Estate of Speer v. Commissioner

57 T.C. 804, 1972 U.S. Tax Ct. LEXIS 164

• Court: United States Tax Court
• Decided: March 15, 1972
• Docket: Docket No. 3346-69
• Status: Published

Opinions

OPINION

Tannenwald, Judge:

Respondent determined a deficiency in petitioners’ estate tax in the amount of $510,195.19. The sole issue for our determination is whether the remainder interest in a trust established by the decedent fails to qualify for a charitable deduction pursuant to section 2055 ¹ because of the management discretion vested in the trustee.

All of the facts have been stipulated and are found accordingly.

Petitioners are the executors of the Estate of George I. Speer (referred to herein as decedent), who died on June 21, 1965, a resident of Wilmington, Del. Petitioner Alice M. Speer had her legal residence in Wilmington, Del., at the time the petition herein was filed. Petitioner Bank of Delaware is a corporation organized and existing under the laws of the State of Delaware having its principal office in Wilmington, Del., at the time of filiug the petition herein. The estate tax return was filed with the district director of internal revenue, Wilmington, Del.

On July 12,1963, the decedent created a living trust, with the Bank of Delaware as sole trustee. The trust was fully revocable by the decedent during his lifetime. In addition, the trustee could invade principal for the decedent’s benefit in the event of the latter’s incapacity.

The trust agreement provided for payment of the income to the settlor, or the accumulation thereof as settlor might direct, during his lifetime. After the settlor’s death, the trustee was to pay one-half of the net income of the trust estate to settlor’s sister, Alice M. Speer, for life; one-fourth of said net income to settlor’s sister, Elizabeth S. Coppage, for life; and one-fourth to settlor’s brother, Robert A. Speer, for life. The trustee was not given any power to invade principal for the benefit of the income beneficiaries. Upon the death of all the life tenants, or upon the settlor’s death if he should survive them all, the trust provided:

* * * Trustee shall create a fund with whatever remains of the trust estate to he known as the George I. Speer and Lizzie IP. Speer Memorial Fund, the net income from which shall be paid annually to the New Castle Presbytery, by whatever name known, to he used by the said Presbytery for general purposes in memory of Settlor’s parents. * * * [²]

Additionally, upon the death of any of the life tenants, his or her share of the net income of the trust estate was to be accumulated and added to principal for ultimate disposition in accordance with the above-quoted provision.

The trust agreement contained the following provision dealing with the investment powers of the trustee:

Settlor desires that Trustee he permitted to invest a larger proportion of the trust estate in common stocks than might otherwise be considered proper, and also for a larger proportion thereof to be invested in the stock or other securities of Bank of Delaware and International Business Machines Corporation, or their corporate successors, than might otherwise he considered proper. It is therefore agreed that Trustee shall be under no duty to diversify the investments held hereunder, and that in acquiring new investments by purchase or exchange, as well as in retaining investments that were a part of tbe trust estate at tlie time of the creation or that were thereafter delivered by Settlor’s Executor to Trustee in kind (and also in acquiring additional stocks, bonds, notes or other securities of Bank of Delaware and International Business Machines Corporation, or their corporate successors, through the exercise of options, rights, and conversion privileges) Trustee, in its discretion, may disregard the rules of diversification of investments usually considered applicable to fiduciaries, and that Trustee shall not be liable for any depreciation of or loss to the trust estate resulting from disregarding such rules of diversification.

Tbe trust agreement also authorized the trustee, in its absolute discretion:

To apply stock dividends, other non-cash dividends and other extraordinary dividends or distributions received by it to principal or income or to apportion such dividends or distributions between principal and income, to charge the premiums of securities purchased at a premium either against principal or income or partly against principal and partly against income, and to determine what expenses, costs, taxes and charges of all kinds shall be charged against principal and what against income. In each case its decision with respect thereto shall be conclusive and binding upon all parties in interest;

The trust agreement further provided that all questions pertaining to the validity, construction, and administration of the trust were to be determined in accordance with the laws of Delaware.

Decedent’s last will and testament poured his residuary estate into the aforementioned trust.

The trust assets at all pertinent times consisted almost entirely of publicly traded securities. The following table shows the holdings of International Business Machines shares by the trust at various dates indicated.

