                         T.C. Memo. 2006-263



                       UNITED STATES TAX COURT



 ESTATE OF RONALD G. KEETON, DECEASED, KIMBERLY KEETON SPENCE,
             PERSONAL REPRESENTATIVE, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No.   20067-03.               Filed December 13, 2006.



     Douglas A. Wright, for petitioner.

     Lauren B. Epstein, for respondent.



                         MEMORANDUM OPINION


     GOEKE, Judge:    Respondent issued a notice of deficiency in

the Federal estate tax of the Estate of Ronald G. Keeton (the

estate) of $46,690.   After concessions,1 the sole issue for



     1
      The parties have stipulated that they have resolved all
other issues raised by the notice of deficiency and petition.
                                   - 2 -

decision is whether the estate is entitled to the family-owned

business deduction under section 2057.2        In response to an

argument respondent made in his opening brief, the estate has

conceded that it cannot prevail under the statute because it

fails to meet one of the substantive requirements necessary to

obtain the deduction.       However, the estate contends that (1) the

argument raised in respondent’s brief contradicts the stipulation

of facts, and (2) respondent prejudiced the estate by raising a

new issue on brief.       We hold that respondent did not raise a new

issue and that the estate may not rely on the stipulation of

facts to preclude respondent’s argument.

                                Background

       The parties submitted this case fully stipulated under Rule

122.       The stipulations of facts and the attached exhibits are

incorporated herein by this reference.         Ronald G. Keeton

(decedent), died on July 19, 1999.         Decedent was a citizen and

resident of the United States at the time of his death.           The

record does not reflect where in the United States decedent lived

at the time of his death.       The parties have stipulated that the

legal address of decedent’s personal representative is in Panama

City, Florida.



       2
      Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the date of decedent’s
death, and all Rule references are to the Tax Court Rules of
Practice and Procedure.
                                - 3 -

     On the date of his death, and at all times since

incorporation, decedent owned 100 percent of the stock of Keeton

Corrections, Inc. (Keeton Corrections), a subchapter C

corporation, and 100 percent of the stock of Non-Secure Programs,

Inc. (NSP), an S corporation.    Decedent materially participated

in the operation of both companies.     Both companies operate

corrections facilities.    Keeton Corrections, a Kentucky

corporation authorized to do business in Florida, was

incorporated in 1985 and has operated continuously since that

time.   Keeton Corrections initially contracted with the United

States, the Commonwealth of Kentucky, and the State of Florida to

provide corrections facilities and services as part of the

Federal and State penal systems.    NSP, a Florida corporation, was

incorporated on March 22, 1995.    NSP is not a subsidiary of

Keeton Corrections.     After the incorporation of NSP, Keeton

Corrections and the State of Florida assigned the Florida State

contracts to NSP.    Keeton Corrections continued to operate

corrections facilities under Federal contract in Florida and

various other States.    Upon his death, decedent passed his

interests in both Keeton Corrections and NSP to his daughter,

Kimberly Spence.    Ms. Spence continues to operate these

companies.

     The estate timely filed a Form 706, United States Estate

(and Generation Skipping Transfer) Tax Return, on October 24,
                                - 4 -

2000 (the estate tax return).    On Schedule T of the estate tax

return, the estate claimed a deduction under section 2057 of

$675,000.    The estate reported qualified family-owned business

interests (QFOBIs) valued at $2,870,933, consisting of decedent’s

interest in Keeton Corrections valued at $1,285,531 and his

interest in NSP valued at $1,585,402.     Pursuant to section

2057(b)(1)(B), the executor elected the application of section

2057 and filed the agreement referred to in section 2057(h).

     Respondent issued his notice of deficiency on August 26,

2003.   In his notice of deficiency, respondent, among other

adjustments, disallowed the family-owned business deduction in

its entirety.

                             Discussion

I.   Section 2057

     Section 2057(a) provides an estate tax deduction for QFOBIs

effective for estates of decedents dying after December 31, 1997.

