Bona fide sales in the estate environment.

• Author: Ryan, Daniel E.

Many tax advisers have faced a situation in which an elderly couple--for various reasons--either never considered or procrastinated in implementing a wealth preservation plan. Because it is difficult to determine whether the couple will live an additional three years, time is of the essence in planning for the removal of assets from their estates. Often, a starting point is a family limited partnership (FLP) or limited liability company (LLC), to protect and diversify the family's investments, wealth and commercial endeavors. Entity formation (including ownership and controlling agreement), funding and operation planning are done to prevent the IRS from pulling transferred assets back into the estate.

Both Secs. 2035 and 2036 operate to pull back into an estate certain assets transferred. Sec. 2035 recasts assets transferred within three years of the taxpayer's death; Sec. 2036 has no time limit on inclusion. Both sections contain exceptions for transfers constituting a bona fide sale for an adequate and full consideration in money or money's worth. This has been (and, most likely, always will be) a facts-and-circumstances test without a bright-line test or safe harbor. Thus, prudent tax advisers should implore their clients to make good business decisions, keep their fact patterns in line with the cases and rulings that have treated transfers as bona fide sales and avoid those that have recast transfers and included them in the decedent's gross estate. This item looks at two recent rulings dealing with post-transfer estate inclusions that have held differently based on the facts-Est. of Stone, TC Memo 2003-309, and Letter Ruling (TAM) 200432015.

Background

The bona fide sale requirement mandates a good faith, arm's-length transaction. In Mollenberg's Est., 173 F2d 698 (2d Cir. 1949), the Second Circuit stated, "[t]he word 'sale' means an exchange resulting from a bargain.... "According to the Merriam-Webster Online Dictionary (www.m-w.com), a "bargain" is "an agreement between parties settling what each gives or receives in a transaction between them or what course of action or policy each pursues in respect to the other" This point is extremely important in illustrating the part that negotiations and their documentation play in determining whether a transfer is at arm's length. Often, cases fall short of the requirement of a transfer, because no bargaining occurs between the potential partners in the new entity, in many scenarios...