(a) because "the trust that formed a part of the decedent's gross estate ceased to exist when the terms of the trust instrument were implemented and the corpus of the original trust was transferred ... and delivered to the trustee of the successor trusts."[10]

The regulations provide who may distribute, sell, exchange, or otherwise dispose of property, and when such distribution, sale, exchange, or other disposition is considered complete.[11] The personal representative or trustee of property included in the gross estate may distribute property; such a distribution is considered to have occurred upon the earlier of 1) an order or decree of distribution, if such order/decree subsequently becomes final; 2) the segregation of the property from the estate/trust so that it becomes unqualifiedly subject to the demand of the distributee; or 3) the actual...