Market value Total market Percent of Shares Date of IBM value of IBM

stock held trust assets

3063. 7/15/63 $1,323,216 $1,572,015.00 84.17

3063. 4/13/64 1,807,170 2,106,730.00 85.78

3829. 4/12/65 1,795,801 2,139,148.00 83.96

3500. 4/25/66 1,893,500 2,468,786.70 77.01

4500. 4/24/67 2,128,500 2,723,640.99 78.15

4056. 4/19/68 2,678,980 3,380,010.17 76.30

We are again confronted with the question of the extent to which management powers conferred upon a trustee with respect to allocation of income and expenses operate to preclude the deductibility under section 2055 (a) (2)³ of the otherwise undisputed value of a remainder interest in favor of a qualified charitable organization. We dealt with this question for the first time in Estate of Lillie MacMunn Stewart, 52 T.C. 830 (1969),⁴ but our decision in favor of the taxpayer was reversed on appeal, 436 F. 2d 1281 (C.A. 3, 1971), certiorari denied 404 U.S. 828 (1971). In the brief period of time since our opinion in Stewart, there has developed a substantial body of case law dealing with the effect of a trustee’s administrative powers on the deductibility of charitable remainders. The Government has prevailed in Rand v. United States, 445 F. 2d 1166 (C.A. 2, 1971); First National Bank in Palm Beach v. United States, 443 F. 2d 480 (C.A. 5, 1971), certiorari denied 404 U.S. 983 (1971); Miami Beach First National Bank v. United States, 443 F.2d 475 (C.A. 5, 1971), certiorari denied 404 U.S. 984 (1971); Florida Bank at Lakeland v. United States, 443 F. 2d 467 (C.A. 5, 1971); Estate of Stewart v. Commissioner, 436 F. 2d 1281 (C.A. 3, 1971); Detroit Bank & Trust Co. v. United States, 338 F. Supp. 971 (E. D. Mich. 1971); Jacobs v. United States, 334 F. Supp. 388 (S.D.N.Y. 1971). The taxpayer has prevailed in Greer v. United States, 448 F. 2d 937 (C.A. 4, 1971); Peoples Trust Co. of Bergen County v. United States, 444 F. 2d 193 (C.A. 3, 1971); Doss v. United States, 326 F. Supp. 1320 (N.D. Tex. 1971); Estate of Toulmin v. United States, 326 F. Supp. 1028 (S.D. Ohio 1971); Old Colony Trust Co. v. United States, 317 F. Supp. 618 (D. Mass. 1970); Marold v. United States, 322 F. Supp. 664 (D.N.J. 1970); Bankers Trust Co. v. United States, 308 F. Supp. 545 (S.D.N.Y. 1970), affirmed on another issue 438 F. 2d 1046 (C.A. 2, 1971); Estate of Phyllis W. McGillicuddy, 54 T.C. 315 (1970).⁵

By way of summary, the Government has been successful in the Second and Fifth Circuits; unsuccessful in the Fourth Circuit, in the District Courts (with the exception of Florida Bank at Lakeland, Jacobs, and Detroit Bank & Trust Co.), and in this Court; and has won one and lost one in the Third Circuit. Obviously, this melange of cases furnishes no divining rod for decision herein. Moreover, the confusion is compounded by the fact that each of the decided cases turns on its own facts and the vagaries of local probate and trust law as seen through the eyes of the Federal courts.

The essence of our decision in Stewart was that, even taking into account a modicum of uncertainty as to the extent of a trustee’s discretionary power under the New York law involved in that case, we were not disposed “to turn what are commonplace trust powers intended simply to provide administrative flexibility into a substantive grant of dispositive flexibility.” See 52 T.C. at 836. Compare Estate of Edward E. Ford, 53 T.C. 114, 128 (1969), affirmed per curiam 450 F. 2d 878 (C.A. 2, 1971). We were not prepared to assume that the trustee might “exercise his powers in breach of his fiduciary responsibility” and “favor the life beneficiary over the remaindermen.” See Marold v. United States, 322 F. Supp. at 669. While we are inclined, particularly in light of the unsettled state of the law as revealed by the previously cited intervening decisions, to adhere to our general view, we find it unnecessary, to man the barricades in defense thereof in the instant case. In point of fact, the discretionary powers involved herein are considerably narrower than those which we dealt with in Stewart.

As the Third Circuit pointed out in Stewart (see 436 F. 2d at 1285-1286), the trustee therein was granted broad discretion in several specific respects. The following analysis reveals the difference between the Stewart powers and those of the trustee herein:

(1) In Stewart, the trustee had the specific power to invest in wasting assets and shares of investment companies. No such specificity is contained in the investment powers involved herein.

