                         T.C. Memo. 2008-128



                       UNITED STATES TAX COURT



                JANE Z. ASTLEFORD, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 4342-06.                 Filed May 5, 2008.



     Sue Ann Nelson and Robert J. Stuart, for petitioner.

     Trent D. Usitalo and David Zoss, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION

     SWIFT, Judge:    Respondent determined deficiencies of

$127,619 and $3,997,288 in petitioner’s 1996 and 1997 respective

Federal gift taxes.

     After settlement by the parties of the valuation of a number

of properties, in order to calculate the fair market value of

limited partnership interests petitioner transferred as gifts in
                              - 2 -
1996 and 1997, we must determine the fair market value of 1,187

acres of Minnesota farmland, whether a particular interest in a

general partnership should be valued as a partnership interest or

as an assignee interest, and the lack of control and lack of

marketability discounts that should apply to the limited and to

the general partnership interests.

     Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the 2 years in issue, and

all Rule references are to the Tax Court Rules of Practice and

Procedure.


                        FINDINGS OF FACT

     Many of the facts have been stipulated and are so found.

     At the time the petition was filed, petitioner resided in

Minnesota.

     Petitioner’s husband, M.G. Astleford (MG), was a successful

real estate businessman who over the course of years acquired

individually, jointly with petitioner, and through various trusts

and limited and general partnerships significant interests in

real estate located primarily in Minnesota.   Below, we briefly

describe the interests in real estate MG and petitioner owned and

that petitioner transferred to a family limited partnership and

the gifts of interests in the family limited partnership that

petitioner in 1996 and in 1997 made to her children.
                               - 3 -
     In 1970, MG and Richard T. Burger formed Pine Bend

Development Co. (Pine Bend) as a Minnesota general partnership.

MG and Mr. Burger were each 50-percent general partners in Pine

Bend.   Under provisions of the Pine Bend general partnership

agreement, consent of each partner was required with respect to

the management, conduct, and operation of the partnership

business in all respects and in all matters.   The Pine Bend

general partnership agreement did not contain any provisions

relating to the transfers of interests in Pine Bend and whether

such transferred interests would be general partnership or

assignee interests.

     In 1970, Pine Bend purchased 3,000 acres of land near St.

Paul, Minnesota, of which 1,187 acres consisted of agricultural

farmland in Rosemount, Minnesota (the Rosemount property).     Pine

Bend leased 944 acres of the Rosemount property to farmers and

leased out the remaining acreage for use as a commercial

paintball field.

     The Rosemount property was located near an industrial area

and an oil refinery and approximately 6 miles from the nearest

residential neighborhood.   The Rosemount property was not

connected to municipal sewer or water.

     On or about February 20, 1992, MG and petitioner each

created separate revocable trusts, and they each transferred to

their separate trusts various interests in real estate.
                              - 4 -
     On April 1, 1995, MG passed away.   As of the date of his

death, MG owned directly (or indirectly through various

partnerships and his above revocable trust) interests in 41 real

properties located in Minnesota and California.   All of MG’s real

estate interests passed under MG’s last will and testament to the

M.G. Astleford Marital Trust (the marital trust), which on MG’s

death came into existence under MG’s will for the benefit of

petitioner.

     After MG’s death in 1995, petitioner owned (indirectly

through the marital trust) all of the interests in the various

real properties that MG had acquired over the years, and

petitioner continued to own all of the real estate interests she

separately had acquired.

     On August 1, 1996, petitioner formed the Astleford Family

Limited Partnership (AFLP) as a Minnesota limited partnership to

facilitate the continued ownership, development, and management

of the various real estate investments and partnership interests

petitioner then owned and to facilitate the gifts which

petitioner intended to give to her three adult children.

     Under provisions of the AFLP agreement, AFLP‘s net cashflow

was to be distributed annually among the partners.   The limited

partners were not entitled to vote on matters relating to

management of AFLP, no outside party could become a partner in

AFLP without consent of petitioner as general partner, a limited
                                 - 5 -
partner could not sell or transfer any part of his or her AFLP

limited partnership interest without consent of petitioner, and

no real property interest held by AFLP could be partitioned

without consent of petitioner.

     On August 1, 1996, petitioner funded AFLP by transferring

her ownership interest in an elder-care assisted living facility

with a stipulated value of $870,904.

     Also on August 1, 1996, petitioner gave each of her three

children a 30-percent limited partnership interest in AFLP,

retaining for herself a 10-percent AFLP general partnership

interest.

