I will refer to the players involved in the drama by their first names to distinguish them. The father was Michael "Mickey" Redstone. I'll call him Mickey, as does the Court. There were two sons relevant here -- Edward and Sumner. This opinion does not say a whole lot about Edward's education and experience, but it does say some things about Sumner's because, presumably, that is relevant to what he knew or should have known about the substantive tax liability back in 1972 and hence liability for the penalties. The Court says cryptically:
Sumner graduated from Harvard College in 1944 and Harvard Law School in 1947. He practiced law for several years, including a stint in the Tax Division of the U.S. Department of Justice, before starting work in 1954 for the family business.The Wikipedia entry fleshes this out just a bit:
After completing law school, Redstone served as special assistant to U.S. Attorney General Tom C. Clark (who later served as Associate Justice of the Supreme Court of the United States from 1949 to 1967) and then worked for the United States Department of Justice Tax Division in Washington, D.C. and San Francisco, and thereafter entered private practice.From just these bare facts, one might surmise that Sumner was familiar with the tax law and the basic tax concepts that the Tax Court applied to determine that, on the facts, Sumner was liable for the gift tax in question. One of those concepts is surely that transfers of value with a donative intent is a gift, potentially subject to gift reporting and tax. But, Sumner pleaded ignorance -- certainly lack of intent in avoiding the civil fraud and negligence penalties. Not only did he not have an intent to evade his tax liability, but he also was not negligent because he relied on this tax advisers and a memorandum from one tax adviser, which Sumner could not produce.
Well, let's get into the fact to set this up. At some point, after Sumner left the practice of law to join the family business, the three created a corporation in which the three of them were nominal equal shareholders - 100 shares each. The father contributed to that corporation disproportionately to the two sons, contributing almost 48%, with each son contributing around 26%. (OK, there might have been a gift at that time from Mickey to the two sons or at least to someone; read on.)
Sometime later, Mickey created a trust for the grandchildren and contributed 50 shares of his 100 shares of common stock to the trust. Mickey filed appropriate gift tax returns. Mickey, then did what looks like an estate freeze recapitalization of his remaining 50 shares of common stock, so that, after the recapitalization, Mickey owned only preferred stock and there were 250 shares of common stock -- 50 owned by the grandchildren's trust and 100 each owned by the two sons.
Then, around 1971, Edward decided he wanted out, and would just take his 100 shares (which Mickey had not yet formally delivered to him), and either be bought out or sell them outside the family. There followed some contentious negotiations leading to equally contentious litigation. In the litigation, Mickey (who seemed to have been a strong patriarch used to getting his way), argued that, in effect, his disproportionate original contribution had been made with the understanding that some portion of the stock the sons received was held for the grandchildren, so that Edward was not the true beneficial owner of all of the 100 shares he nominally owned. The parties settled in a document declaring that Edward owned 2/3 of the 100 shares nominally in his name and the other 1/3 had, since the inception of Edward's nominal ownership, been held "for the benefit of his children * * * in trust and not as beneficial owner." The settlement agreement then resolved Edward's ownership of the 2/3's he was declared to own by buying out those shares. The settlement agreement finally required Edward to put the other 1/3 he nominally owned into a trust for Edward's grandchildren.
Of course, the construct recited in the settlement with Edward was that the beneficial ownership of the 1/3 put into trust was never in Edward. Edward had hotly contested that issue in the litigation, and it is not at all clear to that Edward's settlement of that issue by conferring the benefit in question (that 1/3 of the stock) upon the natural objects of his bounty did not have some donative aspect from Edward. Nevertheless in an earlier proceeding, the Tax Court held that, because of the contentious posture of the negotiations and settlement, Edward did not have the required donative intent. Estate of Redstone v. Commissioner, 145 T.C. __ (Oct. 26, 2015). here.
