Redemption Agreement Transferring Stock to Business Associate Was Not "Testamentary Device"; 2d Cir. Reverses TC.

• Author: Fiore, Nicholas J.

In 1934, G founded the G Corporation. P became a G shareholder in 1949 and ultimately served on its board of directors. In 1960, G and P signed a redemption agreement restricting their rights to dispose of their stock.

G wanted S, an unrelated company officer, to own and manage the company after G's death. In 1987, G, P and S met with G's attorney, and they discussed G's intent to pass his stock on to S; at the same time, they discussed the redemption of some of G's stock at his death to pay estate taxes. In July 1987, G signed a redemption agreement; it required the company to buy enough stock to cover any estate tax liability and restricted G's ability to sell or transfer his stock. G's will bequeathed to S any stock not repurchased by the corporation.

The purchase price for this stock was left blank in these agreements. G hired an accounting firm to determine its fair market value (FMV). After an extensive and involved process, an FMV was determined.

G died in 1990. On the estate tax. return, G's estate listed the value of G's stock based on the redemption price. The IRS challenged this value and assessed a deficiency against the estate. The Tax Court held for the Service; because G's redemption agreement served a testamentary purpose and the estate did not show that it reflected full and adequate consideration, the agreement did not meet the requirements of Regs. Sec. 20.2031-2 (h). The Court of Appeals (opinion Cardamone, J.) reverses: G's redemption agreement was not a testamentary device and the value of the stock fixed in the agreement should control.

When a person dies, a graduated tax is imposed on his estate, measured by the value of the property in the estate. Sec. 2031(a) provides that "[t]he value of the gross estate of the decedent shall be determined by including to the extent provided for in this part, the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated." "Value" means FMV, which is "the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts."

Determining the FMV of stock of a closely held corporation can be more complicated than discerning the value of publicly traded stock, and usually requires consideration of (among other factors) the value of stock of companies listed on an exchange that are engaged in the same line...