     A November 2, 1997, partnership resolution of AFLP referred

to an impending transfer to AFLP of petitioner’s 50-percent Pine

Bend interest as a transfer of petitioner’s “entire right and

interest” in Pine Bend.

     On December 1, 1997, as an additional capital contribution

to AFLP, petitioner transferred to AFLP her 50-percent Pine Bend

interest and her ownership interest in 14 other real estate

properties located in the Minneapolis-St. Paul metropolitan area

(the other properties).

     As a result of the December 1, 1997, transfer to AFLP of

petitioner’s 50-percent Pine Bend interest and of the other

properties, petitioner’s general partnership interest in AFLP
                               - 6 -
increased significantly, and petitioner’s children’s respective

limited partnership interests in AFLP decreased significantly.

     However, also on December 1, 1997, and simultaneously with

petitioner’s above transfer of property to AFLP, petitioner gave

each of her three children additional limited partnership

interests in AFLP having the effect of reducing petitioner’s AFLP

general partnership interest back down to approximately 10

percent and increasing petitioner’s children’s AFLP limited

partnership interests back up to approximately 30 percent apiece.

     In 1996 and in 1997, petitioner’s three children did not

make any contributions to the capital of AFLP.

     On audit, as compared to the values and discounts used by

petitioner in calculating and reporting on her 1996 and 1997

Federal gift tax returns the value of the gifts of AFLP limited

partnership interests to her three children, respondent increased

the fair market values of a number of the properties that were

transferred to AFLP and the fair market value of AFLP’s net asset

value (NAV).   Respondent decreased the lack of control and lack

of marketability discounts applicable to the valuation of the

gifted AFLP limited partnership interests.   The schedule below

reflects the total value of petitioner’s taxable gifts and gift

tax liabilities for 1996 and 1997, as reported on petitioner’s

Federal gift tax returns and as determined by respondent on

audit:
                                     - 7 -

                   Petitioner’s                    Respondent’s Audit
                  Gift Tax Returns                   Determinations
               Taxable      Gift Tax              Taxable        Gift Tax
   Year        Gifts       Liability               Gifts         Liability
   1996    $    277,441    $     79,581       $     626,898     $    127,619
   1997        3,954,506       2,005,689          10,937,268        3,997,288


                                    OPINION

       Under section 2501(a)(1) the transfer of property by gift is

subject to Federal gift taxes.         The amount of the gift is equal

to the fair market value of the gifted property, defined as the

price at which, on the date of the gift, the property would

change hands between a willing buyer and a willing seller,

neither being under any compulsion to buy or sell and both having

reasonable knowledge of relevant facts.            Sec. 2512(a); sec.

25.2512-1, Gift Tax Regs.; see also Rev. Rul. 59-60, 1959-1 C.B.

237.

       A willing buyer and a willing seller are hypothetical

persons, rather than specific individuals or entities, and their

characteristics are not necessarily the same as those of the

donor and the donee of the property in question.               Estate of

Bright v. United States, 658 F.2d 999, 1006 (5th Cir. 1981);

Estate of Newhouse v. Commissioner, 94 T.C. 193, 218 (1990).

       The valuation of property is a question of fact, and all

relevant facts and circumstances are to be considered.                 Polack v.
                               - 8 -
Commissioner, 366 F.3d 608, 613 (8th Cir. 2004), affg. T.C. Memo.

2002-145.

     In deciding valuation issues, courts often receive into

evidence and consider the opinions of expert witnesses.

Helvering v. Natl. Grocery Co., 304 U.S. 282, 295 (1938).     We may

largely accept the opinion of one expert over the opinion of

another expert, see Buffalo Tool & Die Mfg. Co., Inc. v.

Commissioner, 74 T.C. 441, 452 (1980), and we may be selective in

determining which portion of an expert’s opinion to accept,

Parker v. Commissioner, 86 T.C.547, 562 (1986).

     The fair market values of the Rosemount property, the 50-

percent Pine Bend interest, and the other properties--that

petitioner on August 1, 1996, and on December 1, 1997, directly

or indirectly transferred as additional capital contributions to

AFLP--obviously increased the fair market value of the three AFLP

limited partnership interests that petitioner simultaneously

transferred to her children.   As stated, of these underlying

properties transferred to AFLP, the parties herein dispute only

the value of the Rosemount property, whether the 50-percent Pine

Bend interest should be valued as a general partnership interest

or as an assignee interest, and the lack of control and lack of

marketability discounts that should apply to the 50-percent Pine

Bend interest and to the gifted AFLP limited partnership

interests.
                              - 9 -
The Rosemount Property

     On the basis of the average size of a farm in Minnesota

(namely 160 acres or a one quarter section), petitioner’s expert1

treated the 1,187-acre Rosemount property owned by Pine Bend as

extraordinarily large and unique and used the market data

approach in his valuation, with a downward adjustment for an

absorption discount.

