Valuation formula clause will not be respected for gift tax purposes.

• Author: Fiore, Nicholas J.
• Position: Estates, Trusts & Gifts

In Date 1, D and S formed Partnership P. D transferred assets to P in exchange for a P limited partnership (LP) interest. S transferred assets in exchange for the general partnership interest and P's remaining LP interest. The terms of P's partnership agreement required the unanimous consent of the partners for the admission of an assignee of a partnership interest as a new partner, and permitted P to redeem certain assignee interests held by charities at fair market value.

On Date 2, D transferred his entire LP interest to S and two charities. S agreed to assume liability for the payment of any transfer taxes imposed on D as a result of the transfer. The transferred interest was to be divided among the transferees according to a formula that allocated the partnership interests among the donees based on value. The first portion of value was allocated to S, the next portion of value was allocated to one charity and all remaining value was allocated to the other charity. As a result of the allocation, S received an LP interest, the first charity received an LP interest and the second charity received an LP interest. No negotiation occurred among S and the charities as to the accuracy of the appraisal on which the allocation was based.

Approximately six months later, S redeemed the two charities' interests. Based on a second appraisal, each charity received cash. Each charity executed a release acknowledging payment in full and releasing P "of any and all obligations, including, but not limited to (1) any and all obligations pursuant to the call agreement and (2) any and all obligations pursuant to the [P agreement]."

The IRS determined a different value for the transferred interest. D argued that, even if the Service's determination was sustained, under a formula clause, any value in excess would pass to the second charity, with the result that any valuation adjustment would be offset by an increased charitable deduction.

Analysis

Under Sec. 2511(a), a gift tax imposed by Sec. 2501 applies to transfers in trust or otherwise, whether the gift is direct or indirect and whether the property is real or personal, tangible or intangible, Regs. Sec. 25.2511-1(c)(1) provides that the gift tax applies to any transaction in which an interest in property is gratuitously passed or conferred on another, regardless of the means or device employed. Under Regs. Sec. 25.2511-1(h)(1), a gift to a corporation is a gift from the donor to the stockholders to the...