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"If You Know What I Mean" - Estate of Richmond v. Commissioner, Part the Third

A Neil Diamond song title as this month's hook? What? Who? How? Calm down - all will be revealed at the end of this article!

 

So I have mined the case of the Estate of Richmond v. Commissioner for two months and I think I can only squeeze one more e-mail out of it. So far we have looked at how the Tax Court dealt with the question of how to handle built in capital gains in a stock portfolio and the appropriate discount for lack of control. The final question the court dealt with was the size of the discount for lack of marketability.

 

You may recall that at her death, Mrs. Richmond owned 23% of PHC, an investment holding C Corporation which in turn held a portfolio of stocks worth over $52 million. Despite the fact that PHC held freely traded stocks, the court noted that the valuation related to an interest in PHC, a family-owned, non publicly traded stock which had no ready market. The court agreed that a potential investor would pay less for an asset like this, which may be difficult to sell in the future.

 

Both the experts for the IRS and the estate relied on restricted stock studies for indicators of the appropriate discounts for lack of marketability. The studies compared the selling prices of stock in public companies that were restricted from open trading on the markets with the selling prices which were not subject to such restrictions. The studies selected showed discounts ranging from 26.4% to 35.6%. The expert for the IRS started at the bottom of the range, made downward adjustments to the discount based on some qualitative considerations and applied a discount of 21%. The expert for the estate used the top end of the range of 35.6% on the basis that the securities included in the studies would eventually become freely marketable, whereas that was not the case in relation to an interest in PHC.

 

The court noted the experts' agreement on the range of discounts - but were "unconvinced by either party's rationale (for the discounts they selected). We therefore find a marketability discount of 32.1% -- i.e. the average of the data sets - is reasonable in this case."

 

The take away from this? Firstly, another case showing support for the use of restricted stock studies in calculating the discount for lack of marketability for a holding company which is helpful in getting some certainty into this area. Secondly, a fairly high discount was applied to the ultimate benefit of the estate. Thirdly, I get the impression that since the court had spent a lot of time already on the built in gain and discount for lack of control issues, and that the judges had a tee time waiting for them, they split the baby!

 

And the link to the title of this piece - well, I originally conceived it as a reference to the fact that the court had applied the "mean" of the studies in coming to their conclusion, but in retrospect, its really a lame connection. Oh well, it's too late now and it's time to hit "send"...