                         T.C. Memo. 2010-182



                       UNITED STATES TAX COURT



              ESTATE OF MARIE J. JENSEN, DECEASED,
          VIRGINIA E. MAURER, EXECUTRIX, Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 25681-08.               Filed August 10, 2010.



     Jack Mitnick and Mindy K. Smolevitz, for petitioner.

     Michelle L. Maniscalco, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     VASQUEZ, Judge:    Respondent determined a $333,244.59

deficiency in the Federal estate tax of the Estate of Marie J.

Jensen (decedent).   The issue for decision is the amount of the

discount for built-in long-term capital gains tax (LTCG tax) that

is allowable in computing the fair market value of the estate’s
                               - 2 -

interest in Wa-Klo, Inc (Wa-Klo).   The parties agree that:

(1) Wa-Klo’s net asset value is $3,772,1761 before reductions for

lack of marketability and built-in LTCG tax discounts; (2) the

estimated Federal built-in LTCG tax liability is $965,000; and

(3) the estate is entitled to a 5-percent reduction for lack of

marketability discount.   Unless otherwise indicated, all section

references are to the Internal Revenue Code (Code) in effect for

the date of decedent’s death, and all Rule references are to the

Tax Court Rules of Practice and Procedure.

                          FINDINGS OF FACT

     Some of the facts have been stipulated and are so found.    We

incorporate by this reference the stipulation of facts and the

attached exhibits.

     Decedent was a resident of New York when she died on July

31, 2005.   When the petition was filed, Virginia E. Maurer

(executrix) resided in New York.

     In February 2003 decedent created the Marie J. Jensen

Revocable Trust, a revocable trust (the trust), and appointed

herself trustee.   As of decedent’s death, the corpus of the trust




     1
        The parties stipulated pursuant to Rule 91 that Wa-Klo’s
net asset value was $4,243,969. Respondent’s expert, Klaris,
Thomson, & Schroeder, Inc. (KTS), discovered that the estate’s
expert, Margolin, Winer, & Evens LLP (MWE), overstated Wa-Klo’s
net asset value by $471,793. The parties on brief agree that
$3,772,176 is the correct value, which we accept.
                               - 3 -

included 164 shares of common stock in Wa-Klo,2 a closely held C

corporation incorporated in 1956 under New Hampshire law.

     As of the date of decedent’s death Wa-Klo’s principal asset

was a 94-acre waterfront parcel of real estate that extended

across the city lines of Jaffrey and Dublin, New Hampshire.    The

improvements to the real estate include state-of-the-art

facilities such as playing fields, an indoor gymnasium, a horse

stable, a dining hall, cottages, and bunkhouses.   Wa-Klo operates

a summer camp for girls, Camp Wa-Klo, on the real estate.

     The estate hired MWE, see supra note 1, to value the

estate’s 82-percent interest in Wa-Klo as of the date of

decedent’s death.   MWE used the adjusted book value method3 and

attributed to Wa-Klo a net asset value of $4,243,969 (before




     2
        The shares of Wa-Klo were held as follows: (1) The
trust--164 shares (82-percent interest); (2) Ina Fletcher--18
shares (9-percent interest); and (3) Kathleen Cocoman--18 shares
(9-percent interest).
     3
        Generally, three kinds of valuation methods are used to
determine the fair market value (FMV) of stock in a closely held
corporation: (1) The market method; (2) the income method; and
(3) the cost method. See Estate of Noble v. Commissioner, T.C.
Memo. 2005-2; Estate of Borgatello v. Commissioner, T.C. Memo.
2000-264. The adjusted book value method is a variation of the
cost method that restates the assets and liabilities of a company
to their FMV as of the valuation date and reduces the restated
FMV of the assets by the restated value of the liabilities in
order to determine the company’s net worth. See Julian v.
Julian, No. 1892-VCP, slip op. at 5 n.13 (Del Ch. Mar. 22, 2010);
Shooltz v. Shooltz, 498 S.E.2d 437, 443 (Va. Ct. App. 1998).
                                - 4 -

discounts for lack of marketability and built-in LTCG tax).4     MWE

estimated a built-in LTCG tax of $965,000.5    MWE subtracted the

$965,000 built-in LTCG tax from the $4,243,969 net asset value

and calculated a $3,278,969 after-tax net asset value for Wa-Klo,



     4
          MWE based its valuation on the following:

         Assets                Book value      Restated value

Cash                            $934,973              $934,973
Salary advances                   22,932                22,932
Federal prepaid tax               27,032                27,032
State prepaid tax                 10,047                10,047
Real estate, buildings, and
                                                 1
other depreciable assets         471,793          3,776,793
  Total                        1,466,777          4,771,777

