T.C. Memo. 2001-170
UNITED STATES TAX COURT
ESTATE OF GLADYS J. COOK, DECEASED,
VERNA LEE STEELE, EXECUTRIX, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 15284-99. Filed July 9, 2001.
John W. Porter, Walker Arenson, and S. Stacy Eastland, for
petitioner.
Lillian D. Brigman and Richard T. Cummings, for respondent.
MEMORANDUM OPINION
GERBER, Judge: Respondent determined a deficiency of
$873,544 and a penalty under section 66621 of $168,999 in the
1
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the date of decedent’s
death, and all Rule references are to the Tax Court Rules of
Practice and Procedure.
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Federal estate tax of the Estate of Gladys J. Cook, Deceased (the
estate), Verna Lee Steele, executrix. The facts in this case
have been fully stipulated under Rule 122, and only one issue is
left for our consideration. After concessions, the issue
concerns the value at decedent’s date of death of her interest in
a limited partnership. In particular, we must decide whether a
limited partnership’s right to receive 19 annual installment
payments of lottery winnings must be valued in accord with the
private annuity tables in section 20.2031-7, Estate Tax Regs.
(annuity tables).
The Lottery Payments
At the time of her death, Gladys J. Cook (decedent) resided
in Johnson County, Texas, where her will was probated. Decedent
regularly purchased lottery tickets to participate in the Texas
Lottery (the lottery). Decedent and her former sister-in-law,
Myrtle Newby (Newby), had a longstanding informal agreement under
which they jointly purchased lottery tickets and shared the
winnings.
On July 8, 1995, decedent purchased a winning lottery
ticket, the face value of which was $17 million, payable in 20
annual installments (lottery payments). Thereafter, pursuant to
the informal sharing arrangement, the State of Texas was
obligated to make lottery payments to decedent and Newby. The
initial lottery payment of $858,648 was made on July 10, 1995,
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and subsequent installments of $853,000 were payable on July 15
of each of the next 19 years.
Texas law provided that lottery prizes payable in
installments could not be transferred without a court order or
converted to a lump sum at any time. No market existed in Texas
for lottery prizes payable in installments. No risk of default
or delay encumbered the lottery payments, which were funded
through the purchase of investments in U.S. Government bonds.
The Partnership
On July 12, 1995, decedent and Newby converted their
informal sharing arrangement to a formal limited partnership, MG
Partners, Ltd. (the partnership). The lottery ticket was
assigned to the partnership by decedent and Newby, and each
received a 2-percent general partnership interest and a 48-
percent limited partnership interest.
Decedent died unexpectedly on November 6, 1995 (the
valuation date); her interests in the partnership were still
intact. The partnership’s assets on the valuation date were the
right to receive 19 future lottery payments and the current
holding of $391,717 in cash.
The Estate Tax Return and the Notice of Deficiency
The estate’s Federal estate tax return was filed with the
Internal Revenue Service at Austin, Texas, on August 5, 1996.
The estate reported a tax liability of $266,269. Decedent’s
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interests in the partnership were included in the gross estate at
a value of $1,529,749, the amount opined by the estate’s
valuation expert, Peter Phalon (Phalon).2 Phalon valued the
lottery payments at $4,575,000.
Respondent determined that the partnership’s right to
receive the lottery payments had a date of death value of
$8,557,850. Respondent arrived at this value using the annuity
table. Respondent then valued decedent’s limited partnership
interest at $3,222,919, allowing discounts for the lack of a
ready market, restrictions contained in the partnership agreement
on transfers and admissions of new partners, and the inability of
a 50-percent partner to control the partnership.
In response to respondent’s determination, the estate
employed a second expert, William H. Frazier (Frazier), to
prepare a valuation report on the lottery payments and the
partnership. Frazier valued the lottery payments at $6,053,189
and decedent’s interests in the partnership at $2,067,867.
Respondent employed his own valuation expert, Francis X. Burns
(Burns), to value the lottery payments and the partnership.
2
The parties stipulated $1,490,015, but the correct amount
appears to be $1,529,749. This discrepancy does not, however,
affect our decision.
