Alternate Valuation for Estate Tax Only Reflects Market Changes

Generally, the value of a deceased individual's property is determined on the date of death. However, the person's estate can opt to use an alternate valuation date, which is 6 months after the date of death. If the estate sells assets during this 6-month period, then the actual value of the property on the transfer date controls for estate tax purposes. What post-death factors can be taken into account in determining value on this latter date?

Tax Court position

In 2006, the Tax Court was faced with the question of whether an estate could be valued on the alternate valuation date using certain facts that occurred after death. The decedent had owned stock in a corporation that underwent a tax-free reorganization 2 months after his death. (The tax-free reorganization is not equivalent to a sale.) His estate chose to accept new stock that was subject to restrictions. The estate valued the new (replacement) stock on the alternate valuation date using valuation discounts that reflected these restrictions (lack of marketability).

The Tax Court decided that valuation discounts attributable to restrictions imposed on closely held corporate stock during the post-death reorganization of the corporation should be taken into account in valuing the stock on the alternate valuation date.

The IRS did not agree with this decision and issued a "nonaquiescence."

Proposed regulations

The alternate valuation date was created in the 1930s in the wake of the stock market crash of 1929; estates that had been worth a lot prior to Black Monday were greatly diminished or wiped out after that date. It was designed to alleviate the hardship that heirs could experience during the months following death; Congress didn't want to add to their plight the impact that external factors could have on valuation.

The new proposed regulations make it clear that the only post-death factors taken into account in valuation are market conditions. Actions by the estate which can reduce value are disregarded. Examples of market conditions impacting value for alternate valuation include:

• Drop in the stock market, which brings down the value of publicly traded stock.
• Adverse changes in market conditions, which bring down the value of privately held stock.

The proposed regulations also contain examples of post-death actions or events that do not change the value of stock in the absence of any changes in market conditions. These include:

• Undergoing a tax-free reorganization after death in which the new stock is subject to restrictions. (The proposed regulations would effectively reverse the 2006 Tax Court decision.)
• Forming a family limited partnership (FLP) after death, in which the estate obtained a minority interest.
• Distributing interests in a limited liability company (LLC) after death, which was wholly owned by the decedent so that by the alternate valuation date the estate held a minority interest in the LLC.
• Transferring interests in realty after death to two trusts, one owning a 70% interest in the property and the other a 30% interest. Each of these interests are valued at the date of transfer according to their respective share of 100% of the value of the realty (70% of 100% and 30% of 100%).

Note: The proposed regulations must be considered and adopted. If they are adopted, they will apply to estates of decedents dying on or after April 25, 2008.

Source: Proposed regulations; REG-112196-07; 4/24/08