This case is presently before us on cross-motions for summary judgment. Oral arguments related to these motions were heard on January 5, 1987. Plaintiffs, by their underlying complaint, are seeking recovery of certain estate taxes which allegedly were erroneously and illegally assessed and collected. For the reasons set forth below, we will enter judgment in favor of plaintiffs and against defendant.
The parties have stipulated to the relevant facts, a copy of this stipulation having been filed with the Court.
Joseph Givler Strock died testate on November 17, 1978. Mr. Strock's will was executed February 21, 1976. On November 22, 1978, the will was admitted to probate. Article 3 of the will left the residue of his estate in trust. This trust provided for a "split-interest" transfer whereby certain named life beneficiaries were to receive the major portion of the income from the trust for their lives, and upon the death of the survivor of the named life beneficiaries, the remainder was to be paid over to certain charities in designated amounts. Stip. paras. 1, 2 and 4, and Ex. A.
On August 17, 1979, the Estate of Strock ("the Estate") filed a Form 706, United States Estate Tax Return, together with a remittance of $177,378.32. This Form 706 did not contain a claim for a charitable deduction. Id. at paras. 5-6.
On December 31, 1981, the Estate filed a petition with the Orphan's Court Division of the Court of Common Pleas of Allegher County, Pennsylvania, seeking permission to reform Strock's will to conform to 28 U.S.C. § 2055(e). The charitable remainder trust created by the will was a "split-interest trust," which the Estate acknowledged did not qualify for a charitable deduction. Id. at para. 10, and Ex. C, at 7.
Also on December 31, 1981, the Orphan's Court issued a citation to all life beneficiaries and charitable organizations named in Strock's will to show cause why the trust created under Article 3 of the will should not be amended so as to conform with the requirements of Sections 664 and 2055(e) of the Code. Id., Ex. C.
At a conference before the Orphan's Court, counsel for one life beneficiary and his three children contended that a paragraph had been left out of the will which would have dictated that upon the death of the last life beneficiary, the remaining principal would pass pursuant to the intestate law. Counsel for two of the charitable organizations named in the will contended that the Estate should be distributed in accordance with the will as written so that upon the death of the last life beneficiary, the principal would be distributed to the charities indicated. Id., Ex. F, at 3.
On August 13, 1982, the Estate filed its Form 833, Claim for Refund and based its Claim for Refund upon its petition to amend the trust. Id., at para. 12. It claimed a charitable deduction of $168,605.55 and sought a refund of $53,955.43.
On January 7, 1983, all parties in interest submitted to the Orphan's Court a Stipulation of Settlement whereby all parties agreed to the following: the Executor of the Estate would pay the sum of $45,000 to the named charities in the will, and in consideration of the payments, the charitable organizations "shall release any and all claims they have to the Estate of Joseph Givler Strock, arising out of his Will, the trust created thereon, or otherwise." Id. at para. 14, and Ex. F, at 5.
The parties also agreed that the will would be construed so as to provide that on the death of the survivor of the named life income beneficiaries, the remaining principal of the trust would be distributed to Strock's issue per stirpes. Id., Ex. F, at 6.
The Orphan's Court entered an Order on January 7, 1983, providing for the amendment of the will as set forth in the Stipulation of Settlement submitted to it. Id., Ex. F.
As a result of an audit of the decedent's estate tax return, the Internal Revenue Service disallowed the charitable deduction on the ground that the distribution did not meet the statutory prerequisites of § 2055(e). The plaintiffs paid the estate tax deficiency and thereafter sought a refund of the disputed amounts from the Internal Revenue Service. After exhausting all administrative remedies, plaintiffs filed a complaint with this court seeking a tax refund of $14,850 as a result of the purported charitable deduction. Plaintiffs also seek a refund for legal fees they have incurred or will incur in bringing this refund suit.
Having read the briefs submitted by both sides to this dispute, it is apparent that the primary issue presented for resolution is whether § 2055(e) in fact applies to this case. The government asserts that the modification of Strock's will did not comport with the guidelines set forth in 26 U.S.C. § 2055(e) (3), which permits a deduction for otherwise non-deductible charitable bequests of remainder interests, provided the bequests are modified by amendment to conform with one of three permissible forms specified in § 2055(e) (2) (A).