Taxpayer Relief Act of 1997, Pub. L. 105-34, sec. 502(c), 111

Stat. 852.    A QFOBI includes an interest as a proprietor in a

business carried on as a proprietorship or an interest in an

entity carrying on a business if at least 50 percent of the

entity is owned, directly or indirectly, by the decedent or a

member of the decedent's family.    Sec. 2057(e)(1).   If an estate

qualifies for and elects to take the deduction, up to $675,000 of

the adjusted value of QFOBIs may be deducted from the value of a
                                  - 5 -

decedent’s gross estate.   Sec. 2057(a)(2).   Several requirements

must be met either before death or at the time of death for

interests in a business to be eligible for the section 2057

deduction.   Section 2057(b)(1) sets forth requirements necessary

to obtain the deduction:

     SEC. 2057(b). Estates to Which Section Applies.--

          (1) In general.--This section shall apply to an
     estate if--

               (A) the decedent was (at the date of the
          decedent's death) a citizen or resident of
          the United States,

               (B) the executor elects the application
          of this section and files the agreement
          referred to in subsection (h),

                (C) the sum of–

                     (i) the adjusted value of the
                qualified family-owned business
                interests described in paragraph
                (2), plus

                     (ii) the amount of the gifts
                of such interests determined under
                paragraph (3),

          exceeds 50 percent of the adjusted gross estate, and

               (D) during the 8-year period ending on
          the date of the decedent's death there have
          been periods aggregating 5 years or more
          during which–

                     (i) such interests were owned
                by the decedent or a member of the
                decedent's family, and

                     (ii) there was material
                participation (within the meaning
                of section 2032A(e)(6)) by the
                               - 6 -

                decedent or a member of the
                decedent’s family in the operation
                of the business to which such
                interests relate.

      The parties have stipulated that the estate has satisfied

the requirements listed in section 2057(b)(1)(A) and (B).     The

parties have also stipulated that the only dispute is whether the

stipulated facts demonstrate that the estate has satisfied the

requirements of section 2057(b)(1)(C) and (D).

II.   Evolution of the Parties’ Current Positions

       In his notice of deficiency, respondent gave the following

explanation for denying the deduction:

      It is determined that the deduction claimed under
      Section 2057 of the Internal Revenue Code of 1986 is
      not allowed because during the eight year period ending
      on the date of the Decedent’s death there were not
      periods aggregating five years or more during which
      such interests were owned by the Decedent or a member
      of the Decedent’s family. Therefore the sum of the
      adjusted value of the family-owned business interests
      plus the amount of gifts of such interests does not
      exceed 50% of the adjusted gross estate.

      In its petition and opening brief, the estate argued that

there were periods aggregating 5 years or more during which

decedent owned both Keeton Corrections and NSP.     The estate

asserted that the language of section 2057(b)(1)(D) refers to

“such interests” and does not require that each individual

interest in a corporation meet the 5-year requirement.     The

estate asserted that the two corporations should be viewed as one

collective business because the incorporation of NSP, which
                                 - 7 -

occurred fewer than 5 years before decedent’s death, was a

continuation of the business of Keeton Corrections that provided

the same services to the same customers and under the same

contracts.     Therefore, the estate concluded that it satisfied the

50-percent test under section 2057(b)(1)(C) because it would be

able to include the values of both corporations.    The estate also

argued that even if NSP did not satisfy section 2057(b)(1)(D),

the estate could still include the value of NSP in the 50-percent

test calculation under section 2057(b)(1)(C) because NSP was an

“Includible qualified family-owned business interest” under

section 2057(b)(2), which section 2057(b)(1)(C) cross-

references.3

     In his opening brief, respondent asserted that even if the

estate were allowed to combine the interests in NSP and Keeton

Corrections for purposes of section 2057(b)(1)(C), the adjusted

value of those combined interests would still not exceed 50

percent of the adjusted gross estate.    Since the estate would not

be able to satisfy section 2057(b)(1)(C), even if able to

aggregate the values of both corporations, respondent concluded

that the estate would not be able to qualify for the deduction.



     3
      Sec. 2057(b)(2) provides that “includible qualified family-
owned business interests” are interests that are included in
determining the value of the decedent’s gross estate and that
have passed to a qualified heir from the decedent.
                                - 8 -

The estate concedes that the adjusted value of the combined

interests in NSP and Keeton Corrections does not exceed 50

percent of the adjusted gross estate.

III.    The Current Dispute Between the Parties

       Since the estate concedes that it does not pass the 50-

percent test under section 2057(b)(1)(C), it is unnecessary for

us to decide whether NSP meets the requirement under section

2057(b)(1)(D) for purposes of the 50-percent test in section

2057(b)(1)(C).    The estate’s concession obviates any further

analysis under the statute because if both corporations combined

do not satisfy the 50-percent test of section 2057(b)(1)(C), the

estate will not be entitled to the deduction.

       The estate has raised two additional procedural arguments

that require resolution by this Court.    First, the estate argues

that the parties have stipulated that the combined value of

Keeton Industries and NSP satisfies section 2057(b)(1)(C), and

that the stipulation is binding on the parties and this Court.

