LEGAL GUIDE
Written by attorney Martin L Bearg | Jan 23, 2012

INCLUSION AND EXCLUSION OF NOTES IN TAXABLE ESTATE

ESTATE OF DWEIGHT T. FUJISHIMA

Dwight T. Fujishima passed away intestate (without a will) in January of 2005. There were two keyquestions presented to the Tax Court following an audit of Mr. Fujishima’s Federal Form 706:(a)whether the taxable Estate should be increased to include a certain note receivable issued by a publicly traded company - Conseco, Inc. (“Note Receivable"), and (b) whether the Estate was entitled to a deduction for $175,000 allegedly owed by the Decedent to his mother (“Note Payable").

Note Receivable:

At the time of his passing in 2005, the Decedent held the Note Receivable from Conseco Inc., a publicly traded company, that matured in 2008. At the same time, the Decedent was also the holder of 273 shares of Conseco Inc. shares which were trading at $19.05 per share. According to the brokerage statement received from the Decedent’s money management firm, the Note Receivable’s current price was “Not Available". The brokerage statement stated: “This unpriced security is not reflected in your total portfolio value."

The executor of Mr. Fujishima’s Estate interpreted the brokerage statement to mean that the Note Receivable was worthless and did not report the Note Receivable as part of the Estate.

The Tax Court ruled (Judge Cohen sitting) that the brokerage statement simply indicated that the value had to be determined from another source, but not that the Note Receivable was not worthless. The Court reasoned that the debt of a company can not be worthless when the company’s stock is trading at $19.05 per share.

Note Payable:

Under Section 2053 of the Internal Revenue Code, the value of an estate may be determined after deducting valid and enforceable claims against the estate. The Decedent’s mother claimed that the Decedent owed her $175,000 for her care of him during his final days. A supplemental stipulation purported the existence of a promissory note, dated in 2000, which was never produced for the IRS or the Tax Court. Ms. Fujishima testified that she did not keep any records showing amounts that she provided for his care, or any amounts paid on the note. Judge Cohen stated that she was not persuaded that the debt was a bona fide indebtedness and, therefore, ruled that the deduction could not be allowed.

Conclusion

At the end of the day, the two issues concerning the Note Receivable and the Note Payable made for a relatively straightforward decision for Judge Cohen. When it comes to note instruments, whether in the form of an asset or a liability, documentation is everything. The Decedent had the ability and cash to structure a real note with his mother to compensate her for her services and, at the same time, ensure that it would ultimately have the advantage of the deduction. The Estate might have been able to argue for a discounted value of the Note Receivable below face value, however, given the absence of an appraisal, all the Tax Court had in evidence was the face amount of the note receivable.

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