(2) In Stewart, the trustee had power to apportion a variety of specific items including rents, interests, dividends, property received in exchanges and reorganizations, payments in respect of wasting assets or unproductive property, and any other receipt whatsoever. In the case before us, the clause granting power to allocate receipts to principal or income is far narrower, being limited to “stock dividends, other non-cash dividends and other extraordinary dividends or distributions.” We shall have more to say about this clause at a later point in this opinion.

(3) In Stewart, there was discretion in the trustee to determine whether to amortize the premium “at which any property may be received or Reid” and to depreciate any expense on or any expense in connection with, property of any kind. In the instant case, there was only a power to amortize and that was limited to “securities purchased at a premium.”

(4) In Stewart, there was a specific power to discontinue any sinking fund or depreciation account and treat the same as income. Ho such power is specified in the instant instrument.

(5) In Stewart, the trustee had the power to pay from principal or income any deficit from the operation of property or any charge against the trust estate. In the instant case, the trustee was given only the power to determine “what expenses, costs, taxes and charges of all kinds shall he charged against principal and what against income.” It is at least arguable that such langauge is limited to items involving cash outlay and does not cover such items as depreciation or depletion reserves or the broad category of “operating deficits.”

We have already noted that, in the instant case, the power to allocate on the intake side is limited to “stock dividends, other non-cash dividends and other extraordinary dividends or distributions.” We think that the narrow focus of this clause provides a crucial distinction. Compare Estate of Stewart v. Commissioner, 436 F. 2d at 1287. In each of the previously cited cases in which the Government prevailed, a far broader category of benefit to the income beneficiary was established. Additionally, as the following analysis indicates, there are other distinguishing elements:

(1) In Rand v. United States, supra, the “entire gross or net income” was given to the income beneficiary, who was also the trustee. The trustee was authorized to charge all operating and maintenance expenses against corpus and the trustee was authorized to make loans to himself for any purpose whatsoever. The corpus of the trust was an interest in a stock exchange seat, not publicly held securities such as are involved herein. Compare Estate of Ford v. Commissioner, 450 F. 2d 878 (C.A. 2, 1971), affirming per curiam 53 T.C. 114 (1969).

(2) In First National Bank in Palm Beach v. United States, supra, the instrument directed that any premium paid on securities be charged in its entirety against income. More importantly, the instrument specifically authorized the trustee to treat “liquidating dividends” as income. Respondent implies that the word “distributions” in the instant case should be construed to encompass liquidating dividends. We think not. That word is used in the context of “stock dividends, other non-cash dividends and other extraordinary dividends or distributions.” Compare Fulweiler v. Spruance, 222 A. 2d 555 (Del. 1966). Compare also Estate of Stewart v. Commissioner, supra, where the Third Circuit distinguished Bankers Trust Co. v. United States, supra, by according a narrow reading to the word “dividends” and inferring that a specific direction beyond a generally descriptive word was required to avoid the necessity of allocating distributions with respect to wasting assets under local law. See 436 F. 2d at 1287.

(3) In Miami Beach First National Bank v. United States, supra, the Fifth Circuit emphasized a specified power of investment in “shares or interests in investment trusts” with the potential consequence that capital gains distributions from mutual funds might be allocated to income. See Estate of Lillie MacMunn Stewart, 52 T.C. at 835. The Fifth Circuit also pointed out that dividends from mutual funds might be in the form of stock dividends and that the trust instrument specifically provided that, if the trustee had the option to take a dividend in cash or in the shares of the declaring corporation, the transaction was to be “considered a cash dividend and deemed income, irrespective of the choice made by the trustees.’-' No such provision favoring the income beneficiary is present herein.

(4) In Florida Bank at Lakeland v. United States, supra, the instrument directed that payments to certain life beneficiaries were to be made from “income and capital gains.⁷ (Emphasis added.) See Jacobs v. United States, supra. Compare Peoples Trust Co. of Bergen County v. United States, supra, Where a similar specific direction with respect to capital gains from mutual funds was held not to preclude a deduction for the charitable remainder. See also Taggart, “Charitable Deductions for Transfers of Remainder Interests Subject to Invasion,” 21 Tax L. Rev. 535, 566-569 (1966).