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Burns valued the lottery payments at $5,762,7913 and decedent’s
interests in the partnership at $2,406,413. The experts used
various methods, excluding the annuity tables, to establish the
value of the lottery payments to the partnership.
The parties have stipulated that if the final judicial
determination requires application of the annuity tables, then
the value of the estate’s interests in the partnership will be
$2,908,605. If the final judicial determination is that the
application of the annuity tables is not required, then the value
of the estate’s interests in the partnership will be $2,237,140.
Discussion
Section 2001 imposes a tax on the taxable estate of every
decedent who is a citizen or resident of the United States. See
sec. 2001; Estate of Kyle v. Commissioner, 94 T.C. 829, 838
(1990). The term “taxable estate” is defined in section 2051 as
the value of the “gross estate” less applicable deductions. Sec.
2051; Estate of Kyle v. Commissioner, supra at 838. Under
section 2031(a), the gross estate includes the value at the time
of death of “all property, real or personal, tangible or
intangible” to the extent provided in sections 2033 through 2045.
Estate of Young v. Commissioner, 110 T.C. 297, 306 (1998); sec.
20.2031-1(a), Estate Tax Regs.
3
Respondent’s expert valued the lottery payments without
the use of the valuation tables in the event that departure from
the valuation tables is warranted.
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The regulations promulgated under section 2031 generally
provide the methods by which property described in sections 2033
through 2045 is to be valued. Secs. 20.2031-1 through 20.2031-9,
Estate Tax Regs. The valuation of any property not specifically
described in sections 20.2031-2 through 20.2031-8, Estate Tax
Regs., is made in accordance with the general principles set
forth in section 20.2031-1, Estate Tax Regs. See sec. 20.2031-9,
Estate Tax Regs. Where the property is subject to valuation
using general principles, the value of property includable in the
gross estate is its fair market value. Sec. 20.2031-1(b), Estate
Tax Regs. A property’s fair market value is the price at which
the property would change hands between a willing buyer and a
willing seller, neither being under any compulsion to buy or
sell, and both having reasonable knowledge of relevant facts.
Id.
Section 2033 provides that the value of a decedent’s gross
estate includes the value of all property to the extent of the
decedent’s interest at the time of his death. Sec. 2033; Estate
of Mellinger v. Commissioner, 112 T.C. 26 (1999). Decedent owned
a 50-percent interest in the partnership at the time of her
death, the value of which must be included in her gross estate.
Sec. 2033. On the valuation date, the partnership’s assets
included the right to receive 19 annual lottery payments and
cash. To establish the value of decedent’s interests in the
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partnership, the partnership’s right to receive the lottery
payments must be assigned a value. Sec. 20.2031-3, Estate Tax
Regs.
The sole issue for our consideration is whether the
partnership’s right to a fixed stream of lottery payments should
be valued using the annuity tables in section 20.2031-7, Estate
Tax Regs. As an initial matter, the estate argues that the
partnership’s right to receive lottery payments is not an
annuity. Respondent argues that the partnership’s right to
receive lottery payments is an annuity which must be valued using
the annuity tables. At the time the petition was filed in this
case, that question had not been addressed by this Court.
However, the question of whether lottery payments should be
treated as an annuity was recently answered in Estate of
Gribauskas v. Commissioner, 116 T.C. 142 (2001), a case involving
substantially similar circumstances to those before us.
In Estate of Gribauskas, the decedent and his former spouse
won a Connecticut Lotto prize. Within a year after winning the
lottery they divorced, and soon after, the decedent died owning
the right to receive half of 18 annual, unassignable,
nontransferable payments that could not be distributed in one
lump sum. The estate elected an alternate valuation date of
December 3, 1994.
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In Estate of Gribauskas, it was argued that the stream of
lottery payments was not an annuity. We held that a decedent’s
right to receive lottery payments was a private annuity,
includable in the gross estate under section 2033, but which
should be valued pursuant to section 7520, even though the
payments were unmarketable, illiquid, and nontransferable. Id.
Generally, the present value of an annuity is determined by
multiplying the stream of future annuity payments by a factor.