Rule 91(e); Stamos v. Commissioner, 87 T.C. 1451, 1454 (1986).

In the alternative, the estate argues that we must refuse to

consider respondent’s argument that both interests combined could

not meet the requirement under section 2057(b)(1)(C) because he

prejudiced the estate by not raising it until his opening brief.
                               - 9 -

For the reasons discussed below, we disagree with the estate on

both points.

IV.   The Stipulation of Facts Does Not Preclude Respondent From
      Arguing That the Estate Will Fail To Meet the Requirements
      of Section 2057(b)(1)(C) Even If the Two Corporations Are
      Aggregated.

      The estate claims that respondent’s argument is contrary to

the stipulation of facts entered into by the parties.     In

particular, the estate cites paragraph 15 of the parties’

stipulation of facts, which states:

           15. The value of the combined interest in Keeton
      Corrections, Inc. and Non-Secure Programs Inc. exceeds
      50% of the decedent’s adjusted gross estate.

The estate claims that respondent’s argument is an “attempt to

mislead this Court.”   We disagree.    The estate may not rely on

the above stipulation.   The stipulation as worded does not

contradict what respondent is arguing.     The stipulation says that

the combined value of the interests in Keeton Corrections and NSP

is greater than 50 percent of the adjusted gross estate.

However, that is not what the statute requires.     In order to

obtain the deduction, section 2057(b)(1)(C) requires that the

combined adjusted values of the qualified family-owned business

interests exceed 50 percent of the adjusted gross estate.      These

are not just semantics--section 2057 devotes two entire

subsections to defining and providing formulas for the terms
                                - 10 -

“adjusted value” and “adjusted gross estate”.4

     By stipulating that the “combined value” of Keeton

Corrections and NSP exceeds 50 percent of the adjusted gross

estate, the parties have left out a crucial part of the

calculation by not including the word “adjusted” in front of

value.   The parties did not, however, omit the word “adjusted”

from “adjusted gross estate”.    The estate is not alleging that


     4
      Sec. 2057(c) and (d) defines the “adjusted gross estate”
and the “adjusted value” of the QFOBIs. The adjusted value of
the QFOBIs enters into the numerator, and the adjusted gross
estate is the denominator for purposes of the 50-percent test
under sec. 2057(b)(1)(C). The adjusted value of the QFOBIs is
determined by aggregating the value of all qualified family-owned
business interests that are includable in the decedent’s gross
estate and are passed from the decedent to a qualified heir.
This amount is then reduced by the value of claims and mortgages
under sec. 2053(a)(3), and (4), less the following: (1)
Indebtedness on a qualified residence of the decedent (determined
in accordance with the requirements for deductibility of mortgage
interest set forth in sec. 163(h)(3)); (2) indebtedness incurred
to pay the educational or medical expenses of the decedent, the
decedent’s spouse, or the decedent’s dependents; and (3) other
indebtedness of up to $10,000. H. Conf. Rept. 105-220, at 397-
398 (1997), 1997-4 C.B. (Vol. 2) 1457, 1867-1868. The value of
the adjusted gross estate is equal to the decedent’s gross
estate, reduced by any claims against the estate and mortgages on
estate assets, and increased by the amount of the following
transfers, to the extent not already included in the decedent’s
gross estate: (1) Any lifetime transfers of qualified business
interests that were made by the decedent to members of the
decedent’s family provided such interests have been continuously
held by members of the decedent’s family (other than the
decedent’s spouse), plus (2) any other transfers from the
decedent to the decedent’s spouse that were made within 10 years
of the date of the decedent’s death, plus (3) any other gifts
made by the decedent within 3 years of the decedent’s death,
except nontaxable transfers made to members of the decedent’s
family covered by the annual per donee exclusion of sec. 2503(b).
Id.
                              - 11 -

there was a mutual mistake made in the stipulation process.    See,

e.g., Graham v. Commissioner, T.C. Memo. 2005-68.   We cannot read

the stipulation the estate cites as saying that the adjusted

values of NSP and Keeton Corrections together exceed 50 percent

of the adjusted gross estate because that is simply not what the

stipulation says.   Even on brief, the estate continued to argue

that it satisfied the 50-percent test because “the combined value

of Keeton Industries and NSF exceeds 50 percent of the adjusted

gross estate.”   Both the estate’s reliance on the stipulation and

its articulation of the 50-percent test in its briefs reflect a

misreading of the statute.   Therefore, respondent did not concede

anything in the stipulation that contradicts what respondent is

arguing now--that the adjusted value of the interests does not

exceed 50 percent of the adjusted gross estate.   The stipulation

of settled issues reflects that the parties agreed that the

estate was entitled to deduct a total of $732,000 for claims

against the estate which were not reported on the return but were

allowed in the notice of deficiency.   These amounts significantly

reduced the adjusted value of the corporations and caused the

adjusted value of the corporations to fall below 50 percent.    See

sec. 2057(d)(1).
                                - 12 -


V.   Respondent Has Not Unfairly Prejudiced the Estate by Arguing
     on Brief That the Adjusted Value of the Combined Interests
     of the Corporations Does Not Exceed 50 Percent of the
     Adjusted Gross Estate.

