Eight Circuit Upholds Formula Disclaimer
A synopsis of the article is below:
In a “Friday the 13th” decision, the Eighth Circuit Federal Court of Appeals dealt a crushing blow to the IRS’s position of refusing to recognize “defined value” types of clauses. In Estate of Christiansen, a sole beneficiary disclaimed all of the estate (under a fractional formula) in excess of $6,350,000. The disclaimed assets passed 75% to a charitable lead annuity trust (“CLAT”) and 25% to a foundation. The IRS and the estate agreed to increase the value of the gross estate from $6.5 to $9.6 million. The Tax Court held that the disclaimer as to the 75% that passed to the CLAT did not satisfy all the technical disclaimer requirements (so the estate owed estate tax on that portion of the increase value of the estate). The estate did not appeal that aspect of the case. As to the 25% that passed to the foundation, the technical disclaimer problem did not exist, and the IRS argued that a charitable deduction should not be permitted for the increased value for two reasons. First, any increased amount passing to the charity was contingent on future events in violation of a charitable deduction regulation. Second (and more importantly in the broader planning context), the transfer violates public policy because it reduces the IRS’s incentive to audit estate tax values. The Eighth Circuit rejected both of the IRS’s arguments. Many of the reasons for rejecting the public policy reasons apply generally to certain types of defined value clauses.
The case is especially important because of its implications for defined value transfers, such as (1) a transfer that is made and allocated between a “taxable” and “non-taxable” portion based on gift or estate tax values or based on agreement of the parties, or (2) a transfer in which the amount transferred is defined by a formula referring to gift or estate tax values. A redetermination of value by the IRS operates much like under a standard marital deduction formula clause, where an increased value allocates a larger value to the surviving spouse but does not generate additional estate tax. A major uncertainty has been whether courts will uphold inter vivos defined value transfers against a public policy attack (even though standard marital deduction formula clauses in wills have operated in that same manner for decades). This case appears to be a bellwether case in leading the way to upholding defined value transfers despite attacks by the IRS on public policy grounds.