Last Updated: 29 January 2015
On Apr-14-2014 the U.S. Tax Court released a memorandum opinion for the Estate of Wallace R. Woodbury v. Commissioner, T.C. Memo 2014-66 (No. 19901-12). The IRS denied a section 6166 election for a return filed 2 ½ years after the extended return due date. The estate exhausted its administrative remedies within IRS protesting the denial and filed a petition with the Tax Court requesting declaratory relief under section 7479.
The IRS moved for summary judgment on the grounds that a section 6166 election can be made only on a timely filed return. The estate filed a cross-motion for summary judgment asserting it had substantially complied with the requirements set forth in Reg. section 20.6166-1. The IRS argued that the doctrine of substantial compliance does not apply to section 6166 elections.
The Court held that the IRS properly denied the estate’s section 6166 election because it was not made on a timely filed estate tax return pursuant to IRC section 6166(d). The Court also held that the estate did not substantially comply with the requirements of Reg. section 20-6166-1(b), but did not hold that the doctrine of substantial compliance was inapplicable per se with regard to elections under section 6166.
How severely impacted is the estate by this decision? From two numbers given in the opinion, we calculated a set of hypothetical estate tax return figures to yield the estate's calculated non-deferred tax of $9,125,366.05 and interest of $481,360.20 due on the first anniversary date. With a taxable estate of $54,539,481.33 and a section 6166(c) business value of $33,946,570.00, we arrived at a net estate tax of $24,168,161.41. Without allowing a deduction for interest on Federal estate tax, the estate would owe $2,699,735.34 more on Jun-27-2014 without a section 6166 election than it would with a section 6166 election. However, after allowing deductions for (deductible) interest on Federal estate tax both with and without a section 6166 election, this disparity drops to just $246,255.24. (Penalties were ignored.) The impact of a deduction for 100% of the interest on Federal estate in a non-6166 computation is obviously very significant.
[NOTE: There were some 20 business properties. Had a section 6166 election been allowed, several business interests might not have been eligible for inclusion in the aggregate section 6166 valuation because it appears that less than 20% of the total value of each business was included in the gross estate (17.6725% limited partnership interest in one and 11% interest in another). See section 6166(c).]
Sep-27-2006 Date of death. Wallace R. Woodbury was a resident of Nevada who owned a substantial amount of closely held business interests immediately before his death.
Jun-27-2007 The estate tax return due date. The estate timely filed Form 4768 to request a 6-month extension of time to file the return and paid $9,500,000 as the estimated amount of tax not deferrable under its future section 6166 election. This request was approved.
Accompanying the Form 4768 was a letter referencing an “Anticipated Election under Section 6166” that stated as follows:
Attached, please find Form 4768 for the estate of Wallace R. Woodbury (the “Estate”), a citizen of the United States, who died on September 27, 2006.
The gross estate of Wallace R. Woodbury includes shares or interests in businesses that in the aggregate meet the definition of an “interest in a closely held business” to qualify to be “treated as an interest in a single closely held business” pursuant to Section 6166(c).
The primary purpose of this letter is to inform you that the Estate intends to make the election to pay the Federal Estate Tax attributable to the decedent’s interest in the closely held business pursuant to Section 6166 when the Form 706 Estate Tax Return is filed.
The Estate has paid non-deferrable tax in the amount of $9,500,000 simultaneously with the filing of the attached Form 4768. The Estate estimates the tax to be paid in installments pursuant to Section 6166 to be $10,000,000.
The Court noted that the estate “did not include with the foregoing application any specific information regarding the properties that allegedly constituted closely held business interests or even a list of such properties.”
Dec-27-2007 The extended estate tax return filing due date pursuant to the approved Form 4768. On or before this date the estate submitted another Form 4768 to request an additional 6-month extension of time to June 27, 2008 to file the return. The letter accompanying this request referenced a “Request for Additional Extension of Time to File Form 706” and stated:
Attached please find Form 4768 for the estate of Wallace R. Woodbury (the “Estate”), a citizen of the United States, who died on September 27, 2006. We previously filed Form 4768 requesting the automatic extension of six months. We request an additional six month extension to file Form 706, with the new due date of June 27, 2008.
The gross estate includes commercial real property and shares or interests in businesses that own commercial real property. The Estate is in the process of valuing the business interests and real property interests, but due to the large number of appraisals needed, it is anticipated that all of the appraisals will not be completed in time to file the Form 706 by the December 27, 2007 due date.
