Est. of Strangi finally settled.

• Author: Mares, Michael E.

The long and hotly contested saga of Est. of Strangi may finally have ended. On Aug. 8, 2005, the Fifth Circuit upheld the Tax Court's determination (TC Memo 2003-145) that Sec. 2036(a) applied to the transfer of property to a family limited partnership (FLP) and affirmed that the estate should include the entire value of the property transferred to the FLP.

The recognition of FLPs and the discounts attributable to such entities have generated many bitter battles between the IRS and taxpayers. The Fifth Circuit's decision supported the IRS'S position that there must be substantial nontax reasons for creating a FLP. That court also endorsed the Tax Court's view that a FLP must actually be operated as the taxpayers say it will be operated. Both of these conclusions create potentially expensive problems for clients.

Court's Conclusions

Retained enjoyment: First, the Fifth Circuit found that the Tax Court did not err in determining that the decedent had retained possession or enjoyment of the FLP property. Repeated distributions to pay pre- and post-death expenses provided strong circumstantial evidence of an understanding that the FLP's assets would be so used.

No bona fide sale: The court also found that the Tax Court did not err in determining that the transfer to the FLP was not a bona fide sale, even though the IRS had conceded that there was adequate and Rill consideration. The court scrutinized the estate's stated reasons for forming the FLP and concluded that there were no nontax reasons for its creation. One by one, the court dismissed the estate's assertions of various business purposes. The court found minimal risk of tort litigation from the decedent's former housekeeper, who had injured herself on the job; a potential will contest never materialized and would not have been successful; there was no substantiation that the FLP's creation deterred a corporate executor from serving; the FLP did not serve as a joint investment vehicle for the decedent's children, because their contributions were de minimis; and the FLP was not involved in the active management of the assets after formation. Thus, the court concluded that the transfer was not a bona fide sale, and brought the entire value of the FLP property back into the estate.

Economic benefit: The case sends a strong message: FLP operations are as important as FLP structure. The Fifth Circuit's holding that there was an implicit retention of economic benefit was based on the fact...