Estate of James L. Thomson v. Commissioner of Internal Revenue, Estate of Adelaide L. Thomson v. Commissioner of Internal Revenue

495 F.2d 246

• Court: Court of Appeals for the Second Circuit
• Decided: March 27, 1974
• Docket: 10, Docket 73-1170
• Status: Published

Opinions

HAYS, Circuit Judge:

These are consolidated appeals from determinations by the Tax Court of deficiencies in the estate tax of the estate of James L. Thomson, who died on July 23, 1966, and of the estate of Adelaide L. Thomson, his wife, who died on March 14, 1968.

The appeal of the estate of Adelaide L. Thomson is based upon the claim of deficiency arising out of an increase in the value of a marital deduction trust with respect to which Mrs. Thomson had a power of appointment. The claimed increase in the value of the marital deduction trust arises only out of the addition to the husband’s estate of the unreported accumulated income in the husband’s taxable estate.

The pertinent facts have been established by stipulation.

On June 4, 1928, James L. Thomson created a trust for the benefit of his son, A. Lindsay Thomson, and his daughter, Jean Thomson. The City Bank and Trust Company of Hartford, of which appellant Hartford National Bank and Trust Company is the successor, was the designated trustee. The corpus of the trust consisted of securities then having a market value of $31,237. The trust instrument directed that income be accumulated and added to principal during Thomson’s lifetime unless Thomson directed that the income payments be made to either or both of the beneficiaries, the power to make such direction being expressly reserved by the donor.¹ Thomson never exercised his power to distribute trust income; accordingly, all installments of income were added to principal.

In accordance with the terms of the trust instrument at the decedent’s death, the trust assets, then valued at $222,-235.77, were distributed in equal shares to the beneficiaries.

The deficiency determined by the Tax Court arises from the failure to include in the taxable estate of the decedent Thomson, in accordance with section 2036(a) of the Internal Revenue Code of 1954, the accumulations of income added to the corpus of the trust.

Section 2036(a) provides, in relevant part, as follows:

“General rule. — The value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer . by trust or otherwise, under which he has retained for his life or for any period not ascertainable without reference to his death or for any period which does not in fact end before his death—

“(1) the possession or enjoyment of, or the right to the income from, the property, or

“(2) the right, either alone or in conjunction with any person, to designate the persons who shall possess or enjoy the property or the income therefrom.”

Application of section 2036(a) is limited by section 2036(b):

“Limitation on application of general rule. — -This section shall not apply to a transfer made before March 4, 1931 . . .

The appellants’ position is that the “transfer” of assets into the trust was complete when the trust was created in 1928 and that the post-1931 income accumulations are not transfers of assets within the meaning of section 2036(a).

We reject this position and affirm the decision of the Tax Court.

• It is not necessary to repeat here the history of section 2036(a) and its predecessor sections. Succinct statements of the events leading up to and following the enactments of sections 2036(a) and (b) are included in the opinion of the Tax Court in this case, 58 T.C. 880, and in this court’s opinion in Commissioner of Internal Revenue v. Estate of Canfield, 306 F.2d 1 (2d Cir. 1962). A detailed history of section 2036(a) is found in Commissioner of Internal Revenue v. Estate of Church, 335 U.S. 632, 634-640, 69 S.Ct. 322, 337, 93 L.Ed. 288 (1949). It is sufficient for present purposes to state that the substance of section 2036 (a) was adopted in order to counteract the effect of May v. Heiner, 281 U.S. 238, 50 S.Ct. 286, 74 L.Ed. 826 (1930), which held that transfers of property to a trust were not to be included in the taxable estate of the grantor even though he retained a life estate or the power to appoint a beneficiary.

Under Hassett v. Welch, 303 U.S. 303, 58 S.Ct. 559, 82 L.Ed. 858 (1938), the legislation reversing May v. Heiner was held to be prospective in effect, that is, it controlled only transfers made after the date of the adoption of the legislation, to wit, March 3,1931.

When, in Commissioner of Internal Revenue v. Estate of Church, 335 U.S. 632, 69 S.Ct. 322, 337, 93 L.Ed. 288 (1949), the Supreme Court overruled May v. Heiner, it became necessary again to amend the Code in order to protect the expectations of persons who had relied on May v. Heiner by not surrendering life estates created by pre-1931 trusts. S.Rep.No.831, 81st Cong., 1st Sess. (1949), U.S.Code Cong.Service, p. 2172. Accordingly the substance of the present section 2036(b) was enacted.

Appellants seek to persuade us that the accumulations which were added to the principal of the trust after March 3, 1931, were “transferred” to the trust when the trust was set up in 1928 because, as appellants argue, the income was “internally generated” and not added from external sources. But even if we were inclined, and we are not, to classify. income received by the trust over the years after 1931 as “transferred” to the trust at the time of its establishment, we would be prevented from doing so by the clear authority of United States v. O’Malley, 383 U.S. 627, 86 S.Ct. 1123, 16 L.Ed.2d 145 (1966).

In O’Malley the trust instruments provided that annual income from five irrevocable trusts established by the set-tlor was to be distributed to named income beneficiaries, unless the trustees exercised discretion given by the instrument to accumulate income. The Court held that the entire corpus of the trust was includible in gross estate, that both the original transfer into trust and subsequent settlor-directed accumulations were “transfers” as that term is used in section 811(c) (1) (B) (ii) of the 1939 Code (the current section 2036(a)(2)).

Under O’Malley, “transfer”, as the term is used in section 2036(a) — and, under our analysis, as it is used in section 2036(b) — includes the post-1931 accumulations of income in the Thomson trusts. In O’Malley, the Supreme Court held that the decedent transferred income accumulations to trust principal because he had

“exercised his retained power to distribute or accumulate income, choosing to do the latter and thereby adding to the principal of the trusts. With respect to each addition to trust principal from accumulated income, Fabrice [the decedent] had clearly made a ‘transfer’ as required by [section 2036(a)(2)].” 383 U.S. at 632-633, 86 S.Ct. at 1126-1127.

In the instant case, the Thomsons retained the power to distribute income to the beneficiaries or to accumulate it in principal. They chose to do the latter. The Thomsons had no less control of the disposition of income than Fabrice. It is of no importance that in the event of silence the Thomson trusts accumulated income while the Fabrice trust paid out to beneficiaries. And it is of no importance that the Thomson trusts were created prior to 1931, while the Fabrice trusts were created in 1937 and 1938, since the Commissioner seeks to include only post-1931 accumulations in the Thomsons’ gross estate.

Under the language itself of sections 2036(a) and (b), as well as the purposes of adoption of these statutes, these accumulations were transfers which took place after March 3, 1931, exactly as were the accumulations in O’Malley.

The Tax Court’s determinations of deficiencies in the estate taxes of the appellant estates are affirmed.

1 . With respect to the distribution of trust income, the trust instrument reads as follows:

“The Trustee shall collect the rents, income and profits of said trust estate as the same accrue, shall pay out of said trust estate all lawful taxes and expenses chargeable against the same, and against the earnings thereof, including reasonable fees for its services as Trustee, and during the lifetime of the Donor shall add the net income remaining from time to time after the payment of such expenses to the principal of said trust, to be managed, invested, reinvested and treated in all respects as and for a part of said principal, unless the Donor shall from time to time instruct the trustee to make payments of or from said income to the beneficiaries, or either of them, during the donor’s lifetime; power to direct such earlier payment of income to the beneficiaries being expressly reserved by the donor.” [Emphasis supplied.]