Can Family Limited Partnerships Still Lead to Fields of Gold?

The Sting of IRC Section 2036(a) Strikes Again

Also on May 20, 2016, [the estate planning attorney’s] office filed a certificate of formation for AM Fields Management with the Texas secretary of state. Three days later, on May 23, 2016, [the estate planning attorney’s] sent an email to [the appraiser] attaching a draft of the partnership and company agreements for AM Fields [, LP] and AM Fields Management, respectively, and asking [the appraiser] for “any comments [he might have] . . . regarding the terms that might be useful in obtaining a deeper discount.”

Estate of Fields v. Commissioner, T.C. Memo 2024-90

Table of Contents

1. Background

2. The Tests

3. Differences from Powell

4. Bona Fide Sale

5. The Good Stuff, or Bad Stuff

6. Bonus: IRC Section 2043

Background

For over 20 years, the IRS has been challenging transfers to family limited partnerships that are motivated by pursuit of valuation discounts (usually for lack of control and lack of marketability).  Perhaps the case that struck the most fear into practitioners was Estate of Nancy Powell v. Commissioner, a Tax Court opinion issued on May 18, 2017 (147 T.C No. 18) – involving end-of-life transfers to a family limited partnership by an agent under a power of attorney, coupled with the claim of an estate tax discount for a 99% limited partnership interest retained by the decedent.  In Powell, the IRS successfully argued that IRC Section 2036(a) applied, thus including the decedent’s capital contributions to such partnership (initiated by their attorney-in-fact) in the decedent’s gross estate.

Twelve months before Powell was issued, another individual – Ms. Fields – was facing a grim health prognosis due to advanced dementia, a history of falls, and hospitalization for a heart attack.  A few years prior, she had appointed her great nephew as her attorney-in fact.  So, her nephew exercised his authority under the durable power of attorney to (1) create a management company, to be owned and managed by him, and (2) create a family limited partnership, to which a significant portion of Ms. Fields assets (just over $17 million) would be contributed in exchange for a limited partnership interest.  The management company contributed $1,000 in exchange for a general partnership interest. 

A month later, Ms. Fields died. 

Ms. Fields’ nephew actually held back some assets (liquid and personal use) for her care instead of putting all of her assets into the partnership.  There was a problem, however.  These assets were not sufficient to satisfy (1) specific cash bequests under the will of Ms. Fields totaling $1,450,000, (2) a specific gift of stock that was itself contributed to the family limited partnership, and (3) any anticipated estate tax liability, which would have been owed regardless of any discount in the valuation of the limited partnership interest.  These bequests and expenses had to be recouped from the family limited partnership itself.

Which, speaking of, a valuation discount was claimed for Ms. Fields 99.9941% limited partnership interest.  After subtracting a 15% discount for lack of marketability and a 20% discount for lack of control, an estate tax value of $10,877,000 was reported on the 706.  A Notice of Deficiency was issued, in which the IRS asserted that IRC Sections 2036(a)(1) and (a)(2) applied to the lifetime contributions by Ms. Fields (through her nephew as attorney-in-fact) to the family limited partnership.  After the estate’s petition to the Tax Court, the Court issued a Memorandum Opinion on September 29, 2024 in Estate of Fields v. Commissioner, T.C. Memo 2024-90.

The Tests