     Liabilities

Payroll tax payable               $2,808                $2,808
Accrued liabilities                 -0-                525,000
  Total                            2,808               527,808

         Equity               $1,463,969         $4,243,969
     1
        $3,300,000 (restated FMV of the real estate and
improvements based on appraisal by Whitney Associates) + $5,000
(estimated salvage value of equipment) + $471,793 (MWE math
error, see supra note 1). MWE relied on Whitney Associates’
appraisal of the real estate and its improvements. Whitney
Associates is a residential and commercial real estate appraiser.
The estate hired Whitney Associates to appraise the real estate
and its improvements. Whitney Associates employed a cost method
and a market method. Under the cost method it calculated a value
of $3,600,000; under the market method it calculated a value of
$3 million. Whitney Associates reconciled the two values on the
basis of a number of factors and calculated a final value of
$3,300,000. Whitney Associates did not use an income method
because it concluded that it was unreliable and not an applicable
method for the purpose of the appraisal.
     5
        $3,300,000 (FMV real estate) - $500,000 (estimated tax
basis) x 34% (tax rate) + $13,000 (tax increase for income over
$100,000). The estate on brief now asserts that it is entitled
to a discount of $1,133,283 for State and Federal tax.
                               - 5 -

of which $2,688,755 was attributable to the estate’s 82-percent

interest (before discount for lack of marketability).   MWE

concluded that a dollar-for-dollar discount for the built-in LTCG

tax was appropriate because:

     The adjusted book value method is based on the inherent
     assumption that the assets will be liquidated, which
     automatically gives rise to a tax liability predicated
     upon the built-in capital gains that result from
     appreciation in the assets. This was clearly
     recognized in the decision of the United States Court
     of Appeals for the Fifth Circuit in the case of the
     Estate of Dunn v. Commissioner, * * * [which allowed a
     34-percent discount]. [Citation omitted.]

     MWE did not use any income methods to value the estate’s

interest in Wa-Klo because it concluded that:   (1) Wa-Klo did not

generate substantial cashflows from its operation of Camp Wa-Klo;

(2) the best use of Wa-Klo could be derived from a sale of its

assets because its operating performance declined in fiscal years

2004 and 2005 and because the “profitability benchmark” for

summer camps with revenues below $1 million was only 5.3 percent;

(3) Wa-Klo’s value was driven by the appreciated value of its

assets; and (4) the estate’s 82-percent interest in Wa-Klo was a

controlling interest.

     MWE did not use any market methods to value the estate’s 82-

percent interest in Wa-Klo because it concluded that:   (1) Wa-Klo

owned a specific asset, appreciated real estate, that had a
                               - 6 -

specific appraised value; and (2) the market method was

incorporated into Whitney Associates’ appraisal of the real

estate.

     As of the date of decedent’s death, neither a sale or

liquidation of Wa-Klo nor a sale of its assets was imminent or

planned.   There is no evidence in the record of any arm’s-length

sale of Wa-Klo’s common stock near the date of decedent’s death.

     The executrix filed a Form 706, United States Estate (and

Generation-Skipping Transfer) Tax Return.   The executrix

initially reported a value of $2,600,000 for the estate’s 82-

percent interest in Wa-Klo (after discounts for lack of

marketability and built-in LTCG tax) based on MWE’s appraisal.

The executrix filed an amended Form 706 and reduced the value of

the estate’s interest in Wa-Klo to $2,554,317, reporting a total

taxable estate of $4,296,449 and a Federal estate tax liability

of $1,306,736.

     Respondent examined the amended Form 706 and determined a

value of $3,268,465 for the estate’s interest in Wa-Klo (after a

discount for lack of marketability of 5 percent and a discount of

$250,0426 for built-in LTCG tax).   He determined the estate tax

deficiency of $333,244.59 and sent the executrix a notice of

deficiency.




     6
        There is no evidence in the record as to how respondent
determined the $250,042 discount for built-in LTCG tax.
                               - 7 -

     Respondent’s expert, KTS, like the estate’s expert, used a

cost method to value the estate’s interest in Wa-Klo.   Using the

financial statements prepared by MWE, KTS also calculated Wa-

Klo’s net asset value at $4,243,969 (before discounts for lack of

marketability and built-in LTCG tax).

