SCOTUS Reports

Tag: restricted stock valuation

  • Estate of Gilford v. Commissioner, 88 T.C. 38 (1987): Valuation of Restricted Stock for Estate Tax Purposes

    Estate of Saul R. Gilford, Deceased, Lauren E. Wurster, Executor, Petitioner v. Commissioner of Internal Revenue, Respondent, 88 T. C. 38 (1987)

    The fair market value of restricted stock for estate tax purposes is determined by applying a discount to the mean of the bona fide bid and asked prices on the date of death, reflecting the stock’s restricted nature.

    Summary

    Saul R. Gilford, the largest shareholder of Gilford Instrument Laboratories, Inc. , died owning 381,150 shares of restricted stock. The estate valued these shares at $7. 35 each, while the IRS claimed a value of $24 per share, citing a subsequent merger. The court determined that the merger was not foreseeable at the time of death and thus irrelevant to valuation. Instead, it upheld a 33% discount from the mean bid and asked price of $11. 31 per share on the date of death, resulting in a fair market value of $7. 58 per share, due to the stock’s restricted nature under securities laws.

    Facts

    Saul R. Gilford died on November 17, 1979, owning 381,150 shares (about 23%) of Gilford Instrument Laboratories, Inc. , a company he founded and led as president and chairman. The stock was restricted under Federal securities laws. On the date of death, the stock’s bid and asked prices were $11. 50 and $12. 25, respectively. Approximately six months later, the estate agreed to sell the shares to Corning Glass Works for $24 per share as part of a merger.

    Procedural History

    The estate filed a federal estate tax return valuing the shares at $7. 35 each. The IRS issued a notice of deficiency, valuing the shares at $24 each based on the merger price. The estate petitioned the U. S. Tax Court, which held that the merger price was not relevant to the valuation on the date of death and upheld a discounted value of $7. 58 per share.

    Issue(s)

    1. Whether the fair market value of the decedent’s restricted stock should be determined by the mean of the bona fide bid and asked prices on the date of death, discounted due to the stock’s restricted nature?
    2. Whether the subsequent merger price of $24 per share was a reasonably foreseeable event that should be considered in determining the fair market value on the date of death?

    Holding

    1. Yes, because the fair market value of over-the-counter stock, in the absence of actual sales, is generally the mean of the bona fide bid and asked prices on the date of death, subject to a discount for the restricted nature of the stock.
    2. No, because there was no reasonable or intelligent expectation of a merger on the date of death, making the subsequent merger price irrelevant to the valuation.

    Court’s Reasoning

    The court applied the estate tax regulations, which state that the fair market value of stock traded over-the-counter is the mean between the highest and lowest quoted bid and asked prices on the valuation date. The court found that a 33% discount was appropriate due to the stock’s restricted nature under SEC rules, which limit its resale. The court rejected the IRS’s argument that the subsequent merger price should be considered, as there was no evidence of a willing buyer and seller at $24 per share on the date of death. The court also dismissed the IRS’s contention that the stock’s value should be enhanced due to its size, as no evidence supported this claim. The court emphasized that valuation is inherently imprecise and that subsequent events should not be considered unless they were reasonably foreseeable at the time of valuation.

    Practical Implications

    This decision clarifies that for estate tax valuation of restricted stock, the mean of the bid and asked prices on the date of death should be used, with an appropriate discount reflecting the stock’s restricted nature. It reinforces that subsequent events, such as mergers, are not to be considered unless they were reasonably foreseeable at the time of valuation. This ruling impacts how estates and their advisors value restricted stock, emphasizing the need to focus on the stock’s market conditions at the time of death. It also affects IRS valuation practices, requiring them to justify any reliance on post-death events. Later cases have followed this precedent, particularly in distinguishing between foreseeable and unforeseeable events in stock valuation.

