                        T.C. Memo. 1996-92



                      UNITED STATES TAX COURT



DORIS F. RABENHORST AND ALVIN P. RABENHORST, SR., Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 23931-93.                Filed February 29, 1996.



     Robert R. Casey, for petitioners.

     Joseph Ineich, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     WRIGHT, Judge:   Respondent determined a deficiency of

$33,833 in each petitioner’s Federal gift tax for 1988. The sole

issue for decision is the fair market value of certain stock

which petitioners gave to their children in 1988.
                                - 2 -

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

The stipulation of facts and the attached exhibits are

incorporated herein.    At the time the petition was filed in this

case, petitioners resided in Baton Rouge, Louisiana.

                          FINDINGS OF FACT

     Petitioners are husband and wife and have four children.

Prior to December 1988, Mr. Rabenhorst was a principal

shareholder of Rabenhorst Life Insurance Co., Inc. (RLIC),

located in Louisiana.   For Federal estate and gift tax planning

purposes, Mr. Rabenhorst desired to shift ownership of RLIC to

his children.   In furtherance of this objective, he initiated a

sequence of yearly gifts of RLIC stock to his children in 1988.

On December 12, 1988, Mr. Rabenhorst transferred a total of 3,048

shares of RLIC stock to his four children (the 1988 stock

transfer).   Each donee received 762 shares.    On their timely

filed Federal gift tax returns for 1988, petitioners elected,

pursuant to section 2513,1 to treat each gift as having been made

one-half by Mr. Rabenhorst and one-half by Mrs. Rabenhorst.       On

his Federal gift tax return for 1988, Mr. Rabenhorst reported a

tax due in the amount of $1,465.11.     On her Federal gift tax

return for 1988, Mrs. Rabenhorst reported a tax liability of



     1
      Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect during the year at issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure.
                                 - 3 -

$971.62.    Petitioners paid the amount of tax reported on their

returns.

     In calculating the fair market value of the stock making up

each gift, petitioners relied upon an appraisal prepared by Jerry

Willis (Willis).    Willis, a former chief examiner for the

Louisiana Department of Insurance and owner of a private

consulting practice located in Baton Rouge, Louisiana, was hired

by petitioners’ son, David Rabenhorst, for the purpose of

conducting the appraisal.    At the time he hired Willis, David

Rabenhorst was RLIC’s secretary and treasurer.    A copy of Willis’

appraisal was attached to Mr. Rabenhorst’s Federal gift tax

return for 1988.

     The appraisal report which Willis prepared for the 1988

stock transfer is dated June 10, 1988.    Hence, the Willis

appraisal preceded the date of the actual gifts by approximately

6 months.    In preparing this appraisal, Willis examined RLIC’s

five most recent annual financial statements and considered

RLIC’s assets, premium growth, and the growth of reserves and

surplus.    In reaching his appraisal value, Willis also considered

sales of other private insurance companies.    After a consultation

with David Rabenhorst, Willis elected to factor into his

appraisal a discount rate of 35 percent in order to account for

the stock’s minority interest.    Using RLIC’s financial data as of

December 31, 1987, Willis determined a discounted per-share value
                               - 4 -

for the 1988 stock transfer in the amount of $385.    Willis’

computation is as follows:

     Capital                           $310,000
     Special surplus                      1,000
     Unassigned surplus                5,579,972
     Mandatory securities
       valuation reserve                 636,475
          Subtotal                                   $6,527,447

     Plus:
       1.5 x annual premium income     2,659,323
           Subtotal                                   9,186,770

     Less:
       35% discount                    3,215,370
          Total discounted value                      5,971,400

     Total discounted value            5,971,400
     Divided by:
       Shares outstanding                 15,500

          Discounted per-share value                       $385

     In October 1990, petitioners’ tax counsel complied with an

earlier request and provided an agent for respondent with a

written explanation of Willis’ computation of the discounted per-

share value for the 1988 stock transfer.    The principal focus of

this correspondence concerned the 35-percent minority interest

discount factor and the addition of 1-1/2 years’ annual premium

income.

     In 1992, in reaction to respondent’s having initiated an

examination of petitioners’ 1988 gift tax returns, petitioners’

tax counsel hired David B.H. Chaffe III (Chaffe), of Chaffe &

Associates, Inc., to conduct a second appraisal of RLIC and the

1988 stock transfer.   Chaffe’s appraisal report was provided to
                                 - 5 -

petitioners’ tax counsel in early 1992 and concluded that the

discounted per-share value of the 1988 stock transfer was

$167.98.2   After receiving Chaffe’s report, and based upon his

finding of a lower discounted per-share value, petitioners’ tax

counsel prepared, and petitioners filed, amended Federal gift tax

returns for 1988.   Mr. Rabenhorst’s amended return requests a

refund of $1,465.11, while Mrs. Rabenhorst’s amended return

requests a refund of $971.62.

     Respondent determined that the discounted per-share value of

the 1988 stock transfer was $445.    Accordingly, respondent

further determined a gift tax deficiency against each petitioner

in the amount of $33,833 for 1988.

