Assets Owned by Non-Resident Alien Decedent Taxable in Estate
In Estate of Charania, 1 the Tax Court held that all shares of stock owned by a nonresident alien decedent are includable in the decedent's gross estate as separate property under the jurisdiction in which the decedent and his wife were married, despite the fact that the decedent spent the remaining 30 years of his life living in a community property law country.
The decedent and his wife were born in Uganda in the 1930s and were citizens of the United Kingdom because the U.K. ruled Uganda as a protectorate until 1962. The couple was married in 1967 in Uganda and did not sign a marriage contract at any time during their marriage. The President of Uganda ordered Ugandans of Asian descent to leave the country in 1972 and seized all assets of those forced to flee, including those of the decedent and his wife. The decedent and his wife moved to Belgium and made their home there for the next 30 years. Belgian law allows a married couple to modify or change the matrimonial regime defining their property rights during marriage and has specific procedures in place to do so. The decedent and his wife did not execute any documents to change their marital property regime to a community property regime.
The decedent purchased 50,000 shares of Citigroup stock in 1997. At the time of the decedent's death in 2002, he held 250,000 shares, acquired through a stock split and a stock dividend. The decedent died on January 31, 2002. On October 31, 2002, the estate filed a Form 4768, Application for Extension of Time to File a Return and/or Pay U.S. Estate (and Generation-Skipping Transfer) Taxes, to extend the time to file the estate tax return until April 30, 2003and to pay the estate tax until October 31, 2003. On November 13, 2002, the estate paid tax of $1,150,732.33. The estate filed a U.S. estate tax return on April 29, 2004, and treated the Citigroup shares as community property, whereby the decedent and his wife each held a one-half community interest in the shares, and therefore 125,000 shares were includable in the decedent's gross estate. The IRS issued a notice of deficiency on February 22, 2007, and included the value of all 250,000 Citigroup shares in the decedent's gross estate. The notice also determined an addition to tax under Section 6651, and the estate requested that the addition be waived on the ground that the failure to file and pay the tax was due to reasonable cause, not willful neglect.
The court's analysis began with a statement that, as a general rule, a nonresident alien decedent's estate is taxed on all property situated in the United States. Corporate stock owned by a nonresident alien decedent is property situated within the United States only if issued by a domestic corporation. The parties stipulated that the Citigroup stock is property situated within the United States.
The estate argued that the Citigroup shares were properly classified as community property under Belgian law because the decedent and his wife were forcibly exiled from Uganda, and moved to Belgium with the intent to live there permanently and thus, only one-half of the value is included in the decedent's gross estate. The IRS contended that the shares were separate property, under English law, because the decedent and his wife did not select a community property regime after they moved to Belgium.
The Internal Revenue Code does not define community property for gift and estate tax purposes, and the court looked to English and Belgian authority to determine the applicable law. The court noted that the relevant authority is neither directly on point or recent. The court narrowly focused on determining which country properly reflects the decedent's marital domicile at his death. A person's domicile is his permanent home—specifically, where the person resides without intention of moving. A review of Belgian conflict of law rules refers to English conflict of law rules. Under English conflict of law rules, the property rights of a husband and wife are determined by the laws of the marital domicile, whether the property in question was obtained at the time of marriage or acquired later.
The marital domicile is traditionally the domicile of the husband at the time of marriage. Here, the decedent and his wife were domiciled in Uganda at the time of their marriage, remained similarly domiciled throughout the duration of their marriage, and therefore, their marital domicile remained Uganda. The parties are in agreement that the law of the United Kingdom applies. The question became then, whether the United Kingdom would recognize a change in the decedent's property rights because of the decedent's forced exile from Uganda to Belgium.
The seminal English case held that spouses who moved to another country during their marriage were deemed to have adopted the community property regime of their original domicile under an implied contract theory. The case involved a married couple who were both of French domicile. French law provided that property of the marriage was community property. The couple moved to England, where the husband later passed away. The issue arose because the husband executed a will that disposed of all his property. The wife contested the will, stating that she already had an interest in half the property, as community property, under French law. The court held for the surviving spouse, and found that French law, the law of the marital domicile of the couple, applied to the property they acquired both before and after they established their English domicile. The estate in Charania argued that the English case is distinguishable from the situation here because in that case there were no facts involving forced exile.
The court in Charania next reviewed the estate's proposed theory of mutability and found it inapplicable. The concept behind mutability is that rights to property acquired after a change in domicile are regulated by the new domicile of the party. The estate argued that mutability should apply under certain specific circumstances, such as forced exile. The court found that there was no persuasive authority or rule that specifically defines when mutability becomes effective. The court thus rejected the estate's argument that the decedent's move of the marital domicile to Belgium effected a change in the property rights of the decedent and his wife because it is impossible to determine when the domicile change occurred, whether it happened immediately upon the move to Belgium or some time thereafter. The court suggested that the petitioners could have referenced a law that suggested the earnings of the decedent, which were used to purchase the Citigroup shares, were community income under the laws of Belgium.