     Petitioner’s expert identified as comparables to the

Rosemount property 18 farm properties that had been sold.     He

adjusted the 18 properties for differences from the Rosemount

property based on date of sale, location, and size, and he

calculated an initial value for the Rosemount property of $3,100

per acre, or a total of $3,681,000.   Petitioner’s expert’s

absorption discount decreased the value to $1,817 per acre, or a

total fair market value of $2,160,000.

     Petitioner’s expert’s absorption discount was based on his

opinion that a sale of the entire Rosemount property would flood

the local market for farmland and would reduce the per-acre price

at which the Rosemount property could be sold.   Believing that

the Rosemount property would sell over the course of 4 years and

would appreciate 7 percent each year, petitioner’s expert



     1
       At trial, petitioner had four experts, and respondent had
two experts. Throughout our opinion, we simply reference
“petitioner’s expert” and “respondent’s expert” without further
identification.
                               - 10 -
performed a cashflow analysis using a present value discount rate

of 25 percent.2

     Respondent’s expert, in valuing the Rosemount property, also

used the market data approach and reviewed the sale of

approximately 125 Minnesota farmland properties.   He personally

viewed and visited 12 of the properties.   Ultimately,

respondent’s expert chose two of the properties he considered

comparable to the Rosemount property, and he made adjustments to

his two comparables based on date of sale, and he arrived at a

per-acre value for the Rosemount property of $3,500, or a total

fair market value of $4,156,000.

     Respondent’s expert did not believe other adjustments and

discounts were necessary because of the similarity of his two

comparables to the Rosemount property.   Respondent’s expert also

concluded that because in 1970 3,000 acres of land (including the

Rosemount property) had been purchased by Pine Bend in a single

transaction, the entire Rosemount property likely could be sold

in a single year without an absorption discount.   Respondent’s

expert also concluded that even if an absorption discount was

appropriate, petitioner’s 25-percent present value discount rate

was excessive.    Respondent argued that the present value discount

rate should track the rate of return on equity which farmers in

     2
       Petitioner’s expert also reduced projected annual cashflow
by estimated sales expenses and costs of 7.25 percent and by
property taxes of approximately .6 percent.
                             - 11 -
Dakota County, Minnesota, actually earned, and respondent’s

expert referenced a report of the Southeastern Minnesota Farm

Business Management Association indicating that in 1997 the

average rate of return on equity for farmers in southeastern

Minnesota was 9.2 percent.

     Respondent’s expert was particularly credible and highly

experienced and possessed a unique knowledge of property located

throughout Dakota County and the surrounding area, and we

conclude that respondent’s expert’s initial value of $3,500 per

acre for the Rosemount property is correct.   However, we believe

that due to the size of the Rosemount property in relation to the

number of acres sold each year in Dakota County, it is unlikely

that all 1,187 acres of the Rosemount property would be sold in a

single year without a price discount.

     In other valuation cases we have allowed a market absorption

discount based on the understanding that a sale of a large parcel

of real estate over a short period of time tends to reduce the

price for which real estate otherwise would sell.   See Estate of

Rodgers v. Commissioner, T.C. Memo. 1999-129; Carr v.

Commissioner, T.C. Memo. 1985-19; Estate of Grootemaat v.

Commissioner, T.C. Memo. 1979-49.

     We, however, regard petitioner’s present value discount rate

of 25 percent as unreasonably high because it relies on

statistics relating to developers of real estate who expect
                              - 12 -
greater returns given greater risks.   A present value discount

rate is a function of the riskiness of a project, and the

hypothetical project herein is not land development but the sale

of farmland over 4 years.

     Over 75 percent of the Rosemount property was leased to

farmers providing a source of future income to a prospective

purchaser.   Given the low level of risk, a rate of return that

likely would induce a purchase of the Rosemount property would be

more akin to the return on equity which farmers in the area were

actually earning--namely, 9.2 percent.   See IT&S of Iowa, Inc. v.

Commissioner, 97 T.C. 496, 531 (1991) (rate of return on equity

used as an appropriate present value discount rate).

     Given the minimal risk involved in selling the Rosemount

property over 4 years, the fact that most of the acreage was

already leased, and the 9.2-percent return on equity earned by

southeastern Minnesota farmers in 1997, we conclude that the

appropriate present value discount rate to apply to the projected

cashflow from the Rosemount property over 4 years is 10 percent.

