Originally published on Forbes.com July 31st, 2014
As a tax professional, few things bother me more than the tax troubles of one family member blowing back and creating tsoris and agita for siblings and parents. There was a decision in the United States District Count of the Eastern District Of Kentucky last week concerning a mother and three sons. It’s public record and you have the link if you really want to know who it is, but I’m going to show some sympathy by calling the mother Muriel, in memory of my mother, and the sons Tom, Dick and Harry. That way they don’t have to read about this when they google themselves.
Muriel’s will indicated that her property was to be divided equally among Tom, Dick and Harry. Tom, Dick and Harry each submitted applications to the probate court to be appointed executors. Apparently they each had concerns about the other two which they expressed to the probate court. So the probate court appointed a third party.
They then entered into a Settlement Agreement . As part of the agreement Tom renounced any claims as a beneficiary. Tom had some serious tax problems which had resulted in liens being filed against him. As of April 2013, all in, he owed $459,409.49. Muriel had been helping Tom out. From 2000 to 2010, she had given him nearly $200,000. In addition to her will Muriel had left behind a statement which said “Before my assets are divided, there should be accountability of debts”.
It seems like the main asset that Muriel left behind was a condo. Dick and Harry were making payments on the mortgage and decided that the best thing to do would be to sell it. That’s when the IRS came into the picture. The IRS maintained that the liens attached to Tom’s 1/3 share in the condo equity. Ultimately, the Service allowed a sale to go through subject to the proceeds going into escrow. The sale netted just under $200,000. The government wanted about $60,000 as Tom’s share (The mortgage payments that Dick and Harry had made boosted their equity a bit).
Muriel’s estate argued that Tom had already received his share of the estate while Muriel was still alive and that she had directed that there be accountability for that.
Under federal law the IRS can collect taxes by putting liens on all property and rights to property that a taxpayer has. The lien process, however, does not create property rights. Those are determined by state law. So the District Court had to look at Kentucky law.
Kentucky law provides for gifts to be charged against a residual share of an estate, but only in the case of someone who dies without a will. There was also an attempt to characterize the advances as loans. The arguments went nowhere.
The Estate’s ill-advised attempt to factually distinguish Sandidge notwithstanding, the Court simply cannot overlook the fact that Kentucky law does not apply the advancement doctrine to testate estates. In this case, Decedent passed away with a properly executed Last Will and Testament, which the Campbell Court probated on February 10, 2012. This will included a residue clause devising all remaining assets to the trustee under the Revocable Trust Agreement, so there is no indication that Decedent even passed away partially intestate. Under these circumstances, the Estate found it best to advocate for a change in the law, but this Court must apply the law as it exists today. And Kentucky law does not apply the advancement statute to testate estates.
The argument that the disclaimer by Tom made a difference also went nowhere.
Because Kentucky’s disclaimer statute creates a legal fiction that the disclaimant pre-deceased the decedent, which relates back to the date of the decedent’s death, it would seem that a disclaiming taxpayer would not have an interest in the subject property under Kentucky law. However, the United States Supreme Court has specifically rejected this logic, holding that a disclaimer under state law cannot defeat federal tax liens.
The Moral
There is a pretty strong impulse among parents to treat their children equally when it comes to inheritance. There are times when this impulse should be overridden. If one of your children is burdened by tax liens that are well beyond their prospective inheritance leaving money to that child is equivalent to leaving money to the IRS. Worse you are likely involving the other children in the tax problems since the executor of the estate will probably not just roll over and turn the money over to the IRS. The litigation costs will eat into the estate.
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