The IRS's theory is based on the premise of immutability, whereby the rights to property acquired after a change in domicile continue to be governed by the laws of the original domicile, absent a formal change of marital domicile agreed upon by the parties. The court agreed with the IRS's position that the decedent's marital domicile was, and remained Uganda, and therefore, was determined under English law, because the decedent and his wife did not voluntarily select a community property regime after the move to Belgium, regardless of the forced, involuntary nature of the move itself. Thus, the property was classified as separate property, and the entire lot of 250,000 Citigroup shares were properly includable in the decedent's gross estate for estate tax purposes.
The court next examined the second issue of whether the addition to tax assessed to the estate for the additional 125,000 Citigroup shares should be abated. Under Section 6651, an addition to tax is imposed in an amount equal to 5% of the tax required to be shown on the return, for each month that the failure to file is ongoing (not exceeding 25%), unless the taxpayer can prove that the failure to file timely is due to reasonable cause and not willful neglect.
The estate advanced two arguments in support of its claim for abatement, specifically that the failure to file the estate tax return timely was due to: (1) the legal complexities regarding the ownership of the shares, and (2) the practical steps required to form a qualified domestic trust (“QDOT”).
In opposition, the IRS relied on the decision in Boyle 2 to support its argument that the petitioners have a duty to ascertain the due date of the estate tax return and file it timely, whether or not they have retained counsel. Boyle defines reasonable cause for delay as being where a taxpayer exercises ordinary care and prudence and is still unable to file timely.
Boyle established factors that are considered “reasonable cause,” such as: (1) unavoidable postal delays, (2) the taxpayer's timely filing of a return with the wrong IRS office, (3) the taxpayer's reliance on the erroneous advice of an IRS officer or employee, (4) the death or serious illness of the taxpayer or a member of his immediate family, (5) the taxpayer's unavoidable absence, (6) destruction by casualty of the taxpayer's records or place of business, (7) failure of the IRS to furnish the taxpayer with the necessary forms in a timely fashion, and (8) the inability of an IRS representative to meet with the taxpayer when the taxpayer makes a timely visit to an IRS office to secure information or aid in the preparation of a return. The court in Charania accepted the IRS's argument and found none of the factors present in the case at hand, and the alleged complexities to which the estate referred were not reasonable cause.
Boyle further states that “willful neglect” is defined as a “conscious, intentional failure or reckless indifference.” The estate was aware of the requirement of filing an estate tax return because it filed an extension request with the IRS on October 31, 2002, evidencing a conscious awareness of the requirement to file a return and the due date of the return. Moreover, there is nothing in the record that indicates the estate requested an additional extension beyond the initial approved request, or any steps taken to assure that the return was timely filed. The facts instead indicate a willful delay by the estate and its retained counsel.
The court also rejected the petitioner's alternate claim that the addition to tax should be abated because the IRS abated a different portion of penalties. The IRS abated the earlier additions to tax which were assessed when the return was filed, during the administrative portion of the case. The IRS contended that the addition to tax in dispute was legitimate because there was no closing agreement or other binding agreement reached between the parties regarding the addition to tax. The Tax Court has previously held that the IRS has authority to assess an addition to tax after an abatement of a late-filing addition to tax. 3 The court concluded that the assessment was proper here, because no agreement between the parties negated the IRS's authority.
This case is useful for U.S. practitioners because it brings awareness of the multitude of issues that may arise when nonresident clients seek representation. Practitioners who represent clients who have lived or continue to live in multiple countries must be aware of the possibility that a different law may govern the client's property.
For example, a person could live in one country for many years, only to learn that upon his death, the disposition of his property could be governed by the laws of more than one jurisdiction, such as the country where the individual was married, where he was born, where he acquired the property, or where he died. Additionally, U.S. gift and estate tax law does not determine whether property is separate property or community property; but rather, such classifications for domestic clients are determined by state law. In the context of international clients, practitioners may have to identify fundamental law concepts from international jurisdictions to analyze and answer these issues. Practitioners must be fully cognizant of the many potential issues that could arise with international clients in order to competently practice in this area.
1 133 TC No 7, Tax Ct Rep (CCH) 57929, Tax Ct Rep Dec (RIA) 133.7, 2009 WL 2924091 (9/14/2009).
2 55 AFTR 2d 85-1535, 469 US 241, 83 L Ed 2d 622, 85-1 USTC 13602, 1985-1 CB 372 (1985).
3 Estate of Wilbanks, 94 TC 306 (1990).
Frank S. Baldino is an attorney at Lerch, Early & Brewer in Bethesda, Maryland who practices in the areas of estate planning and probate administration and who co-chairs the firm's Estate Planning and Probate Group. He has extensive experience in the areas of estate planning, charitable giving, estate planning for non-U.S. citizens, tax planning with respect to retirement plans and stock options, asset protection planning, business succession planning and estate and trust administration. Frank may be contacted at 301-657-0715 or email@example.com.