Using an initial per-acre value of $3,500, and substituting a

present value discount rate of 10 percent, the fair market value

of the Rosemount property, taking into account market absorption

over 4 years, is $2,786.14 per acre or a total fair market value
                                  - 13 -
of $3,308,575.3   In the summary schedule below (using rounded

numbers), we compare the parties’ calculations with our

calculation for the fair market value of the Rosemount property:


                             Petitioner’s     Respondent’s         Our
  Rosemount Property*           Expert           Expert        Calculation
Per acre value before
  absorption discount         $    3,100       $    3,500       $      3,500
Value of 1,187.51 acres
  before absorption
  discount                     3,681,000        4,156,000           4,156,000
Per acre value after
  absorption discount              1,817            3,500           2,786.14
Total value of 1,187.51
  acres after absorption
  discount                     2,160,000        4,156,000           3,308,575

          *   We use actual acreage for the Rosemount property of
              1,187.51 acres.


Treatment of 50-Percent Pine Bend Interest

     The valuation dispute relating to Pine Bend involves the

treatment or the nature, for gift tax valuation purposes, of the

50-percent Pine Bend interest that petitioner transferred to AFLP

(i.e., whether it should be treated as a general partnership

interest or merely as an assignee interest) and the lack of

control and lack of marketability discounts that should apply to

the 50-percent Pine Bend interest.



     3
       Like petitioner’s expert, we assume 7-percent annual
appreciation and reduce projected cashflow by estimated sales
expenses and property taxes of 7.25 percent and .6 percent,
respectively.
                              - 14 -
     Petitioner treats the 50-percent Pine Bend interest

transferred to AFLP as an assignee interest and discounts that

interest by 5 percent because under Minnesota law a holder of an

assignee interest would have an interest only in the profits of

Pine Bend and would have no influence on management.   See Minn.

Stat. sec. 323.26 (1996), repealed by Minn. Stat. ch. 323A

(enacted 1997 and renumbered Supp. 2008).

     Petitioner’s argument that under Minnesota law the 50-

percent Pine Bend interest should be treated as an assignee

interest is based primarily on Minnesota law and trial evidence

suggesting that Mr. Burger, the other 50-percent Pine Bend

general partner, did not consent to petitioner’s December 1,

1997, transfer to AFLP of petitioner’s Pine Bend interest.    See

Minn. Stat. sec. 323.26.

     Respondent argues that the substance over form doctrine

should apply and that thereunder the Pine Bend interest

petitioner transferred to AFLP should be treated as a general

partnership interest.   We agree with respondent and so hold.4


     4
       Alternatively, respondent argues that if the 50-percent
Pine Bend interest is to be treated as an assignee interest,
petitioner’s voting and liquidation rights in the transferred
Pine Bend interest would have lapsed on the date of petitioner’s
transfer thereof, and under sec. 2704(a) the lapse would trigger
an additional deemed taxable gift by petitioner of those rights--
effectively recapturing for Federal gift tax purposes the value
of the voting and liquidation rights (i.e., the difference in
value between a Pine Bend general partnership interest and a Pine
Bend assignee interest). Because of our resolution as to the
substance of the transferred 50-percent Pine Bend interest, we
                                                   (continued...)
                               - 15 -
     The Federal tax effect of a particular transaction is

governed by the substance of the transaction rather than by its

form.    In Frank Lyon Co. v. United States, 435 U.S. 561, 573

(1978), the Supreme Court explained this substance over form

doctrine as follows:


     In applying this doctrine of substance over form, the
     Court has looked to the objective economic realities of
     a transaction rather than to the particular form the
     parties employed. The Court has never regarded “the
     simple expedient of drawing up papers,” Commissioner v.
     Tower, 327 U.S. 280, 291 (1946), as controlling for tax
     purposes when the objective economic realities are to
     the contrary. “In the field of taxation, administrators
     of the laws, and the courts, are concerned with
     substance and realities, and formal written documents
     are not rigidly binding.” Helvering v. Lazarus & Co.,
     308 U.S. [252, 255 (1939).] * * *


     The substance over form doctrine has been applied to Federal

gift and estate taxes.   See Heyen v. United States, 945 F.2d 359,

363 (10th Cir. 1991); Estate of Murphy v. Commissioner, T.C.

Memo. 1990-472.   In particular, we have applied the substance

over form doctrine in valuation cases to treat transfers of

alleged assignee interests as, in substance, transfers of

partnership interests.   See Kerr v. Commissioner, 113 T.C. 449,

464-68 (1999), affd. on another issue 292 F.3d 490 (5th Cir.