     KTS then analyzed data for other investments that have

exposure to built-in capital gains to determine the discount for

the built-in LTCG tax.   Specifically, KTS undertook to measure

the amount by which the built-in LTCG tax exposure of each of six

closed-end funds7 depressed the value of the closed-end funds in

relation to their net asset values.    As shown in the table infra

note 8, KTS found that the built-in capital gains exposure for

those six closed-end funds ranged from 10.7 to 41.5 percent.    KTS

also found that two of the closed-end funds with high built-in

capital gains exposure, Royce Value Trust and Gabelli Equity

Trust, were selling at a premium to net asset value, while the

closed-end fund with the least built-in capital gains exposure,

Tri-Continental Corp., was selling at the highest discount from

net asset value.   On the basis of those findings, KTS concluded

that it was “unable to find a direct correlation, at least up to



     7
        A closed-end fund is a type of investment company with
the following characteristics: (1) Not continuously offered;
(2) secondary market pricing; (3) not redeemable; (4) trading
during the day; and (5) greater illiquidity. See Moriarty &
McNeily, Closed-End Mutual Funds, 19 Reg. Fin. Pl. § 3:422 (May
2010).
                                  - 8 -

41.5 percent of net asset value, between higher exposure to

built-in capital gains tax and discounts from net asset value”

among the six closed-end funds that it examined.8

     KTS also compared closed-end funds that primarily hold real

estate investments with those that hold non-real-estate financial

securities.   As shown in the table infra note 9, KTS found, as

between those two categories of funds, that the discounts from

net asset value were generally larger for closed-end funds that

primarily held real estate investments.9


     8
         KTS’ analysis was based on the following six closed-end
funds:

                                                         Percent
                 Net                                    unrealized
                asset     Stock            Percent      investment
     Fund       value     price           difference   appreciation

   Adams
     Express   15.49      13.29             -14.20         25.8
   Gabelli
     Equity
     Trust       8.83      9.07                .72         26.2
   General
     American
     Investors 39.32      34.18             -13.10         41.5
   Liberty
     All-Star
     Equities    9.06      9.5                4.90        13.8
   Royce
     Value
     Trust     19.02      20.15               5.90        36.7
   Tri-
     Continental
     Corp.     22.02      18.46             -16.20        10.7
     9
         KTS calculated the following range of values:

                                                        (continued...)
                                - 9 -

     KTS divided the $2,800,000 value of Wa-Klo’s real estate and

its improvements (net of basis) by Wa-Klo’s $4,243,969 net asset

value and concluded that 66 percent of that net asset value was

subject to tax at the corporate and shareholder levels.   KTS

concluded that with a built-in capital gain equal to 66 percent

of Wa-Klo’s net asset value, a discount would be considered by a

prudent willing buyer.   KTS opined that since it could not find,

from its examination of the closed-end funds listed supra note 8,

any direct correlation between exposure to built-in capital gains

tax and discounts from net asset value at levels of exposure of

41.5 percent or less, KTS could not conclude that any

consideration should be given for Wa-Klo’s built-in LTCG tax

exposure up to 41.5 percent of its net asset value.   But KTS

opined that full consideration (i.e., a dollar-for-dollar

discount) should be given for Wa-Klo’s built-in LTCG tax exposure

above 41.5 percent.

     KTS found that the portion of Wa-Klo’s exposure to built-in

LTCG tax in excess of 41.5 percent of net asset value was 24.5



     9
      (...continued)
 Percent discount                           Specialized equity
  from net asset         Specialized        funds holding real
      value              equity funds             estate

    Minimum                -16.0                  -16.8
    Mean                    -6.1                  -14.8
    Median                  -8.9                  -15.2
    Maximum                 32.5                  -10.8
    Fund count              30                     11
                                - 10 -

percent (66% - 41.5%).     KTS multiplied 24.5 percent by Wa-Klo’s

$4,243,969 net asset value for a total of $1,039,772.     KTS

applied a combined State and Federal tax rate of 40 percent      and

calculated a combined tax liability of $415,909 (40% x

$1,039,772), which it concluded was 9.8 percent of Wa-Klo’s

$4,243,969 net asset value ($415,909 ÷ $4,243,969).

     KTS concluded that the estate was entitled to a discount of

10 percent (i.e., $424,397, about 45 percent of the built-in LTCG

tax).     KTS reasoned that a 10-percent discount was supported by

the fact that the difference in the mean or average discount

between closed-end funds with investments in real estate and

those with investments in marketable securities was 8.7 percent

(14.8% - 6.1%) or 9 percent rounded.     See supra note 9.