Shortly after this settlement, Sumner put his shares in trusts for his children. It is that transfer that gave rise to the tax liability here, for Edward filed no gift tax return and did not pay any gift tax with respect to those transfers. The Court said:
Sumner's transfers of NAI stock to the Brent and Shari Trusts were voluntary. Each transfer was motivated by donative intent toward the natural objects of Sumner's affection. By creating these trusts and transferring 33 1/3 shares of NAI stock to them, Sumner made a gesture of goodwill toward his father, who desired to ensure the financial security of his four grandchildren on equal terms. However, Sumner was not required to take these actions by the Settlement Agreement that resolved Edward's lawsuits. The only obligation that the Settlement Agreement imposed on Sumner was the requirement that he execute certain releases in consideration of mutual releases executed by the other contracting parties.
The Brent and Shari Trusts, like the Ruth Ann and Michael Trusts, recite that the stock transferred to them had been held "under an oral trust" since 1959. Petitioner presented no evidence that any "oral trust" actually existed whereby Edward or Sumner held in trust for his children a portion of the NAI shares initially registered in his name. Rather, the concept of an "oral trust" developed later and was agreed upon as a mechanism for settling Edward's litigation and implementing Mickey's desire to ensure the financial security of Edward's children.Notwithstanding Sumner's understanding that there was no oral trust, he incorporated that statement into the trust agreement, although the precise reason he did so is not stated except that Sumner desired to appease his father. Sumner's tax advisers then advised Sumner that there was no gift tax liability, and one apparently issued a letter or memorandum, now unavailable, to that effect. The Tax Court opinion says that the tax advisers were familiar with the litigation with Edward, but the opinion does not say that Sumner advised the tax advisers that the "oral trust" recitation was not consistent with his understanding of the facts. Nevertheless, as I will note, the Court found that Sumner had reasonably relied at the time on the advice of his tax advisers. On this basis, Sumner filed no gift tax return.
In subsequent litigation regarding subsequent events, Sumner gave deposition and trial testimony. The Court discusses that testimony as follows:
In deposition and at trial of the O'Connor case, Sumner testified that he had transferred the 33 1/3 shares of NAI stock to the Brent and Shari Trusts voluntarily. At his deposition, he explained that he "voluntarily went through the same procedure" as his brother and "gave * * * [his] own children" the stock. While it was Mickey's position "that at least 50 percent" of Edward's shares were held for Edward's children, Sumner testified that Mickey had never expressed the same reservation regarding Sumner's own shares. He continued: "I voluntarily set up an arrangement -- call it what you will -- where my own children would get a third of the stock. * * * I wanted to do the same thing that my brother did, only he did it as a result of litigation. I did it voluntarily."
At trial in the O'Connor case Sumner maintained the same position: "Nobody sued me. I gave my kids a third of the stock voluntarily, not as the result of a lawsuit. In [s]o doing, I did what I wanted and appeased my father too." He testified that "[t]here was a big difference between Eddie's position and mine" because Edward "was resisting doing what my father wanted," whereas Sumner was simply trying to maintain good family relations. He later testified to the same effect: "Eddie was sued. I was not. And Eddie had to find a justification for what he was doing in transferring. I wasn't sued. I just made an outright gift."During 1974, for events arising from the Watergate investigation and at the encouragement of a Senate select committee, the IRS looked into certain political contributions that might constitute gifts that were not reported by the contributors. Sumner, among others, had made contributions. The IRS sent a letter to Sumner inquiring into the contributions. Sumner responded. The IRS then concluded that there was no reason to solicit a gift tax return for 1972.
Apparently, as a result of the later litigation noted above in which Sumner testified about the earlier events, the IRS started an investigation, including for the potential for gift tax in 1972. The IRS made information and document requests. Sumner responded, but never complained that the then current investigation violated the prohibition against second examinations in § 7605(b).
Okay, I think the foregoing fairly states the facts as found by the Tax Court.