2002).




     4
      (...continued)
need not address respondent’s alternative argument under sec.
2704(a).
                              - 16 -
     The facts in this case establish that in substance the Pine

Bend interest transferred by petitioner to AFLP should be treated

as a general partnership interest, not as a Pine Bend assignee

interest.   Because petitioner was AFLP’s sole general partner,

petitioner was essentially in the same management position

relative to the 50-percent Pine Bend interest whether she is to

be viewed as having transferred to AFLP a Pine Bend assignee

interest (and thereby retaining Pine Bend management rights) or

as having transferred those management rights to AFLP via the

transfer of a Pine Bend general partnership interest (in which

case she reacquired those same management rights as sole general

partner of AFLP).   Either way, after December 1, 1997, petitioner

continued to have and to control the management rights associated

with the 50-percent Pine Bend general partnership interest.

     We note that the November 2, 1997, AFLP partnership

resolution treats petitioner’s Pine Bend transfer as a transfer

of all of petitioner’s rights and interests in Pine Bend,

suggesting the transfer of a general partnership interest, not

the transfer of an assignee interest.   See Estate of Jones v.

Commissioner, 116 T.C. 121, 133 (2001) (interests not assignee

interests where documents referred to interests as “partnership”

interests); Kerr v. Commissioner, supra at 466-467 (interests not

assignee interests where language used to document transfers

demonstrated “partnership” interests were transferred); Estate of
                              - 17 -
Dailey v. Commissioner, T.C. Memo. 2001-263 (interests not

assignee interests where documents referred to “partnership”

interests); cf. Estate of Nowell v. Commissioner, T.C. Memo.

1999-15 (interests assignee interests where documents did not

indicate partnership interests were transferred).


Discounts Applicable to Pine Bend and to AFLP Interests

     For purposes of calculating lack of control and lack of

marketability discounts that should apply to the 50-percent Pine

Bend general partnership interest petitioner transferred to AFLP

on December 1, 1997, and to the AFLP limited partnership

interests petitioner gave to her children on August 1, 1996, and

December 1, 1997, petitioner’s expert relied on comparability

data from sales of registered real estate limited partnerships or

RELPs.   Respondent’s expert relied on comparability data from

sales of publicly traded real estate investment trusts or REITs.

     We decline to declare either RELP or REIT data generally

superior to the other.   We note that courts have accepted expert

valuations using both RELP and REIT data.   For example, RELP data

were used in Estate of Weinberg v. Commissioner, T.C. Memo. 2000-

51, and Temple v. United States, 423 F. Supp. 2d 605, 619 (E.D.

Tex. 2006); REIT data were used in Lappo v. Commissioner, T.C.

Memo. 2003-258, and Estate of McCormick v. Commissioner, T.C.

Memo. 1995-371.
                              - 18 -
     We believe that when considering the size, marketability,

management, distribution requirements, and taxation of RELPs and

REITs, RELPs more closely resemble AFLP and Pine Bend, and we

believe that the low trading volume on the RELP secondary market

is not so low as to render available RELP data unreliable.

     We also believe, however, that the large number of REIT

sales transactions tends to produce more reliable data compared

to the limited number of RELP sales transactions.   We believe

further that differences between REITS, on the one hand, and Pine

Bend and AFLP, on the other, may be minimized given the large

number of REITs from which to choose comparables.

     With regard to the lack of control and lack of marketability

discounts applicable to the 50-percent Pine Bend general

partnership interest which petitioner on December 1, 1997,

transferred to AFLP, petitioner’s expert identified trading

discounts (i.e., differences between unit or share trading prices

and unit or share NAVs) observed in 17 RELP comparables trading

on the RELP secondary market, and he equated those trading

discounts with a combined discount for lack of control and lack

of marketability.   Petitioner’s expert derived therefrom what he

believed should be the lower and upper limits to his combined

discount–-a floor of 22 percent and a ceiling of 46 percent--but

he then abruptly concluded that a combined 40-percent discount

for lack of control and lack of marketability should apply
                             - 19 -
without explaining further how he picked 40 percent as opposed to

22 or 46 percent, or some other number within his range.

