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Monday, May 15, 2006

BUY-SELL AGREEMENT UPHELD FOR PURPOSES OF SETTING ESTATE TAX VALUE

A business interest owned by a decedent is subject to estate tax at its fair market value at death. This value is generally the price that an unrelated buyer and seller would agree to, neither being under any compulsion to buy or sell.

However, if certain requirements are met, a buy-sell agreement that provides for a price for the purchase of the decedent's business interest at death can be used to set the value of the business interest for estate tax purposes. Generally, a buy-sell agreement will function to set the value if the offering price is fixed and determinable under the agreement, the agreement is binding on the parties both during life and after death, and the restrictive agreement must have been entered into for a bona fide business reason and must not be a substitute for a testamentary disposition. In 1990, a new requirement was added to these common law rules - to be respected the terms of the agreement must further be comparable to similar arrangements entered into by persons in an arms' length transaction (Code Section 2703(b)(3)).

Until now, there have been no cases wherein the Section 2703(b)(3) requirement has been met. In Estate of Pearl I. Amlie, TC Memo 2006-76, the requirements of Section 2703(b)(3) were found to have been met. The case provides some instruction for those that seek to meet the Section 2703(b)(3) requirement.

First, in analyzing the application of Section 2703(b)(3), the Court noted that while the applicable Regulations favored having multiple comparables for purposes of making the "comparable" determination, it was not an absolute requirement. Second, another factor that practitioners should keep in mind, and that carried a lot of weight with the Tax Court, was that the parties employed a valuation consultant at the time of the agreement to establish what a market comparable price should be.

The case also provides a useful summary and practical example of the common law requirements that must be met in addition to the new requirement of Section 2703(b).
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