In determining the effect of broad discretionary administrative powers on the deductibility of charitable remainders, it is in order for us to look for indications, at least insofar as they are contained in the instrument itself, of the settlor’s intention as to whether such powers should be exercised so as to favor the income beneficiary over the remainderman. See Greer v. United States, 448 F. 2d at 945-947; Peoples Trust Co. of Bergen County v. United States, 444 F. 2d at 197-199; Estate of Stewart v. Commissioner, 436 F. 2d at 1288; Doss v. United States, 326 F. Supp. at 1322; Old Colony Trust Co. v. United States, 317 F. Supp. at 622; Bankers Trust Co. v. United States, 308 F. Supp. at 547. First, the trust instrument herein contained a specific, 'although limited, power of invasion during the decedent’s lifetime but no such power after his death. Such a clear indication of the decedent’s knowledge and use of a power of direct invasion is a counterweight to interpreting discretionary powers of administration as creating a power of indirect invasion for the benefit of the income beneficiaries. See Estate of Lillie MacMunn Stewart, 52 T.C. at 835. Second, the provision for accumulation of income upon each life tenant’s death, instead of a direction that such income was to be paid to the other life beneficiaries, indicated a preference for the charitable remaindermen. Third, we think it significant that the instrument itself indicated !a desire that the trustee keep a larger than normal proportion in stock of International Business Machines Corp., a growth- rather than income-oriented investment, and that, at all times pertinent, more than 15 percent of the market value of all trust assets consisted of such stock.⁶ Finally, we note that the trustee was a bank, which imparts a recognition by the settlor that the management powers would be exercised with more circumspection than might be the case where an individual is designated. Compare Estate of Lillie MacMunn Stewart, 52 T.C. at 835, with Rand v. United States, supra.

An examination of local law is also essential to a determination of the effect of discretionary administrative powers on the duties of a trustee. The main Delaware authority is 8 Del. Code Ann., tit. 12, sec. 3526 (1970 supp.),⁷ which sets forth certain general guidelines for the apportionment between principal and income of corporate distributions with respect to shares of stock held in trust. Respondent contends that these guidelines are inapplicable in the instant case, because the trustee was given absolute discretion by the instrument to make such allocations. Said discretion, argues respondent, expressly or by necessary implication provides that corporate distributions be treated in a manner different than would be the case if the statutory guidelines were applied. Petitioners, on the other hand, contend that the trustee is bound by the statutory guidelines, relying heavily on the absence of language to the effect that the trustee’s discretion was to be exercised “notwithstanding local law respecting allocation.” ⁸

In our opinion, the statutory provision prescribed a sufficiently objective standard so that, if there were no discretionary powers granted in the instrument itself, the charitable deduction herein would be available under section 2055 (a). The extent to which an affirmative grant of such powers broadens the discretion of a trustee beyond the statutory standard has expressly been left undecided by Delaware courts in opinions which clearly indicate a reluctance appreciably to extend the “pradent man” rale of the Delaware Code. See State Tax Commissioner v. Stephenson, 267 A. 2d 464 (Del. Super. 1970), affd. 275 A. 2d 566 (1971). We find it unnecessary to decide this question, because we are satisfied that, under the circumstances of this case, even if a broader grant of authority is involved, it does not sufficiently relax the “prudent man” rule so as to impart a subjective standard destructive of the deduction claimed herein. Any such relaxation would not create an uncertainty “appreciably greater than the general uncertainty that attends human affairs.” See Ithaca Trust Co. v. United States, 279 U.S. 151, 154 (1929); Estate of Lillie MacMunn Stewart, 52 T.C. at 836. The “conclusive and binding” clause herein does not affect this conclusion. Compare Greer v. United States, supra, where the presence of a similar provision did not preclude a holding in favor of the taxpayer, with Estate of Stewart v. Commissioner, supra, where the absence of such a clause was not considered helpful to the taxpayer.

Finally, we must dispose of respondent’s contention that in light of Estate of Stewart v. Commissioner, supra, and the fact that an appeal from our decision herein will lie to the Third Circuit, we are required by Jack E. Golsen, 54 T.C. 742 (1970), affd. 445 F. 2d 985 (C.A. 10, 1971), to hold against the petitioner. We disagree. 3STot only do the facts herein differ significantly from those involved in Stewart but the law of a different State is involved. Nothing in Golsen requires us to speculate as to what the views of the Third Circuit as to Delaware law would be. Indeed, the Third Circuit has clearly indicated that its approach to the problem herein can vary depending upon its analysis of the applicable State law. Compare Estate of Stewart v. Commissioner, supra, with Peoples Trust Co. of Bergen County v. United States, supra, in which the court reached opposite results based on New York and New Jersey law.