As indicated in our prior letter dated June 18, 2007, the Estate intends to make the election to pay the Federal Estate Tax attributable to decedent’s interest in the closely held businesses pursuant to Section 6166 when the Form 706 Estate Tax Return is filed. The Estate has paid non-deferrable tax in the amount of $9,500,000 simultaneously with the filing of the original Form 4768 on June 18, 2007. The Estate estimates the tax to be paid in installments pursuant to Section 6166 to be approximately $10,000,000.
The Court noted ‘[a]gain the estate did not include with the foregoing application any specific information regarding the properties that allegedly constituted closely held business interests or even a list of such properties.”
Feb-06-2008 IRS denied the second request for an extension of time to file because the executor was not outside the United States on the return due date.
Jun-27-2008 The estate paid $320,000.00 interest that it estimated was due on this putative first anniversary date.
Jun-01-2010 The estate tax return was filed. Attached was the estate’s section 6166 election. Attached to the election was an exhibit entitled “Interest Installments on 6166 assets” with a payment schedule. Pursuant to its payment schedule the estate paid $392,652.03 with the filing for the balance of interest due on the putative 2nd anniversary date of Jun-27-2009 - $122,125.02 - and the interest due on the putative 3rd anniversary date of Jun-27-2010 - $270,527.01.
(Note: The opinion states this amount was paid on 5/28/10 (presumably when the return was mailed to Cincinnati). However, the timely-filed timely-paid rule does not apply for late payments and, as noted earlier in the opinion, the estate “filed its Form 706” on June 1, 2010, its presumed date of receipt by IRS.)
Nov-24-2010 The IRS issued the estate a letter entitled “Preliminary Internal Revenue Code Section 6166 Determination Letter” proposing to deny the election.
May-05-2012 After the estate had exhausted all of its administrative remedies, the IRS issued a Notice of Final Determination as Provided in IRC Section 7479 That An Election Under Section 6166 May Not Be Made. The letter stated:
The estate is denied the IRC section 6166 election because it is not eligible for the election. The election must be made on a timely filed Form 706, U.S. Estate (and Generation Skipping Transfer) Tax Return. The estate does not qualify for the IRC section 6166 election because the estate tax return was filed late. Therefore the entire amount of unpaid estate tax, including any applicable penalty and interest is now due.
In response, the estate filed a petition for declaratory judgment under section 7479 containing an allegation that the estate “paid all applicable interest that would have been due and owing under a valid 6166 election, and has, as of the current date, paid the first principal installment that would be due and owing under a valid 6166 election”.
The estate’s prayer for relief asked the Court to declare that:
1. Petitioner made a valid and effective 6166 election under the judicially recognized doctrine of substantial compliance and is therefore eligible to pay the remaining unpaid and outstanding estate tax, plus interest, pursuant to the installment provisions of section 6166 of the Code;
The estate admitted that it had not complied with the section 6166(d) statutory requirement that the election be made with a timely-filed return. It argued instead that its conduct had substantially complied with the section 20.6166-1(b) regulatory requirements for an election, which constituted substantial compliance with the statutory requirements for a section 6166 election, and its election should be granted.
The Court analyzed the actions taken by the estate, concluding that in its attachments to the Forms 4768 and payments the estate had satisfied the first 4 requirements of Regulation 20.6166-1(b):
(b) Time and manner of election. The election provided under section 6166(a) is made by attaching to a timely filed estate tax return a notice of election containing the following information:
(1) The decedent's name and taxpayer identification number as they appear on the estate tax return;
(2) The amount of tax which is to be paid in installments;
(3) The date selected for payment of the first installment;
(4) The number of annual installments, including the first installment, in which the tax is to be paid;
However, the Court determined that the estate had not satisfied requirements 5 and 6 of the Regulation:
(5) The properties shown on the estate tax return which constitute the closely held business interest (identified by schedule and item number); and
(6) The facts which formed the basis for the executor's conclusion that the estate qualifies for payment of the estate tax in installments. In the absence of a statement in the notice of election as to the amount of tax to be paid in installments, the date selected for payment of the first installment, or the number of installments, the election is presumed to be for the maximum amount so payable and for payment thereof in 10 equal installments, the first of which is due on the date which is 5 years after the date prescribed in section 6151(a) for payment of estate tax.
The Court determined that the estate therefore had not substantially complied with the requirements of Regulation 20.6166-1(b) until it had filed the estate tax return, and it strictly construed the statutory time requirement of section 6166(d) to sustain the IRS denial of the section 6166 election.