        KTS also opined in its report that generally there are

methods to avoid paying the built-in LTCG tax by engaging in a

section 1031 like-kind exchange or by converting a C corporation

to an S corporation.     It also acknowledged that there are certain

limits to avoidance.     For example, a like-kind exchange “limits

the properties which may be acquired to those whose owner also

[wished] to make” an exchange, and conversion to S corporation

status requires a 10-year holding period before the potential tax

liability would be eliminated.     KTS did not, however, discuss in

its report whether a like-kind exchange or conversion to S
                              - 11 -

corporation status was a viable method for a hypothetical

purchaser of the estate’s Wa-Klo stock.

     At trial, KTS discovered that the adjusted balance sheet

prepared by MWE incorrectly listed the restated value for the

land, buildings, and salvage value of the equipment as $3,776,793

whereas the correct value was $3,305,000.   See supra note 1.

Accordingly, KTS opined that Wa-Klo’s correct net asset value was

$3,772,176 and calculated a revised discount of 13 percent for

the built-in LTCG tax (i.e., $490,382.88 (about 50 percent of the

built-in LTCG tax)).   Respondent on brief asserts the correct

discount for the built-in LTCG tax attributable to the estate’s

82-percent interest in Wa-Klo is about $402,114 ($490,383 x 82%).

                              OPINION

I.   Burden of Proof

      As a general rule, a notice of deficiency is entitled to a

presumption of correctness, and the taxpayer bears the burden of

proving the Commissioner’s deficiency determinations incorrect.

Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933).

Section 7491(a), however, provides that if a taxpayer introduces

credible evidence and meets certain other prerequisites, the

Commissioner shall bear the burden of proof with respect to
                                - 12 -

factual issues10 relating to the taxpayer’s liability for a tax

imposed under subtitle A or B of the Code.

      Our conclusions are based on a preponderance of the

evidence, and thus the allocation of the burden of proof is

immaterial.   See Estate of Bongard v. Commissioner, 124 T.C. 95,

111 (2005).

II.   FMV of the Estate’s 82-Percent Interest in Wa-Klo

      A.   General Principles

      Property includable in the value of a decedent’s gross

estate is to be valued as of the date of the decedent’s death.

Sec. 2031(a).    For purposes of the estate tax, property value is

determined by finding the price at which the property would

change hands between a willing buyer and a willing seller,

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

having reasonable knowledge of relevant facts.    Sec.

20.2031-1(b), Estate Tax Regs.    The willing buyer and willing

seller are hypothetical persons.    Estate of Newhouse v.

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

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

hypothetical buyer and seller are presumed to be dedicated to




      10
        Valuation is a factual determination, and the trier of
fact must weigh all relevant evidence and draw appropriate
inferences. Estate of Deputy v. Commissioner, T.C. Memo.
2003-176.
                              - 13 -

achieving the maximum economic advantage.      Id. (citing Estate of

Curry v. United States, 706 F.2d 1424, 1429 (7th Cir. 1983)).

     B.   Expert Opinions Generally

     Each party relies on an expert opinion to determine the

discount for built-in LTCG tax that the estate is entitled to.

In deciding valuation cases, courts often look to the opinions of

expert witnesses.   We evaluate expert opinions in the light of

all the evidence in the record, and we are not bound by the

opinion of any expert witness.    Helvering v. Natl. Grocery Co.,

304 U.S. 282, 295 (1938); Shepherd v. Commissioner, 115 T.C. 376,

390 (2000), affd. 283 F.3d 1258 (11th Cir. 2002).     The

persuasiveness of an expert’s opinion depends largely upon the

disclosed facts on which it is based.     Estate of Davis v.

Commissioner, 110 T.C. 530, 538 (1998).      We may reject, in whole

or in part, any expert opinion.    See id.    Because valuation

necessarily involves an approximation, the figure at which we

arrive need not be directly traceable to specific testimony or a

specific expert opinion if it is within the range of values that

may be properly derived from consideration of all the evidence.

Estate of True v. Commissioner, T.C. Memo. 2001-167, affd. 390

F.3d 1210 (10th Cir. 2004) (citing Silverman v. Commissioner, 538

F.2d 927, 933 (2d Cir. 1976), affg. T.C. Memo. 1974-285).
                                - 14 -

     C.   The Estate’s Arguments

     The estate raises the following arguments against

respondent’s valuation.    First, the estate argues that it is

entitled to a 100-percent discount (i.e., $1,133,283), or

something very close thereto, for the built-in LTCG tax pursuant

to the Court of Appeals for the Second Circuit’s decision in

Eisenberg v. Commissioner, 155 F.3d 50 (2d Cir. 1998), vacating

T.C. Memo. 1997-483.11    Second, according to the estate, if given

the opportunity to review the discount for built-in capital gains

tax issue again, that court would consider the recent decisions

in Estate of Dunn v. Commissioner, 301 F.3d 339 (5th Cir. 2002),

revg. T.C. Memo. 2000-12, and Estate of Jelke v. Commissioner,

507 F.3d 1317 (11th Cir. 2007), vacating T.C. Memo. 2005-131,

which allowed discounts for the built-in LTCG tax in full, and

might adopt the approach of those courts.    Third, the estate

argues that respondent’s expert’s reliance on closed-end funds to

determine the discount for the built-in LTCG tax is misplaced.

