Ninth Circuit Upholds Wealth Transfer Strategy

Anne Petter inherited United Parcel Service stock in 1982, and by 2011, the stock was worth $22 million. Petter transferred all of the stock to a limited-liability company and then gave and sold to her children units of the LLC in 2002. Petter also gave units of the stock to a local nonprofit with a donor-advised fund.

Petter, who died in 2008, intended her strategy to lower the value of the stock as she sold the units. Petter claimed she was entitled to a 51% discount from the stock’s market value on the transfers to her children, but the IRS challenged and both parties later agreed on a 36% discount.

Since each LLC unit had a smaller discount than Petter assumed, it ended up taking fewer units to reach the $1 million gift-tax exemption than she had anticipated. This miscalculation caused some of the transferred units to not be covered either by the amount her children paid or by the gift-tax exemption. The IRS claimed Petter owed gift tax on these uncovered transferred units, but Petter had specified that these units would bounce to her IRS-registered charity, with no gift tax due.

In Estate of Petter v. Commissioner, the Ninth Circuit addressed the issue of whether Petter owed gift tax on the uncovered units, and the court sided with Petter. A few experts now hope that the Petter decision will one day broaden to include grantor-retained annuity trusts benefiting heirs or spousal trusts. Other experts warn, however, that the IRS has the authority to change its regulations to invalidate Petter’s wealth transfer strategy.

See Laura Saunders, IRS Loses a Gift-Tax Battle, The Wall Street Journal, Sep. 17, 2011.