So, to summarize the Court's holdings:
1. Statute of Limitations was Open and Not Closed by Laches. The Court applied the literal language of § 6501(c)(3) keeping the statute open if a required return has not been filed. The Court rejected the application of the equitable doctrine of laches, which may, in some contexts, bar a claim where the claimant has not asserted the claim in some reasonable amount of time. Laches does not apply to this claim, which by statute is clearly timely.
2. Prohibited Second Examination. The Tax Court held that, although it is not clear that the first letter inquiring about political contributions was an examination for purposes of the prohibition, even if it was and the subsequent audit out of which the case arose, was a prohibited second examination, it is not clear that dismissal of the case would be the appropriate remedy, but that, in any event, Sumner had waived the argument by not raising it timely.
3. Gift Tax Due. The Court applied straight-forward legal concepts to resolve the substantive liability. The Court held that the transfer was based on Sumner's contemporaneous donative intent and not based upon any oral trust, which did not exist. The Court distinguished its earlier holding that Edward's transfer to a parallel transfer to his children had not been a gift because the Court, in Edward's case, found the absence of the require donative intent but instead an arm's length resolution of competing positions. Sumner's case was different. Sumner was not at odds with Mickey and settled his children's trust from donative intentions, which the Tax Court found expressly.
4. Penalties. The Court held that the IRS had failed to prove civil fraud by clear and convincing evidence. Indeed, the Court found that Sumner had reasonably relied upon his tax adviser, which would preclude the negligence penalty and, of course, would necessarily preclude the civil fraud penalty.
Regarding the civil fraud penalty, the Court reasoned as follows:
Respondent has not met his burden of proof. The oral trust may have been a fiction, but it was a fiction with real-world consequences. Mickey passionately believed in the "oral trust" theory and, at his insistence, it became a central feature of the Settlement Agreement by which Edward's litigation was resolved. To please his father, Sumner adopted the same "oral trust" terminology when making a symmetrical transfer to his own children. There is no evidence that Sumner embraced the "oral trust" concept in an effort to evade his Federal gift tax liabilities.Regarding the negligence penalty, the Court reasoned as follows:
We find that petitioner made the requisite showing of a reasonable cause defense for both additions to tax. Mr. Rosen, Mr. Isenberg, and the tax professionals at J.K. Lasser were competent tax advisers. Collectively, they advised Sumner about his gift tax filing requirements on 34 occasions beginning in 1970. Sumner sought and received their advice concerning the tax consequences of transferring stock to the Brent and Shari Trusts. The evidence established that Mr. Rosen obtained advice from J.K. Lasser's national office about this transaction; that this advice was memorialized in a letter or memorandum concluding that no gift tax return was required to be filed; that Messrs. Rosen and Isenberg concurred in this conclusion; and that Sumner relied on this advice in good faith. We conclude that petitioner is not liable for an addition to tax for negligence or for failure to file a gift tax return.One thing that I found peculiar about the penalties discussion is that the facts do not make it clear that Sumner gave his advisers all of the information he knew. Specifically, and critically, the Court does not find that Sumner advised his tax advisers that his intention at the time, as the Tax Court specifically found, was donative in nature and that there had never been an oral trust. I would have thought that any competent tax adviser armed with those two key facts would have had a hard time concluding that there was no gift tax. And, failure to advise would almost certainly require application of the negligence penalty and, if intentional, the civil fraud penalty. Obviously, the IRS failed to prove that Sumner intended fraud, so civil fraud is clearly out. But, negligence for a person of Sumner's business and tax acumen? The Tax Court opinion is not convincing. However, it is likely that the Court ultimately relied on Sumner's testimony (not clear whether in this case or the earlier litigation). The Court says:
Sumner testified that Mr. Rosen "would have made the determination" whether a gift tax return was required to be filed. "If there were a gift tax due and gift tax return, it would have been filed. If there was a gift tax * * * due, it would have been paid." Consistently with that previous testimony, Sumner testified in the instant case that he had relied on his accountants and lawyers to determine whether gift tax had to be paid in 1972 and "[t]hey apparently concluded that there was no tax due."