     In valuing the 50-percent Pine Bend general partnership

interest, respondent’s expert concluded that because the Pine

Bend partnership interest was simply an asset of AFLP, discounts

he applied at the AFLP level, see infra pp. 22-24, obviated the

need to apply an additional and separate discount at the Pine

Bend level.5

     With regard to petitioner’s expert’s 17 RELP comparables we

eliminate 4 of the RELP comparables because their data was based

on information from 1999, not from 1997.   Median and mean trading

discounts of approximately 30 and 36 percent were observed in the



     5
       We note that this Court, as well as respondent, has
applied two layers of lack of control and lack of marketability
discounts where a taxpayer held a minority interest in an entity
that in turn held a minority interest in another entity. See
Estate of Piper v. Commissioner, 72 T.C. 1062, 1085 (1979); Janda
v. Commissioner, T.C. Memo. 2001-24; Gow v. Commissioner, T.C.
Memo. 2000-93, affd. 19 Fed. Appx. 90 (4th Cir. 2001); Gallun v.
Commissioner, T.C. Memo. 1974-284. However, we also have
rejected multiple discounts to tiered entities where the lower
level interest constituted a significant portion of the parent
entity’s assets, see Martin v. Commissioner, T.C. Memo. 1985-424
(minority interests in subsidiaries comprised 75 percent of
parent entity’s assets), or where the lower level interest was
the parent entity’s “principal operating subsidiary”, see Estate
of O’Connell v. Commissioner, T.C. Memo. 1978-191, affd. on this
point, revd. on other issues 640 F.2d 249 (9th Cir. 1981).

     The 50-percent Pine Bend interest constituted less than
16 percent of AFLP’s NAV and was only 1 of 15 real estate
investments that on Dec. 1, 1997, were held by AFLP, and lack of
control and lack of marketability discounts at both the Pine Bend
level and the AFLP parent level are appropriate.
                              - 20 -
remaining RELP comparables.   In light of these median and mean

trading discounts and in light of 28.7 percent and 30 percent

median and mean trading discounts observed in a total sample of

130 RELPs in 1997, we conclude that a combined discount of 30

percent for lack of control and lack of marketability is

appropriate for the 50-percent Pine Bend interest that petitioner

on December 1, 1997, transferred to AFLP.    We conclude that as of

December 1, 1997, the fair market value of the 50-percent Pine

Bend general partnership interest petitioner transferred to AFLP

is $1,299,107, computed as follows:


     Pine Bend assets
          Cash                                       $  213,159
          Rosemount Property                          3,308,575
          Stipulated NAV of other property              190,000

     Total NAV of Pine Bend                          $3,711,734
          Less 30-percent combined
            discount for lack of control
            and marketability                        (1,113,520)

     Total discounted Pine Bend NAV                  $2,598,214

     12/1/1997 FMV of 50-percent Pine Bend
       general partnership interest                  $1,299,107


     To establish just the lack of control discount applicable to

the AFLP limited partnership interests as of the dates of

petitioner’s gifts thereof to her three children--August 1, 1996,

and December 1, 1997--petitioner’s expert used trading discounts

observed in RELP units traded in the RELP secondary market.

Taking into account AFLP’s financial situation, petitioner’s
                             - 21 -
expert selected nine specific RELPs to serve as comparables to

AFLP.

     Petitioner’s expert’s RELP comparables were significantly

more leveraged than AFLP (from 82 percent to 205 percent of debt

to NAV compared to AFLP’s more moderate leverage in 1997 of 52

percent of debt to NAV), and petitioner’s expert’s RELP

comparables had an average trading discount of 38 percent.

     From his initial nine RELP comparables, petitioner’s expert

selected four RELP comparables he considered most comparable to

AFLP, which had trading discounts ranging from 40 percent to 47

percent, and petitioner’s expert chose a lack of control discount

for the gifted AFLP interests of 45 percent for 1996 and 40

percent for 1997.6

     Of petitioner’s expert’s four specific RELP comparables, two

had NAVs approximately five times the NAV of AFLP and his other

two RELP comparables were even more leveraged.   Where the

comparables are relatively few in number, we look for a greater

similarity between comparables and the subject property.     Cf.

Estate of Heck v. Commissioner, T.C. Memo. 2002-34 (“As

similarity to * * * [a] company to be valued decreases, the

number of required comparables increases”).




     6
       For convenience, we occasionally reference “1996” and
“1997” without specifying the exact valuation dates--namely,
Aug. 1, 1996, and Dec. 1, 1997.
                             - 22 -
     Because AFLP held less debt and was, according to

petitioner’s expert, inherently less risky than his comparables,

we find it unlikely that the proper lack of control discount to

apply to AFLP should be as high as the 45-percent and 40-percent

discounts used by petitioner’s expert for the respective 1996 and

1997 gifted AFLP limited partnership interests.

