Probate and Trust Article

June, 2007



Jim Roberts

Glast, Phillips & Murray, PC.

Dallas, Texas


Just in time for Thanksgiving, in the fall of 1993, Judge Whalen handed down the Tax Court Memo decision in LeFrak 1(cite) and cemented in the minds of many the idea of discounts in fractional interests in real property. In that case, he determined that the discounts were 20% for a minority interest and 10% for lack of marketability. To be sure, LeFrak was not the first case to recognize discounts. Earlier cases included Propstra 2(cite) (a 15% discount), Youle 3(cite) (a 12.5% discount) and Pillsbury 4(cite) (a 15% discount). But LeFrak got 30% - double the previous amounts. More cases would to follow 5(cite) . But could the concept work in personal property? If the reasoning of a recent case is followed, the answer is, in essence, “no.”

The Pillsbury case cited above discussed the concept. No discount was given, and the Court in that case said that it could not give a discount based on a “bare assertion” where there was no evidence to support the claim. But in the recent case of Stone v. United States, No. 3:06-cv-00259, United States District Court for the Northern District of California (May 25, 2007), there was plenty of evidence.

In Stone, the decedent, Lois Stone, died on September 1, 1999. On her estate tax return, the executor valued the estate’s 50% undivided interest in 19 works of art at $1,420,000, using a 44% fractional interest discount. The IRS took the position that the value should be simply the total value of the artwork, multiplied by the 50% undivided interest, or $2,766,250. The estate paid the tax and sued for a refund.

After going through the usual discussion of the definition of “fair market value,” the Court tackled the argument by the IRS that no discount at all was warranted. The Court pointed out that the government’s own expert said a 2% discount was warranted, so “no discount” was out of the question.

But the Court likewise found the estate’s argument for a 51% discount (7% higher than the position taken on the return) unpersuasive. The Court found very credible the testimony of two experts for the government who laid out a history or art sales, and clearly testified that they were aware of fractional interests in artwork being traded, but that none of these had ever occurred at a discount. Even the estate’s appraiser admitted he could find no data on discounts.

The Court reasoned that artwork in not fungible. From that, and the testimony of the experts (and commenting that unlike this case, sales of fractional interests in real estate sales had comparable sales evidence of discounts) the Court concluded, in general, that a hypothetical willing seller of an undivided interest in art would rather sell the whole piece and split the proceeds, then sell a fractional interest at a discount. Such a sale might be by agreement or might be by partition. But, because a partition could be sought, no hypothetical willing seller would accept anything less than full value.

Turning to specifics, after dissecting the testimony of estate’s expert asserting a 51% discount, the Court said that “a small discount is appropriate to account for legal fees” (here, legal fees would have been about 1%) and a further discount of 2% for costs of sale should be added. No appraisals would be necessary. “Some discount” would be appropriate for the uncertainties involved in waiting to sell the art. The Court would give no discount for lack of control, lack of marketability, lack of liquidity, the time value of money or other discounts commonly discussed in such cases.

The Court stopped short of making a final determination of the appropriate discount. Instead, it ordered the parties to seek to reach an agreement on valuation. But the tone of the Court’s opinion suggests that, if pushed to decide, the Court would “just say no” to big discounts.

1. Samuel J. LeFrak and Ethel LeFrak v. Commissioner, T.C. Memo 1993-526 (November 16, 1993)

2. Propstra v. U.S., 680 F.2d 1248 (9th Cir. 1982)

3. Estate of Youle v. Commissioner, T.C. Memo 1989- 138 ( March 30, 1989 )

4. Estate of Eleanor O. Pillsbury, deceased v. Commissioner, T.C. Memo 1992-425 (July 27, 1992).

5. Estate of Ellie Williams, deceased v. Commissioner, T.C. 1998-59 (February 12, 1998)(20% for lack of marketability and 30% for lack of control for a total discount of 44%) ; Estate of Alto B. Cervin v. Commissioner, T.C. Memo 1994-550 (October 31, 1994)(20% discount), rev’d on other issues, 111 F.3d 1252 (5 th Cir. 1997); Estate of Bonnie I. Barge, deceased v. Commissioner, T.C. Memo 1997-188 (April 23, 1997)(25% discount)