Plaintiffs have argued in response to defendant's motion for summary judgment that § 2055(e) does not apply to the charitable bequests resulting from the Stipulation of Settlement with regard to Strock's will because the bequests passed directly to the charities and no longer as part of any form of split-interest trust. As such, plaintiffs contend that § 2055(a) governs this dispute and allows for a charitable deduction.
A. Deduction of the Charitable Bequests - The Applicability of § 2055(e)
Section 2055(a) generally provides for a deduction with respect to estate taxes where a direct bequest is made to a charitable corporation or fraternal association. On the other hand, § 2055(e) of the Code, as applicable to the Estate of Joseph Strock,
disallows deductions for charitable bequests of remainder interests which are not in one of three permissible forms (annuity trust, unitrust or pooled income fund) listed in § 2055(e) (2) (A). A relief provision, § 2055(e) (3), provides that non-deductible bequests can nevertheless qualify if modified by amendment within a certain time after the decedent's death into one of the three permissible forms specified in § 2055(e) (2) (A).
Section 2055(e) is the same as Section 201(d) of the Tax Reform Act of 1969, Pub. L. No. 91-172, 83 Stat. 487. Its purpose was to curb potential abuses attendant to the use of split-interest trusts with charitable remainders. Thus, where a bequest was made to one or more non-charitable beneficiaries for life or for a term of years, with an irrevocable remainder for the benefit of charity, an immediate substantial estate tax deduction often was available for the actuarial value of the remainder interest. The House Ways and Means Committee observed that the technique could be used to generate deductions which were in fact greatly overstated in comparison to what the charities would eventually receive, stating as follows:
The rules . . . for determining the amount of a charitable contribution deduction in the case of gifts of remainder interests in trust do not necessarily have any relation to the value of the benefit which the charity receives. This is because the trust assets may be invested in a manner so as to maximize the income interest with the result that there is little relation between the interest assumptions used in calculating present values and the amount received by the charity. For example, the trust corpus can be invested in high-income, high-risk assets. This enhances the value of the income interest but decreases the value of the charity's remainder interest.
H.R. Rep. No. 91-413, 91st Cong., 1st Sess., pt. 1, at 58, reprinted in 1969 U.S. Code Cong. & Ad. News. 1645, 1704.
To correct the abuses, § 2055(e) (2) provides that charitable remainder bequests will qualify for a deduction only if they are in the form of one of the three permissible forms of split-interest transfers specifically defined in the trust sections of the Internal Revenue Code.
In this case, the bequests to charity under the trust in Strock's will were not in any of these three permissible forms, either at the time the will was probated or after its modification pursuant to the Stipulation of Settlement and Order of Court. It is the defendant's contention that § 2055(e) (3) provides the only means by which any non-deductible bequest of a remainder interest to charity can be "saved." The government argues that since the Strock will originally contained a non-deductible split-interest trust, a charitable deduction could only be obtained by amending the trust to one of the trust forms outlined in § 2055(d) (2(A). As no such amendment occurred, the government concludes that no deduction can be permitted.
Plaintiffs urge us to disregard § 2055(e) because the Stipulation of Settlement entered into by the parties removed any split-interest transfer from the will and caused the charitable interest to pass directly to the charities. As such, plaintiffs argue that § 2055(a) governs this case and provides a deduction for these direct transfers to charity. As the charities involved are qualifying organizations, Stip. para. 15, application of § 2055(a) would provide a charitable deduction. To this end, plaintiffs direct our attention to several decisions where § 2055(e) was found not applicable, and deductions were allowed for direct charitable bequests, notwithstanding the fact that non-deductible split-interest trusts originally existed.
In Northern Trust Co. v. United States, 41 A.F.T.R.2d (P-H) 78-1523 (N.D. Ill. 1977), a will had been probated which contained split-interest trusts. A subsequent will contest resulted in a settlement agreement and related judgment order pursuant to which the life beneficiaries under the split-interest trust received payments in lieu of life estates, and the remainder of the trust was distributed directly to several named charities.
The district court in Northern Trust, also faced with a conflict between § 2055(a) and § 2055(e), held as follows:
The amount received by the charities pursuant to the settlement agreement passed by inheritance from the testator. Thus there is no intervening charitable interest; and the amount taken outright by the charities pursuant to the settlement should qualify for a deduction under Section 2055(a). The settlement did not create an interest split between charitable and non-charitable beneficiaries. Rather, each party took separately and directly under the agreement. Section 2055(e), which establishes special requirements for remainder interest passing from a decedent first to a non-charitable beneficiary, is inapplicable. (Citations omitted)