     Petitioner’s expert also stated that the higher an RELP’s

cash distribution rate the lower the investor risk should be,

which in turn would suggest a lower trading discount.    Because

AFLP’s cash distribution rate of 10 percent was significantly

higher than the 6.7-percent average cash distribution rate

observed in his RELP comparables, under petitioner’s expert’s own

approach his recommended AFLP lack of control discounts should be

lower than the 38-percent average trading discount he observed in

his RELP comparables.

     We conclude that the RELP comparables petitioner’s expert

used are too dissimilar to AFLP to warrant the amount of reliance

petitioner’s expert placed on them, and we conclude that

petitioner’s lack of control discounts for the gifted AFLP

limited partnership interests of 45 percent for 1996 and 40

percent for 1997 are excessive.

     Rather than sifting through RELP data looking for more

appropriate RELPs to serve as comparables in an effort to

estimate lack of control discounts for the gifted AFLP limited
                               - 23 -
partnership interests, we use REIT data used by respondent’s

expert with adjustments to his methodology.

     From an investment advisory firm respondent’s expert

obtained trading prices and share NAVs for approximately 75

REITs.    The REIT data showed that in 1996 in the public

marketplace REITs traded at a median .1-percent premium over per-

share NAV and in 1997 at a median 1.2-percent discount under per-

share NAV.

     Because REITs allow investors to own a minority but at the

same time a liquid investment in an otherwise nonliquid asset

(i.e., real estate), investors in REITs are willing to pay a

liquidity premium (relative to per-share NAV) to invest in REIT

shares.   As explained in McCord v. Commissioner, 120 T.C. 358,

385 (2003), revd. and remanded on other grounds 461 F.3d 614 (5th

Cir. 2006), this does not mean that a lack of control discount is

nonexistent but suggests that an REIT’s share price is in part

affected by two factors, one positive (the liquidity premium) and

one negative (lack of control).    Thus, in analyzing REIT

comparables and their trading prices, it is appropriate to

identify and to quantify, and then to reverse out of the trading

prices, any liquidity premiums that are associated with REIT

comparability data, which calculation results in an REIT discount

for lack of control that can be applied to the subject property.
                                - 24 -
     On the basis of a regression analysis, respondent’s expert

concluded that for 1996 and 1997 REITs traded generally at a

liquidity premium of 7.79 percent over illiquid investments such

as closely held partnership interests.

         To eliminate the effect of this 7.79-percent liquidity

premium on REIT trading share prices respondent’s expert made a

mathematical calculation that for 1996 combined this 7.79-percent

liquidity premium with the observed 1996 .1-percent REIT median

trading premium and the observed 1997 1.2-percent REIT median

trading discount, and he arrived at a lack of control discount to

apply to the gifted AFLP limited partnership interests of 7.14

percent for 19967 and 8.34 percent for 1997.8

     We agree with respondent’s expert that in order to estimate

or quantify an appropriate lack of control discount from REIT

trading prices one should eliminate or reverse out the liquidity

premium inherent in REIT trading prices.     However, respondent’s

expert’s 7.79-percent liquidity premium appears unreasonably low.

Our concern rests partly on the fact that other studies cited by

respondent’s expert suggest that liquidity premiums applicable to

publicly traded investments are nearly double that used by

respondent’s expert and partly on the fact that respondent’s

expert’s 7.79-percent liquidity premium resulted in a discount


     7
         1-[1+.001]/[1+.0779]=.0714.
     8
         1-[1-.012]/[1+.0779]=.0834.
                                - 25 -
for lack of control that, on its face, appears unreasonably low

(namely, his lack of control discounts of 7.14 percent for 1996

and 8.34 percent for 1997).   See Lappo v. Commissioner, T.C.

Memo. 2003-258 (respondent’s expert’s calculation of a liquidity

premium rejected for similar reasons).

     To combine or to calculate a liquidity premium (to use in

this case for 1996 and 1997 and to reverse out of REIT trading

prices to isolate or to quantify an appropriate lack of control

discount), we look simply to the difference in average discounts

observed in the private placements of registered and unregistered

stock based on the premise that the difference so observed

represents pure liquidity concerns, since a ready, public market

is available to owners of registered stock but is unavailable to

owners of unregistered stock.    See McCord v. Commissioner, supra

at 385; Lappo v. Commissioner, supra.    According to two studies

respondent’s expert cited, the difference was approximately 14

percentage points, which results in a general liquidity premium

inherent in publicly traded assets of 16.27 percent9 that would

also be applicable to publicly traded REITs.

