The head of the planned giving program is often requested by the head of development and/or finance to estimate the organization’s share of a deceased supporter’s estate. Usually, the executor or legal counsel is cooperative in providing a rough estimate of any residuary shares. Before communicating a number, the planned giving officer needs to understand how any “soft” or “hard” estimate was calculated.
So imagine your charity and another are respectively the 25% and 75% beneficiaries of the residuary estate consisting entirely of a real estate holding company. The estate’s lawyer informs you that the entire holding company is valued at $1,000,000 on the federal estate tax return. Your charity’s interest is easily determined to be $250,000, one-fourth of the value. Correct? Maybe or maybe not! While the full value of the property is includable in the gross estate because no restrictions are on the shares at death, the estate tax charitable deduction will be less than the full value. How can that be?
Estate of Warne v. Commissioner1 reminds charities the value of their shares must reflect discounts for lack of marketability and control.
At the time of Miriam Warne’s passing in February of 2014, she left shares in Royal Gardens of 75% to her family foundation and the remaining 25% to her church. The Tax Court redetermined the value for gift and estate purposes and upheld the IRS’s determination that a discount should be applied for the property and split 75% and 25% between charitable donees. The taxpayer unsuccessfully argued that discounts were inapplicable since the entire business interest passed to charity. The Tax Court disagreed, seeing the gifts as two separate transfers to two distinct charities with discounting required.2
The court ruled that the estate could only deduct the discounted interests received by the church and family foundation. The church’s interest was discounted approximately 27% for a minority interest and lack of marketability. The family foundation’s interest was only 4%. The discount was modest because the operating agreement covering the business provided significant power to unilaterally dissolve the business.
Broader Impact of Estate of Warne
While this case revolved around the amount of the charitable deduction, its implication reaches the marital deduction. A planned giving officer might review an estate plan with the unified credit amount in trust to a surviving spouse with any excess to charity and conclude no federal estate tax will be owed. That will not be the case, because of the need for discounting for any illiquid and/or minority interests in the property. For your philanthropic donors intending to provide a business interest to charity, care should be taken to avoid the division of the business into majority and minority interests. Failure to do so may mean your charity could be receiving less than its pro rata share in a business.
By Professor Chris Woehrle, Chair & Professor of Tax & Estate Planning Department, College for Financial Planning, Centennial, Colorado
2. The Tax Court in Warne relied on the reasoning of Ahmanson Foundation v. United States, 674 F.2d 761 (9th Cir. 1981). Specifically the Warne court at page 53 said: “The valuation of these same sorts of assets for the purpose of the charitable deduction, however, is subject to the principle that the testator may only be allowed a deduction for estate tax purposes for what is actually received by the charity—a principle required by the purpose of the charitable deduction. In short, when valuing charitable contributions, we do not value what an estate contributed; we value what the charitable organizations receive.” See Ahmanson Foundation at pp. 765-766, 768. ↵
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