Estate of Turner v. Commr - IRS Wins FLP Case on 2036 Issue

In a recent decision, the Tax Court found in favor of the IRS in holding that the value of property a Decedent transferred to his family limited liability partnership (FLLP) was includible in his estate under IRC Section 2036 and subject to estate tax. This is yet another case of bad facts - the Decedent commingled funds, paid for certain partnership obligations out of his own pocket, used partnership funds to pay personal obligations, received distributions from the partnership that were not made to other limited partners, etc.

In determining whether a significant nontax business purpose existed for establishing the partnership (so as to be within the exception to the bona fide sale requirement of Section 2036), the court considered whether the partnership's stated purposes of asset consolidation and centralized management pursuant to a formal strategy were valid. Decedent and his wife essentially transferred marketable securities, fixed income investments, cash and certificates of deposit to the FLLP in exchange for general partner and limited partner interests. The court found that asset management was not a significant nontax business purpose here, noting that the partnership assets required no active management or special protection. In addition, the court held that the Decedent did not have a unique or distinct investment philosophy that he hoped to perpetuate. Finally, the court rested its decision on its finding that the portfolio of marketable securities held by the FLLP did not change in a meaningful way, and any assets that were added to the portfolio had a risk/return profile similar to those that were already contributed to the partnership.

On an unrelated issue, the court discussed whether certain transfers Decedent had made to an irrevocable life insurance trust were includible in his estate as gifts of a future interest given that (1) Decedent had paid the premiums on the policies directly to the insurance company, and (2) no Crummey notices were issued to the beneficiaries. The court found in favor of the taxpayer on this issue, noting that because the terms of the trust gave each of the beneficiaries the absolute right and power to demand withdrawals from the trust after each direct or indirect transfer to the trust, the fact that Decedent did not transfer money directly to his trust is irrelevant. The court additionally noted that the fact that some or even all of the beneficiaries may not have known they had the right to demand withdrawals from the trust does not affect their legal right to do so.

Estate of Turner v. Commr., TC Memo 2011-209.