Finally, the estate argues that respondent’s reliance on

alternate methods, such as a section 1031 like-kind exchange, to

avoid or defer payment of the built-in LTCG tax is also




     11
        Under the Golsen rule, we follow the law of the circuit
in which the case is appealable, here the Second Circuit. See
Golsen v. Commissioner, 54 T.C. 742 (1970), affd. 445 F.2d 985
(10th Cir. 1971).
                                 - 15 -

misplaced.     Naturally, respondent has asserted arguments to the

contrary.     We now turn to analyzing the parties’ contentions.

             1.   Built-In LTCG Tax Generally

     The General Utilities doctrine,12 as codified in former

sections 336 and 337, allowed the tax-free liquidation of a

corporation, and thus, the complete avoidance of corporate-level

capital gains.     See Eisenberg v. Commissioner, supra at 54-55.

Before the General Utilities doctrine was repealed in the Tax

Reform Act of 1986, Pub. L. 99-514, sec. 631, 100 Stat. 2269, we

consistently rejected taxpayers’ attempts to discount a

corporation’s value on the basis of any inherent capital gain tax

liability.    We noted that the liability could be avoided at the

corporate level by employing that doctrine.     See, e.g., Estate of

Piper v. Commissioner, 72 T.C. 1062, 1087 n.27 (1979).     In Estate

of Davis v. Commissioner, supra, however, we allowed a discount

for the built-in LTCG tax liability on the basis of the facts and

circumstances.13


     12
        The General Utilities doctrine originated in General
Utils. & Operating Co. v. Helvering, 296 U.S. 200 (1935).
     13
        Since Estate of Davis v. Commissioner, 110 T.C. 530
(1998), we have frequently applied a present-value approach based
on all the facts and circumstances in subsequent valuation cases
to determine the taxpayer’s discount for the built-in LTCG tax
liability. See Estate of Litchfield v. Commissioner, T.C. Memo.
2009-21; Estate of Jelke v. Commissioner, T.C. Memo. 2005-131,
vacated 507 F.3d 1317 (11th Cir. 2007); Estate of Borgatello v.
Commissioner, T.C. Memo. 2000-264; Estate of Dunn v.
Commissioner, T.C. Memo. 2000-12, revd. 301 F.3d 339 (5th Cir.
                                                   (continued...)
                               - 16 -

     Subsequently, the Court of Appeals for the Second Circuit

held that a discount for built-in capital gains tax was

allowable.   See Eisenberg v. Commissioner, supra at 57-59 (citing

Estate of Davis v. Commissioner, supra).    The court reasoned that

since the General Utilities doctrine was repealed, a hypothetical

willing buyer would likely pay less for the shares of a

corporation because of the contingent capital gains tax

liability.   Id.   It also reasoned that the contingent liability

was not too speculative to preclude a discount.    Id.   The court

opined:

     Where there is a relatively sizable number of potential
     buyers who can avoid or defer the tax, the fair market
     value of the shares might well approach the pre-tax
     market value of the real estate. Potential buyers who
     could avoid or defer the tax would compete to purchase
     the shares, albeit in a market that would include
     similar real estate that was not owned by a
     corporation. However, where the number of potential
     buyers who can avoid or defer the tax is small, the
     fair market value of the shares might be only slightly
     above the value of the real estate net of taxes. In
     any event, all of these circumstances should be
     determined as a question of valuation * * * [Emphasis
     added.14]




     13
      (...continued)
2002); Estate of Jameson v. Commissioner, T.C. Memo. 1999-43,
vacated 267 F.3d 366 (5th Cir. 2001). In the latter cases, we
have projected the tax liability into future years, in some cases
allowing for appreciation of the assets, and discounted the
built-in LTCG tax liability to its present value as of the
valuation date.
     14
        The Court of Appeals for the Second Circuit, however,
did not prescribe the method to calculate the discount.
                                - 17 -

Id. at 59 n.16.    The court did not determine the amount of the

discount and remanded the matter to our Court.