  • Estate of Piper v. Commissioner, 72 T.C. 1062 (1979): Valuing Restricted Stock Held by Investment Companies

    Estate of William T. Piper, Sr. , Deceased, William T. Piper, Jr. , Thomas F. Piper, and Howard Piper, Executors, Petitioner v. Commissioner of Internal Revenue, Respondent, 72 T. C. 1062 (1979); 1979 U. S. Tax Ct. LEXIS 59

    When valuing restricted stock held by investment companies for gift tax purposes, consider the potential for registration and apply discounts for portfolio composition and lack of marketability.

    Summary

    William T. Piper, Sr. gifted all outstanding shares of two investment companies, Piper Investment Co. and Castanea Realty Co. , to his son and trusts for his grandchildren. The companies held unregistered Piper Aircraft Corp. (PAC) stock. The Tax Court determined the value of these shares for gift tax purposes, considering the PAC stock as restricted but capable of registration. The court applied a discount for registration costs, rejected discounts for prepaid expenses and potential capital gains tax, and allowed additional discounts for the companies’ undiversified portfolios and lack of marketability of the gifted shares.

    Facts

    William T. Piper, Sr. created Piper Investment Co. and Castanea Realty Co. to hold PAC stock and real estate, aiming to minimize taxes while retaining control of PAC. On January 8, 1969, he gifted all shares of these companies to his son and trusts for his grandchildren. The companies’ primary asset was unregistered PAC stock, which was actively traded on the New York Stock Exchange. Piper and his family owned about 28% of PAC stock, with Piper serving as chairman and his sons in key positions at PAC.

    Procedural History

    The Commissioner of Internal Revenue determined a gift tax deficiency for Piper’s 1969 tax return. The estate contested this valuation in the U. S. Tax Court, which held hearings to assess the fair market value of the gifted shares based on the net asset value of the companies, considering discounts for various factors.

    Issue(s)

    1. Whether the unregistered PAC stock held by Piper Investment and Castanea was restricted stock for gift tax valuation purposes?
    2. If so, what discount should be applied to the PAC stock’s market price to account for resale restrictions?
    3. Should prepaid or deferred expenses of Piper Investment and Castanea be included in their net asset value?
    4. Is a discount for potential capital gains tax at the corporate level warranted?
    5. Is a further discount for the companies’ nondiversified portfolios justified?
    6. Is an additional discount for lack of marketability of the gifted shares appropriate?

    Holding

    1. Yes, because Piper was a “control person” of PAC and could have compelled registration, the PAC stock was treated as restricted but valued at the NYSE price less registration costs.
    2. Yes, a 12% discount was applied to reflect the cost of registration and sale.
    3. No, because these expenses were already accounted for in the value of other assets, and their tax benefit was negligible.
    4. No, as there was no evidence of planned liquidation that would trigger such a tax.
    5. Yes, a 17% discount was allowed due to the companies’ undiversified portfolios.
    6. Yes, a 35% discount was applied for lack of marketability due to the absence of a public market for the shares.

    Court’s Reasoning

    The court applied the fair market value standard under Section 2512(a), considering the hypothetical transaction between a willing buyer and seller. The court found Piper to be a “control person” of PAC due to his family’s ownership and positions, meaning the PAC stock was restricted under securities laws. However, Piper could compel PAC to register the stock, thus the court valued the stock at the NYSE price minus a 12% discount for registration costs, as supported by expert testimony. The court rejected including prepaid or deferred expenses in the net asset value, as these were already reflected in other asset values and their tax benefit was too small to consider. The court also rejected a discount for potential capital gains tax due to the lack of evidence of planned liquidation. Discounts for the companies’ undiversified portfolios and lack of marketability were deemed appropriate based on market data and the nature of the assets held.

    Practical Implications

    This decision guides the valuation of restricted stock held by investment companies, emphasizing the need to assess the potential for registration and the impact of resale restrictions. It clarifies that discounts should be applied for portfolio composition and lack of marketability but not for potential capital gains tax unless liquidation is imminent. Legal practitioners should carefully analyze the control status of stock holders and consider registration feasibility when valuing similar assets. Businesses structuring investment vehicles need to be aware of how securities laws can affect asset valuation for tax purposes. Subsequent cases, such as Bolles v. Commissioner, have built on this reasoning when dealing with restricted stock valuation.