The claimed deduction should be allowed.⁹

Reviewed by the Court.

Decision will be entered for the petitioners.

Hoyt, /., dissents.

2 Respondent makes no argument that the New Castle Presbytery fails to meet the requirements of a charitable organization as specified in sec. 2055 (a) (2).

3 SEC. 2055. TRANSFERS FOR PUBLIC, CHARITABLE, AND RELIGIOUS USES.

(a) In General. — For purposes of tbe tax imposed by section 2001, tbe value of tbe taxable estate shall be determined by deducting from tbe value of tbe gross estate tbe amount of all bequests, legacies, devises, or transfers * * *

*******

(2) to or for the use of any corporation organized and operated exclusively for religious, charitable, scientific, literary, or educational purposes * * *

Respondent’s Estate Tax Regulations contain the following provisions :

Sec. 20.2055^-2. Transfers not exclusively for charitable purposes.—

(a) Remainders and similar interests. If a trust is created or property is transferred for both a charitable and a private purpose, deduction may be taken of the value of the charitable beneficial interest only insofar as that interest is presently ascertainable, and hence severable from the noncharitable interest. * * *

(b) Transfers subject to a condition or a power. If, as of the date of a decedent’s death, a transfer for charitable purposes is dependent upon the performance of some act or the happening of a precedent event in order that it might become effective, no deduction is allowable unless the possibility that the charitable transfer will not become effective is so remote as to be negligible. If an estate or interest has passed to or is vested in charity at the time of a decedent’s death and the estate or interest would be defeated by the performance of some act or the happening of some event, the occurrence of which appeared to have been highly improbable at the time of the decedent’s death, the deduction is allowable. If the legatee, devisee, donee, or trustee is empowered to divert the property or fund, in whole or in part, to a use or purpose which would have rendered it, to the extent that it is subject to such power, not deductible had it been directly so bequeathed, devised, or given by the decedent, the deduction will be limited to that portion, if any, of the property or fund which is exempt from an exercise of the power. * * *

4 At the time of our opinion in Stewart, apparently only one court had passed upon the question. See Gardiner v. United States, an unreported case (D. Ariz. 1969, 24 A.F.T.R. 2d 69-6108, 69-2 U.S.T.C. par. 12,628).

5 Compare also Worcester County National Bank v. King, 268 N.E. 2d 838 (Mass. 1971).

6 See Scott, “Principal or Income?”, 100 Trusts and Estates 180, 182 (1961), where the author suggests that a trust estate consisting largely of growth stocks such as IBM is more advantageous to the remainderman than to the income beneficiary.

7 Sec. 3526. Corporate distributions received by trustee; allocation between principal and income.

(a) Unless expressly or by necessary implication provided otherwise in the instrument creating or defining the duties and powers of a trustee, a trustee shall treat all property, tangible or intangible, received as a corporate distribution upon or with respect to shares of stock held in trust, including shares of the same class :

(1) As trust income to the extent that, in the judgment of the Trustee, such distribution would be regarded as income from an investment rather than a diminution of an income producing property, by men of prudence, discretion, and intelligence in the management of their own affairs ; and in making this determination, the trustee may consider whether such distribution would be likely, of itself, to have the effect of reducing materially the future earning capacity and the future earnings of the corporation, whether such distribution would be likely, of itself, to have the effect of reducing materially the future income of the trust from the shares of stock upon or with respect to which such distribution shall be made (assuming that the trustee should continue to hold such shares of stock for an indefinite period), and any other circumstances and factors which the trustee may deem relevant and significant.

(2) As trust principal to the extent that, in the judgment of the trustee, such distribution is not determined to be trust income under provisions of paragraph (1) of this subsection.

(b) The provisions of this section shall apply to any corporate distributions received after July 1, 1959 on trust property in any trust existing on or created after July 1, 1959.

8 Cf. Note, 50 Yale L.J. 1467, 1473 (1-941).

9 We note that the problem presented in the instant ease will not arise for estates subject to the Tax Reform Act of 196®, because secs. 201(d) and 201(e) of that Act require that the remainder interest be in a trust which is a charitable remainder annuity trust or a charitable remainder unitrust or a pooled income fund in order to be eligible for a deduction under sec. 2055. See Pub. L. 91-172, 83 'Stat. 487. See also sec. 201(g)(4) of the Tax Reform Act of 1969 for the general effective date rule and the exceptions thereto for purposes of applying the aforementioned changes.