     As stated supra, the estate asks us to embrace the dollar-

for-dollar approach for valuations adopted by the Court of

Appeals for the Eleventh Circuit in Estate of Jelke v.

Commissioner, supra, and applied by the Court of Appeals for the

Fifth Circuit in Estate of Dunn v. Commissioner, supra, and to

speculate as to how the Court of Appeals for the Second Circuit

might now rule in view of those decisions.

     Respondent, on the other hand, asserts that the estate’s

position is inconsistent with Eisenberg and, citing Golsen v.

Commissioner, 54 T.C. 742 (1970), affd. 445 F.2d 985 (10th Cir.

1971), asserts that the Court must follow the rule of the Second

Circuit.

     We decline to speculate as to how the Court of Appeals for

the Second Circuit may hold in the future.    See Estate of

Charania v. Commissioner, 608 F.3d 67, 75 (1st Cir. 2010) (and

cases cited thereat), affg. in part and revg. in part 133 T.C.

122 (2009).     But we shall consider the parties’ positions in view

of Eisenberg and this Court’s prior decisions.

           2.    Use of Closed-End Funds To Value the Estate’s
                 Interest

     As stated supra, the estate argues that KTS’ calculation of

a $490,382.88 discount for Wa-Klo’s built-in LTCG tax using data

collected for certain closed-end funds is erroneous.
                               - 18 -

     Under the facts of this case, we agree and do not believe

that the closed-end funds are comparable to the estate’s interest

in Wa-Klo.   First, Wa-Klo operates a summer day camp, and its

assets consist mainly of the single parcel of real estate, its

related improvements, and equipment.     See sec. 2031(b); Rev. Rul.

59-60, sec. 4.02(h), 1959-1 C.B. 237, 242 (stock of a closely

held corporation should be valued by taking into consideration,

in addition to other factors, the value of stock of publicly

traded corporations engaged in the same or similar lines of

business).   Closed-end funds, on the other hand, typically invest

in various sectors (e.g., utilities and healthcare) and in

various asset classes (e.g., securities, real estate, and fixed

income).15   See Schonfeld & Kerwin, “Organization of a Mutual

Fund”, 49 Bus. Law. 107, 113 (1993).16    Moreover, closed-end

funds invest indirectly in real estate through real estate

investment trusts and typically hold multiple investments in



     15
        Indeed, the closed-end funds that KTS selected invested
in various business sectors including energy, healthcare, and
utilities.
     16
        For information about closed-end funds generally see
“The Closed-End Fund Market, 2009”, ICI Research Fundamentals,
Vol. 19, No. 4 (2010), available at
http://www.ici.org/pdf/fm-v19n4.pdf; Closed-End Fund Types and
Strategies, CEFConnect.com, available at
http://www.cefconnect.com/Education/TypesStrategiesCEF.aspx, and
Charles, Wortz, & Kemler, “Closed-End Funds 101”, Equity
Research, June 30, 2009, available at
http://www.closed-endfunds.com/_/docs/content/Learn/ResearchArtic
les/CEF101_0630.pdf?time=20100707100637.
                                - 19 -

various types of real estate such as office complexes, apartment

buildings, and shopping centers.17    Second, discounts from a

closed-end fund’s net asset value are attributable to several

factors including supply and demand, manager or fund performance,

investor confidence, or liquidity.       See Kraakman, “Taking

Discounts Seriously:    The Implications of ‘Discounted’ Share

Prices as an Acquisition Motive”, 88 Colum. L. Rev. 891, 902-905

(1988); Smith, “A Capital Markets Approach to Mass Tort

Bankruptcy”, 104 Yale L.J. 367, 412-413 (1994).       Moreover,

studies on the effects of unrealized capital gains on the

discounts from a closed-end fund’s net asset value are

inconclusive.    See Kraakman, supra at 904; Smith, supra at 413.

Consequently, we do not accord KTS’ valuation much weight.

          3.     Alternate Methods To Avoid Payment of the
                 Built-In LTCG Tax

     Respondent, on the basis of his expert’s report and

testimony, argues that the discount for Wa-Klo’s built-in LTCG

tax is significantly less than $1,133,283 (or 100 percent) since

there are, according to respondent, numerous methods by which

potential buyers of the estate’s Wa-Klo stock could avoid or

defer the tax.

     The suggested methods can at best only defer the recognition

of the built-in LTCG tax, which we think a hypothetical seller


     17
        For the definition of a real estate investment trust see
sec. 856.
                             - 20 -

and buyer would consider in their negotiations.   See Estate of

Davis v. Commissioner, 110 T.C. at 550; Estate of Litchfield v.