The factor incorporates an interest rate component and a
mortality or term of payments component. Section 7520 provides
that the value of any annuity, any interest for life or a term of
years, or any remainder or reversionary interest shall be
determined under the tables prescribed by the Secretary and using
a rounded interest rate equal to 120 percent of the applicable
Federal midterm rate for the month in which the valuation date
falls. Sec. 7520(a)(1) and (2); sec. 20.7520-1(b), Estate Tax
Regs. The mortality component is the life expectancy of the
annuitant if the annuity is measured by a life. If the annuity
is payable for a fixed term of years, the fixed term is the
mortality component. The term “annuity” is not defined in
section 7520; however, an annuity is commonly defined as a right
to receive fixed periodic payments, either for life or for a term
of years. Estate of Shapiro v. Commissioner, T.C. Memo. 1993-
483. Except as provided in section 20.7520-3(b), Estate Tax
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Regs. (relating to exceptions to the use of prescribed tables
under certain circumstances), annuities are valued under the
tables set forth in the regulations.4 Sec. 7520. The factors
for a wide range of interest rates and mortality assumptions are
published in tables found in section 20.2031-7, Estate Tax Regs.
The estate argues that even if the stream of payments is an
annuity, use of the annuity tables to value the payments creates
an unreasonable and unrealistic result because the valuation
formula in section 7520 does not take into account the lack of
marketability of the lottery payments. Respondent argues for use
of the annuity tables regardless of whether the right to the
payments was marketable in the hands of the partnership.
Respondent contends that decedent’s interests in the partnership,
not the partnership’s right to receive the lottery payments, is
the property in which the lack of marketability should be
discounted. We agree with respondent.
It is well established that the tables should be used where
annuities are being valued “‘unless it is shown that the result
is so unrealistic and unreasonable that either some modification
in the prescribed method should be made * * * or complete
departure from the method should be taken, and a more reasonable
4
Sec. 20.7520-3(a), Estate Tax Regs., provides a list of
exceptions effective May 1, 1989 (none of which are present
here), and sec. 20.7520-3(b), Estate Tax Regs., enumerates
additional exceptions effective after Dec. 13, 1995.
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and realistic means of determining value is available.’” Vernon
v. Commissioner, 66 T.C. 484, 489 (1976) (quoting Weller v.
Commissioner, 38 T.C. 790, 803 (1962)); Estate of Gribauskas v.
Commissioner, supra at 160. The burden of showing that the
result is unreasonable rests with the party seeking to deviate
from the tables. Bank of Cal. v. United States, 672 F.2d 758,
759 (9th Cir. 1982).
In support of departure, the estate cites Estate of
Shackleford v. United States, 84 AFTR 2d 5902, 99-2 USTC par.
60,356 (E.D. Cal. 1999) (departure was permitted where right to
receive lottery payments was illiquid). When first presented
with the opportunity in Estate of Gribauskas, we refused, as we
do here, to follow the anomalous holding in Estate of
Shackleford. In Estate of Gribauskas v. Commissioner, supra at
163-164, we opined:
We cannot agree with the District Court for several
reasons. First, * * * case law offers no support for
considering marketability in valuing annuities. * * *
Second, the enactment of a statutory mandate in
section 7520 reflects a strong policy in favor of
standardized actuarial valuation of these interests
which would be largely vitiated by the estate’s
advocated approach. A necessity to probe in each
instance the nuances of a payee’s contractual rights,
when those rights neither alter or jeopardize the
essential entitlement to a stream of fixed payments,
would unjustifiably weaken the law.
Third, as a practical matter, we observe that an
annuity, the value of which consists solely in a
promised stream of fixed payments, is distinct in
nature from those interests to which a marketability
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discount is typically applied. * * * The value of an
annuity * * * exists solely in the anticipated
payments, and inability to prematurely liquidate those
installments does not lessen the value of an
enforceable right to $X annually for X number of years.
As we concluded in Estate of Gribauskas v. Commissioner, 116
T.C. at 161, 163, when the asset to be valued is one for which
the tables are generally employed, mere illiquidity and/or lack
of marketability of the asset does not lead to, or create, an
unreasonable result requiring an alternative valuation method.
