Key insights
- A recent Supreme Court decision clarified the rules for determining the value of certain assets for estate tax purposes.
- The central question the court addressed was whether the obligation of a corporation to redeem shares should be considered a liability decreasing the shares’ value.
- Engage with your advisors to help keep your estate plans robust and responsive to the evolving legal and tax environment.
Review your estate plan and adjust for recent tax changes.
In light of the recent U.S. Supreme Court decision in the Estate of Connelly case, individuals and corporations should reevaluate their estate planning strategies, particularly involving a mandatory corporate share redemption funded by life insurance policies.
Learning more about the case can help you better anticipate potential changes to tax laws and adjust your estate plans to potentially reduce tax liabilities.
What is the Estate of Connelly case?
The case involves the valuation of shares for estate tax purposes when life insurance is used to fund share redemption agreements.
Michael and Thomas Connelly owned Crown C Supply (Crown), a building supply corporation. Both owners had an agreement to keep the company within the family in the event of either brother's death. To achieve this, the surviving owner had the option to purchase the deceased owner’s shares; if he declined, Crown had to redeem the shares. To fund the transaction, Crown took out a $3.5 million life insurance policy on each brother.
Upon Michael’s death, consistent with their planning, Crown purchased Michael’s interest using the life insurance proceeds for $3 million. The federal tax return for the estate valued Michael’s interest in Crown at the same amount. The IRS audited the return, and Thomas obtained a valuation. The valuation concluded Crown was worth $3.86 million at Michael’s date of death (which excluded the $3 million in life insurance proceeds). Because Michael’s interest was 77.18%, the resulting value for Michael’s interest was approximately $3 million.
The IRS contended the true value of Crown at the date of death was $6.86 million, which included the $3 million in life insurance proceeds. This resulted in significantly higher estate taxes than expected.
The Connelly case has brought to the forefront the complexities involved in valuing ownership interest in privately held companies for estate tax purposes. The central question the court addressed was whether the obligation of a corporation to redeem shares should be considered a liability decreasing the shares’ value.
In the Connelly case, the Supreme Court sided with the district court and indicated for the given fact pattern, the repurchase obligation didn’t diminish Crown’s value. As a result, Crown’s value was determined based on including the insurance proceeds in the value without a corresponding liability for the required share redemption.
This decision can have far-reaching consequences, potentially altering the landscape of estate tax liabilities for many.
What can business advisors do for you?
Given the intricacies of the ruling and its potential impact on estate tax calculations, it may be beneficial for business owners to consult with their tax advisors, attorneys, and valuation specialists.
Tax advisors can navigate the nuances of the decision and provide tailored advice to confirm estate plans —specifically entity owner agreements — are both compliant and favorably structured in light of the new legal precedent. Attorneys can draft required documents to be unambiguous and compliant.
Valuation specialists can provide information to assist both those parties and business owners in their decision-making.
The Estate of Connelly decision serves as a reminder of the dynamic nature of tax law and the importance of proactive and informed estate planning. Engage your advisors to help keep your estate plans robust and responsive to the evolving legal and tax environment.
How we can help
CLA’s consulting professionals can help business owners explore their tax planning options, which may include revising shareholder agreements, reassessing funding mechanisms for share redemption, and considering alternative estate planning tools. We can also help you stay informed of any further legal developments from this decision.
Contact us
Review your estate plan now to find potential improvements and adjust in light of evolving tax changes. Complete the form below to connect with CLA.
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