Commissioner, T.C. Memo. 2009-21; cf. Estate of Jones v.

Commissioner, 116 T.C. 121, 136-138 (2001) (the hypothetical

buyer and seller of certain partnership interests would negotiate

with the understanding that a section 754 election, which would

eliminate any gains for the purchaser, would be made and the

price would not reflect a discount for built-in capital gains).

Moreover, each method has its limitations, which a hypothetical

seller and buyer would also consider in their negotiations.18

Eisenberg v. Commissioner, 155 F.3d at 56; Estate of Jameson v.

Commissioner, T.C. Memo. 1999-43, vacated 267 F.3d 366 (5th Cir.

2001).

     In short, we are not convinced that any viable method for

avoidance of the built-in LTCG tax exists for a hypothetical

buyer of the estate’s Wa-Klo stock.   Thus, we do not think that




     18
        For example, electing S corporation status would require
the unanimous consent of Wa-Klo’s shareholders, and the impact of
sec. 469 or 1374 might affect the decision to convert Wa-Klo from
C to S corporation status. See Eisenberg v. Commissioner, 155
F.3d 50, 56 (2d Cir. 1988), vacating T.C. Memo. 1997-483; Estate
of Jameson v. Commissioner, T.C. Memo. 1999-43. Sec. 1031 would
require both a willing exchanger and availability of property of
the same nature and character. See Fredericks v. Commissioner,
T.C. Memo. 1994-27; Greene v. Commissioner, T.C. Memo. 1991-403;
sec. 1.1031(a)-1(b), Income Tax Regs.; see also C. Bean Lumber
Transp., Inc. v. United States, 68 F. Supp. 2d 1055, 1058-1059
(W.D. Ark. 1999).
                              - 21 -

the discount for the built-in LTCG tax is significantly reduced

as respondent argues.

     D.   The Estate’s Discount for the Built-In LTCG Tax

     As stated supra, the estate argues that it is entitled to a

100-percent discount (i.e., $1,133,283), or something very close

thereto, for the built-in LTCG tax.

     As also stated supra, we do not give much weight to

respondent’s expert’s valuations.    Aside from the flaws discussed

supra, respondent’s expert did not account for the likelihood

that Wa-Klo’s assets would appreciate (and that concomitantly the

built-in LTCG tax would increase) nor take into account time

value of money concepts.   See Estate of Litchfield v.

Commissioner, T.C. Memo. 2009-21; Estate of Borgatello v.

Commissioner, T.C. Memo. 2000-264.     We may assume arguendo, on

the evidence in the record, that a present-value approach is

applicable to determine the estate’s discount for the built-in

LTCG tax.   Taking into account all the facts and circumstances,

we have determined a range of values as follows.19    We have




     19
        We agree with both experts that a cost method rather
than an income method or a market method should be used to
determine the value of the estate’s interest in Wa-Klo. See Rev.
Rul. 59-60, sec. 5, 1959-1 C.B. 237, 242-243 (“The value of the
stock of a closely held investment or real estate holding company
* * * is closely related to the value of the assets underlying
the stock. For companies of this type the appraiser should
determine the fair market values of the assets of the company.”).
                               - 22 -

calculated future values of the $3,300,00020 fair market value of

the land and the related improvements using interest (or

appreciation) rates of 521 and 7.72522 percent compounded annually

over 17 years as follows:   $7,563,660.44 and $11,692,152.92,

respectively.23   See Estate of Litchfield v. Commissioner, supra;


     20
        This amount is based on the formula FV = P(1+r)y where P
is the principal, r is the rate of interest, and y is the
compound period in years. See, e.g., Hall v. Birchfield, 718
S.W.2d 313, 340 (Tex. App. 1986).