     To calculate the lack of control discount present in the

REIT comparables we must eliminate (from the .1-percent median



     9
       If an illiquid asset trades at a discount of 14 percent
relative to a liquid asset, the liquid asset is trading at a
premium of 16.27 percent from the illiquid asset (namely,
1/[1-.14]-1=.1627).
                                - 26 -
trading premium observed for the 1996 REIT comparables and the

1.2-percent median trading discount observed for the 1997 REIT

comparables) this 16.27-percent liquidity premium.    For 1996, we

simply subtract .1 percent from the 16.27-percent liquidity

premium to arrive at a lack of control discount of 16.17

percent.10    For 1997, we simply add 1.2 percent to the 16.27-

percent liquidity premium to arrive at a lack of control discount

of 17.47 percent11.12

     For a lack of marketability discount applicable to the three

30-percent AFLP limited partnership interests petitioner gave to

her children on August 1, 1996, petitioner’s expert estimated a

discount of 15 percent, and respondent’s expert estimated a

discount of 21.23 percent.    We perceive no reason not to use




     10
          .1627-.001=.1617.
     11
          .1627+.012=.1747.
     12
       Without explanation, to arrive at his lack of control
discounts for 1996 and 1997, when combining his liquidity premium
with the REIT trading premium and/or discount, respondent’s
expert used a different mathematical calculation than the one he
used in McCord v. Commissioner, 120 T.C. 358, 385 (2003), revd.
and remanded on other grounds 461 F.3d 614 (5th Cir. 2006). We
use the calculation respondent’s expert used in McCord because of
its simplicity and intuitiveness. We note that use of the
particular mathematical calculation respondent’s expert used
herein would produce lack of control discounts of approximately
14 percent for 1996 (1-[1+.001]/[1+.1627]=.14) and 15 percent for
1997 (1-[1-.012]/[1+.1627]=.15), relatively close to our lack of
control discounts of 16.17 percent and 17.47 percent,
respectively.
                             - 27 -
respondent’s higher marketability discount of 21.23 percent

without further discussion, which we do.

     For the three AFLP limited partnership interests petitioner

gave her children on December 1, 1997, because both parties

advocate a lack of marketability discount of approximately 22

percent, we apply a lack of marketability discount of 22 percent.


Conclusion

     We conclude that the fair market value of each of the three

30-percent AFLP limited partnership interests petitioner gave on

August 1, 1996, was $172,525, (for total taxable gifts in 1996 of

$517,575) and that the fair market value of each of the three

AFLP limited partnership interests petitioner gave on December 1,

1997, was $2,188,405 (for total taxable gifts in 1997 of

$6,565,215), calculated as follows:


     1996 Gifts
     Total stipulated AFLP NAV of
       elder-care facility as of 8/01/96            $870,904
          Less Discounts for AFLP limited
            partnership interests
              16.17-percent lack of control         (140,825)

                                                    $730,079
              21.23-percent lack of marketability   (154,996)

                                                    $575,083

     FMV of each gifted 30-percent interest         $172,525

     Total value of gifted AFLP interests           $517,575*

               * 3 x $172,525 = $517,575.
                              - 28 -
     1997 Gifts
     12/1/1997 NAV of properties and
       interests transferred to AFLP
          50-percent Pine Bend interest              $ 1,299,107
          Stipulated NAV of other
            properties                                10,032,721

                                                     $11,331,828
          Less Discounts for AFLP limited
            partnership interests
               17.47-percent lack of control          (1,979,670)

                                                      $9,352,158
               22-percent lack of marketability       (2,057,475)

                                                      $7,294,683

     FMV of each gifted 30-percent interest           $2,188,405

     Total value of gifted AFLP interests             $6,565,215*

               * 3 x $2,188,405 = $6,565,215.


     This case is decided on the preponderance of the evidence

and is unaffected by section 7491.     See Estate of Bongard v.

Commissioner, 124 T.C. 95, 111 (2005).13

     To reflect the foregoing,


                                      Decision will be entered

                                 under Rule 155.



     13
       Because of the way AFLP’s capital accounts were
maintained, petitioner argues that on Dec. 1, 1997, she
transferred to each of her three children a 27.9-percent limited
partnership interest in AFLP. Regardless of the exact percentage
interest in AFLP which petitioner transferred to her children
(27.9 percent or 30 percent), the value of each of the three
gifted interests is equal to 30 percent of the NAV of the
properties and Pine Bend partnership interest petitioner
transferred to AFLP on Dec. 1, 1997.
