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Donee's Liability for Donor's Unpaid Gift Tax Is Capped at Gift Amount, Fifth Circuit Holds.

(Parker Tax Publishing September 10, 2015)

A donee's liability for a donor's unpaid gift tax and interest is capped by the amount of the gift; thus, to the extent a district court's judgment imposed liability on the donees beyond the value of the gifts received, that judgment was reversed. U.S. v. Marshall, 2015 PTC 292 (5th Cir. 2015).

Background

In 1995, J. Howard Marshall, II sold his stock in Marshall Petroleum, Inc. (MPI) back to the company. Because he sold it back for a below-market price, the sale increased the value of the stock of the remaining five shareholders: (1) a Grantor Retained Income Trust (GRIT), which paid income to Marshall's former wife, Eleanor Stevens, and which was funded with MPI stock received by Stevens in her divorce from Marshall; (2) Marshall's son, E. Pierce Marshall; (3) E. Pierce's wife, Elaine; (4) the Preston Marshall Trust (formed for the benefit of J. Howard's grandson, Preston Marshall); and (5) the E. Pierce Marshall, Jr. Trust (formed for the benefit of J. Howard's grandson, E. Pierce Marshall, Jr.). At the time that he made the indirect gift, Marshall did not pay gift taxes. He passed away shortly after making the gift.

While the donor of a gift is primarily responsible for paying the gift tax on the gift, Code Sec. 6324(b) provides that the donee becomes personally liable for such tax to the extent of the value of such gift when the donor does not pay the gift tax. Because the term "tax" includes interest and penalties, the donee can be held liable for the interest and penalties for which the donor is liable. Donee liability is several, meaning that the donee can be held liable for the full amount of the gift tax that the donor owes, regardless of what portion of the gift the particular donee may have received of the total amount distributed, subject to the cap in Code Sec. 6324(b).

After several years of negotiations over Marshall's tax liability for his indirect stock gift, the IRS and Marshall's Estate entered into a stipulation that determined the value and recipients of the indirect gifts. Marshall's Estate still did not pay the gift tax and, under Code Sec. 6324(b), the IRS tried to collect the unpaid gift tax from the donees. E. Pierce and Eleanor Stevens had subsequently died and their estates became subject to the IRS's assessments. E. Pierce's Estate paid approximately $45 million toward the unpaid gift tax for the benefit of donees E. Pierce, Elaine, the Preston Trust, and the E. Pierce Jr. Trust. Stevens' Estate argued that Stevens was not the donee of Marshall's 1995 gift because she did not personally own any MPI stock at the time of the gift.

In 2010, the IRS brought suit against the donees, seeking to recover the unpaid gift taxes and to collect interest from the beneficiaries. The IRS argued that it could charge interest pursuant to Code Secs. 6601 and 6621 on the unpaid donee liability created by Code Sec. 6324(b). According to the IRS, there were two separate obligations: the obligation of the donor and the obligation of the donee. Code Sec. 6324(b), the IRS said, only limited the obligation of the donor, and so the donee's liability for the unpaid gift tax was not capped under Code Sec. 6324(b). The IRS also sought to recover from two individuals E. Pierce Marshall, Jr. and Finley L. Hilliard who, as representatives of various estates and trusts, allegedly paid other debts before paying those owed to the IRS.

The district court agreed with the IRS and found that (1) the donees had an independent liability under Code Sec. 6324(b) that was not capped at the value of the gift, and (2) this independent liability was subject to interest under Code Sec. 6601. The district court found that the donees were liable to the IRS for interest on their independent liability for the unpaid gift tax. The court also held that Stevens was a donee of Marshall's indirect gift and Hilliard and E. Pierce Jr. were individually liable for several of the debts they paid as executors and trustees. The court also held that E. Pierce Jr. breached his fiduciary duty under state law by failing to pay taxes on behalf of Stevens' Estate. The donees appealed to the Fifth Circuit.

Analysis

The Fifth Circuit held that a donee's liability for a donor's unpaid gift tax and interest is capped by the amount of the gift and thus reversed the district court's judgment to the extent it imposed liability on the donees beyond the value of the gifts. According to the court, the statute's text did not support the IRS's position. The court noted that its interpretation of Code Sec. 6324(b) was in accord with the Third Circuit's decision in Poinier v. Comm'r, 858 F.2d 917 (3d Cir. 1988) and the Eighth Circuit's decision in Baptiste v. Comm'r, 29 F.3d 433 (8th Cir. 1994). However, the court observed, the Eleventh Circuit has held otherwise and has disagreed with the Third and Eighth Circuits holdings on this issue, thus creating a split in the circuits.

The Fifth Circuit affirmed the district court's conclusion that Stevens was a donee of Marshall's stock gift. The court cited the Supreme Court's decision in Helvering v. Hutchings, 312 U.S. 393 (1941), where the Supreme Court held that gifts to a trust were gifts to the trust beneficiaries and that the trust beneficiaries were eligible for a gift tax exclusion under Code Sec. 2503(b). Based on that holding, the Fifth Circuit agreed with the district court which saw no reason why the definition of "donee" for purposes of the gift tax exclusion would be different than the definition of "donee" for the purposes of donee gift tax liability.

The Fifth Circuit also held that Hilliard and E. Pierce Jr. knew of the potential liability to the IRS, and thus, the Federal Priority Statute applied to hold them personally liable for various expenses, including accounting and legal fees, they paid out of the trusts and estates. However, the court reversed the district court as far as it held that E. Pierce Jr. breached his fiduciary duty under state law. According to the court, E. Pierce Jr. did not owe the Stevens Estate's creditors (i.e., the government) a fiduciary duty under Texas law.

For a discussion of donee gift tax liability, see Parker Tax ¶262,530. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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