In Estate of Gribauskas we found that a fixed stream of
lottery payments, subject to minimal risk of default, was a
private annuity. Tabular valuation did not lead to an
unrealistic and unreasonable result merely because the annuity,
lacking a corpus from which to draw upon, was unmarketable. The
estate now asserts arguments similar to those of the taxpayer in
Estate of Gribauskas; however, the estate has not shown any
significant fact that would distinguish Estate of Gribauskas.
Moreover, in Estate of Gribauskas, after a review of the cases
where departure was permitted, we opined that “those [cases]
permitting departure have almost invariably * * * [with the
exception of Estate of Shackleford v. United States, supra,]
required a factual showing that renders unrealistic and
unreasonable the return or mortality assumptions underlying the
tables.” Id. at 161 (and the cases cited thereat).
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Here, the 19 annual payments were backed by investments in
U.S. Government bonds, virtually eliminating the risk of default.
As for the assumptions regarding mortality, both parties agree
that the payments were set to end on a date certain. Therefore,
use of the tables in this case could hardly create an
unreasonable or unrealistic result.
In this case, three experts used varying valuation methods
based on a willing-buyer willing-seller approach. All of them
employed a discount for the inherent lack of marketability of the
lottery payments, none of them used the valuation tables
prescribed by the regulations,5 and none of the valuations were
alike. The estate suggests that the mere fact that there were
differences among the amounts of the valuations warrants a
departure from the tables.6 However, the three valuations with
various methodologies in this case make a compelling argument
justifying the use of valuation tables. In the words of the
Court of Appeals for the Ninth Circuit: “actuarial tables
provide a needed degree of certainty and administrative
convenience in ascertaining property values and prove accurate
5
Respondent offered this expert valuation only in the
alternative--in the event the Court were to reject respondent’s
primary argument that the valuation tables control. See supra
note 3.
6
If the valuation tables are used, the net value of the
lottery payments was $8,557,850. The estate’s two experts valued
the lottery payments at $4,575,000 and $6,053,189, and
respondent’s expert found a value of $5,762,791.
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when applied in large numbers of cases, although discrepancies
inevitably arise in individual cases.” Bank of Cal. v. United
States, supra at 760. Moreover, the experts did not provide an
opinion as to the application of the tables with regard to
annuities but merely valued the partnership as though the lottery
payments’ lack of marketability, or other circumstances,
warranted a departure from the tables. As noted above, we have
already addressed the issue of whether the lack of marketability
inherent in the lottery payments would warrant departure.
The facts here are substantially similar to those in Estate
of Gribauskas v. Commissioner, 116 T.C. 142 (2001). The only
significant factual difference is that here a partnership, rather
than an individual, owned the right to receive the lottery
payments. Here, decedent won the lottery and shared the prize
with Newby. The lottery payments could not be assigned or
transferred without a court order, they could not be distributed
in one lump sum, and they were funded through investments in U.S.
Government bonds. Additionally, the valuation dates are similar
with regard to the applicable statutes, regulations, and caselaw.
In the context of resolving the narrow dispute as framed by
the parties concerning the value of the partnership’s right to
the lottery payments, there is no difference between a right to
receive lottery payments that is owned by a partnership in which
decedent owned an interest and an identical right to receive
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lottery payments that was owned directly by decedent. In both
instances, the asset must be given a value in order to determine
the tax consequences to the estate. Sec. 20.2031-3, Estate Tax
Regs. The rate of return and the risk of return are the same,
and the term of years during which the payments are made ends on
a date certain. To depart from tabular valuation in this case
simply because the annuity was owned by a partnership would be
contrary to our decision in Estate of Gribauskas v. Commissioner,
supra, as the facts here are otherwise indistinguishable.
For the foregoing reasons, we hold that the fair market
value of the partnership’s right to receive future lottery
payments should be determined in accord with the actuarial tables
in section 20.2031-7, Estate Tax Regs. We have considered all
other arguments advanced by the parties, and to the extent that
we have not addressed these arguments, we consider them
irrelevant, moot, or without merit.
To reflect the foregoing and concessions of the parties,
Decision will be entered
under Rule 155.