     The estate argues that this Court should refuse to consider

respondent’s argument concerning the 50-percent test because

according to the estate, respondent raised it as a new issue in

his opening brief.   In support of its position, the estate cites

cases where this Court has declined to consider arguments raised

for the first time by a party in its pretrial memorandum or brief

where our consideration of such argument would surprise or

prejudice the opposing party.    Harrison v. Commissioner, T.C.

Memo. 1994-268 (citing Gordon v. Commissioner, 85 T.C. 309, 331

n.16 (1985); Fox Chevrolet, Inc. v. Commissioner, 76 T.C. 708,

733-736 (1981)).

     The estate’s argument that it has been prejudiced revisits

the argument it made that respondent’s position contradicts the

stipulation of facts.   The estate’s position is that it is

prejudiced because it agreed to forgo trial based upon the

premise that the only issue in dispute was whether the estate

could combine the values of the two corporations to pass the 50-

percent test.   Based upon the estate’s reading of the stipulation

regarding the combined values of the corporations, the estate

assumed that whether the two corporations combined passed the 50-

percent test was no longer at issue.     We have already concluded
                               - 13 -

that the estate is misreading the stipulation.     We cannot think

of any other reason why the estate would be prejudiced.     The 50-

percent test under section 2057(b)(1)(C) is an arithmetical

calculation based on the definitions of adjusted value and

adjusted gross estate in section 2057(c) and (d).     The values

used to compute the adjusted gross estate and the adjusted value

are no longer in dispute.   Respondent has not caused the estate

to “face a belated confrontation which precludes or limits that

party’s opportunity to present pertinent evidence”.      Ware v.

Commissioner, 92 T.C. 1267, 1268 (1989), affd. 906 F.2d 62 (2d

Cir. 1990).   All of the evidence needed to apply the legal

standard is already in the record.      Neither party has suggested

that the record contains insufficient facts to permit us to

dispose of the case on the grounds of respondent’s argument.       See

Smalley v. Commissioner, 116 T.C. 450, 457 (2001).      The estate is

not arguing that any information needed to determine the values

in section 2057(c) and (d) is missing or that respondent’s

calculations are incorrect.

     Further, the estate has no reason to be surprised by

respondent’s argument.   Respondent’s argument does not raise a

new issue but appeals to the correct application of the law,

based upon the record presented and in support of a claim of

which the estate was well aware.   See Zapara v. Commissioner, 126

T.C. 215, 219 (2006).    It is based on the correct application of
                              - 14 -

section 2057(b)--the same section upon which the parties have

focused their dispute from the beginning of this controversy.

See Smalley v. Commissioner, supra at 457.    At its core, the

notice of deficiency denied the estate the deduction because it

failed the 50-percent test under section 2057(b)(1)(C).   The

parties have been arguing about whether the estate’s corporations

pass the 50-percent test from the outset.    Respondent’s argument

does not raise any new issue that should have surprised the

estate in any way.   We conclude that respondent’s argument

applying section 2057(b)(1)(C) does not prejudice or surprise the

estate.

VI.   Conclusion

      The estate has conceded respondent’s argument that the

estate cannot meet the requirements of section 2057(b)(1)(C) even

if the adjusted values of the two corporations are aggregated

and therefore does not qualify for the qualified family-owned

business deduction under section 2057.   The actual stipulation

that the parties entered into did not establish that the estate

satisfied section 2057(b)(1)(C).   Therefore, the stipulation

contradicts neither respondent’s argument nor the estate’s

concession of his argument.   Finally, the fact that respondent

raised his argument for the first time on brief does not prevent

us from considering it because it simply applies the correct law
                                - 15 -

to the facts based upon a legal dispute framed by the notice of

deficiency.   Accordingly, the estate is not entitled to any

deduction under section 2057.

     To reflect the foregoing, and concessions,


                                          Decision will be entered

                                     under Rule 155.