     We also note that neither expert discussed the amount of the
built-in LTCG tax, if any, attributable to the $5,000 of
equipment; thus, we do not do so either.
     21
        Whitney Associates applied a 5-percent appreciation rate
in its sale comparison analysis.
     22
        We have calculated an average 7.725-percent pretax
return of income based on the data provided by MWE using the
following: 7.8% (2001) + 9.3% (2002) + 8.8% (2003) + 5.0%
(2004). We did not include as outliers the 1.6- and the 63.3-
percent figures for 2005.
     23
        We have calculated an average useful or depreciable life
remaining in the real estate and its related improvements of 16.6
years, which we have rounded up to 17 years, using the
depreciation figures estimated by Whitney Associates in its cost
method and allowing zero as the depreciation allowance for the
real estate. See Estate of Borgatello v. Commissioner, T.C.
Memo. 2000-264 (applying a 1.75-percent capitalization rate and a
24-percent discount rate based on the evidence in the record).
Neither party introduced evidence of a turnover period. We
therefore use 17 years as a proxy for the turnover rate on the
theory that an asset would be retired once its useful life is
exhausted. See Estate of Litchfield v. Commissioner, T.C. Memo.
2009-21 (accepting expert’s estimated annual turnover or sale
rates for the assets); Estate of Borgatello v. Commissioner,
supra n.10 (assuming a 10-year holding period). We apply it to
the real estate and its related improvements because neither
party has provided evidence allocating the $3,300,000 value among
the real estate and its related improvements, evidence allocating
                                                   (continued...)
                             - 23 -



     23
      (...continued)
the estimated tax basis of $500,000 among the real estate and its
related improvements, or evidence allocating the built-in LTCG
tax among the real estate and its related improvements. Cf.
Gates v. Commissioner, 135 T.C. __, __ n.18 (2010) (slip op. at
23 (Court would not allocate gain among the real estate and the
house because the parties did not provide evidence to allow for
an allocation).

     Property/improvement      Depreciable years

      Grandpa’s House                 15
      Boy’s Dorm                      20
      Maintenance Garage              15
      All Inn                         15
      Chatter Box                     20
      Cracker Barrel                  25
      Sleepy Hollow                   15
      Round Up                        25
      Pill Box                        25
      Chez                            15
      Chez Chenet                      2
      Candy Shack                     25
      Archery                         25
      Rifle Range                     25
      Stables                         25
      Mouse Trap                      15
      Danson                          15
      Hilltop                         15
      Tippit                          15
      Bobbin                          15
      Arrowhead                       15
      Shower House                    25
      Somewhere                       15
      All Out                         15
      Pop Out                         15
      Wayside                         15
      Jenn-Klo                        15
      Sideout                         15
      Wayout                          20
      Far Out                         20
      Driftwood                       20
      Roy’s Kitchen                    3
      Bike Barn                       20
      Work Out                         3
                                                   (continued...)
                                - 24 -

Estate of Borgatello v. Commissioner, supra.

     After taking into account the future values of $7,563,660.44

and $11,692,152.92 and the estimated tax basis of $500,000, we

have calculated long-term capital gains of $7,063,660.44 and

$11,192,152.92, respectively.    See sec. 1001(a).

     The parties have represented that the combined Federal and

State tax rate is 40 percent.    Applying a 40-percent tax rate to

the long-term capital gains of $7,063,660.44 and $11,192,152.92,

we have determined tax liabilities of $2,825,464.18, and

$4,476,861.17, respectively.

     Applying discount rates of 5 and 7.725 percent compounded

annually over 17 years to the built-in LTCG tax liabilities of

$2,825,464.18 and $4,476,861.17, we have determined present

values24 (or discounts) for those built-in LTCG tax liabilities

of $1,232,740.66 and $1,263,551.88, respectively.25    See Estate

of Litchfield v. Commissioner, supra; Estate of Borgatello v.

Commissioner, supra.


     23
      (...continued)
      Real estate                        -0-
        Total                            583

     583 (total depreciable years) ÷ 35 (total properties) =
16.7.
     24
        These values are based on the formula Present Value =
Future Value ÷ (1 + r)n where n is the compound period in years
and r is the interest rate.
     25
           We note that the estate’s share of that discount is 82
percent.
                              - 25 -

     As stated supra, KTS calculated a discount of $490,382.88

for the built-in LTCG tax.   The estate, on the other hand, now

asserts that it is entitled to a discount of $1,133,283 for State

and Federal taxes.   See supra note 5.

     On the basis of the range of values we and the parties have

calculated, we accept the estate’s value for the built-in LTCG

tax discount of $1,133,283 because although not precise, it is

within the range of values that may be derived from the evidence

(and the estate did not argue for a greater amount).26     See Estate

of Davis v. Commissioner, 110 T.C. at 537; see also Estate of

Litchfield v. Commissioner, supra; Estate of Borgatello v.

Commissioner, supra.   We do not give much weight to the

$490,382.88 discount that KTS calculated.   The estate’s share of

that $1,133,283 discount is $929,292.06 (82 percent x

$1,133,283).

     To reflect the foregoing,

                                         Decision will be entered

                                    under Rule 155.




     26
        Applying a compound period of zero (assuming an
immediate sale of the assets), with either interest rate the
present value of the built-in LTCG is $1,200,000.