                                OPINION

     Section 2501(a) provides the general rule that Federal gift

tax will be imposed upon the value of property transferred by

gift during each calendar year.    The value of a gift of stock is

the stock’s fair market value on the date the gift is made.    Sec.

2512(a); sec. 25.2512-2(a), Gift Tax Regs.    Fair market value is

defined generally as the price at which such 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.    United States v.

     2
      The Chaffe appraisal was subsequently revised to adjust for
computational errors. The revised report concludes that the
discounted per-share value of the 1988 stock transfer was
$176.13.
                                - 6 -

Cartwright, 411 U.S. 546, 551 (1973); sec. 25.2512-1, Gift Tax

Regs.   The fair market value of donated property as of a given

date is a question of fact to be determined from the entire

record.    Symington v. Commissioner, 87 T.C. 892, 896 (1986).

     In determining the value of unlisted stock, actual arm’s-

length sales of such stock in the normal course of business

within a reasonable time before or after the valuation date are

the best criteria of market value.      Duncan Indus., Inc. v.

Commissioner, 73 T.C. 266, 276 (1979).     In the absence of arm’s-

length sales, the value of the stock is to be determined by

taking into consideration the company’s net worth, prospective

earning power, dividend-paying capacity, and other relevant

factors.   Estate of Andrews v. Commissioner, 79 T.C. 938, 940

(1982); sec. 25.2512-2(f), Gift Tax Regs.     Such other relevant

factors include the goodwill of the business, the economic

outlook in the particular industry, the company’s position in the

industry and its management, the degree of the control of the

business represented by the block of stock to be valued, and the

values of securities of corporations engaged in the same or

similar lines of business that are listed on a stock exchange.

The weight to be accorded such comparisons or any other

evidentiary factors considered in the determination of a value

depends upon the facts of each case.     Sec. 25.2512-2(f), Gift Tax

Regs.   These factors cannot be applied with mathematical

precision.    Estate of Andrews v. Commissioner, supra at 941.
                                 - 7 -

Rather, the weight to be given to each factor must be tailored to

account for the particular facts of each case.      Messing v.

Commissioner, 48 T.C. 502, 512 (1967).     This Court has recognized

that the valuation of stock in a closely held family corporation

is frequently a difficult question.      Estate of McKitterick v.

Commissioner, 42 B.T.A. 130, 136 (1940); Estate of Tompkins v.

Commissioner, T.C. Memo 1961-338.     We have also noted that the

result is rarely satisfactory.     Estate of McKitterick v.

Commissioner, supra.

     As is often the case when we are asked to resolve a

valuation dispute, the gap separating the instant parties is

substantial.   Petitioners maintain that their original Federal

gift tax returns for 1988 overstate their gift tax liability due

to Willis’ erroneous appraisal of the 1988 stock transfer.

Petitioners, relying on Chaffe’s appraisal report, now argue that

the total value of the 1988 stock transfer was $536,844.24, or

$176.13 per share.   Respondent, on the other hand, rejects

Chaffe’s report and maintains that the value of the 1988 stock

transfer amounted to $1,356,360, or $445 per share.     Respondent’s

determination is based upon Willis’ method of appraisal; however,

her computation uses data obtained from RLIC’s 1988 financial

statements, rather than from the prior year’s financial

statements which were used by Willis.     Respondent contends that

the financial data gathered from taxable year 1988 better reflect

RLIC’s value for purposes of the 1988 stock transfer.     After a
                               - 8 -

careful review of the record, we conclude that the discounted

per-share value of the 1988 stock transfer is $296.

     Respondent’s argument is twofold.    First, respondent

contends that the values attributed to the gifts of stock on

petitioners’ original gift tax returns constitute admissions on

their part and, as such, require “cogent proof” of incorrectness

before such values can be reduced.     See, e.g., Estate of Hall v.

Commissioner, 92 T.C. 312, 337-338 (1989). Respondent also

contends that Willis was better situated to determine the

appraisal value of the stock transferred than was Chaffe.

     Petitioners principally argue that they have carried their

burden in establishing that respondent’s determination is

incorrect.   While we agree with respondent that the values

entered on petitioners’ original returns constitute admissions on

their part, we find petitioners’ argument persuasive with respect

to the fair market value of the 1988 stock transfer.

     In Estate of Hall v. Commissioner, supra, we held that

amounts reported on a Federal estate tax return are admissions

and that lower values could not be substituted absent “cogent

proof” that the reported values were erroneous.    We have also

applied this same principle to cases involving Federal gift tax

returns.   See Mooneyham v. Commissioner, T.C. Memo. 1991-178.    In

the present context, however, this cogent proof principle is

essentially synonymous with the general burden of proof set forth

in Rule 142(a).   See generally Frazee v. Commissioner, 98 T.C.
                                - 9 -

554, 561-562 (1992).    Petitioners timely filed their original

gift tax returns in April 1989.    In late 1990, petitioners’ tax

counsel twice corresponded with a revenue agent regarding those

returns.    At some time subsequent to this correspondence,

petitioners’ tax counsel advised petitioners that their 1988 gift

tax returns were being audited and that a deficiency was to be

proposed.    Accordingly, in early 1992, petitioners responded to

the actions of the Internal Revenue Service (IRS) by hiring

Chaffe to evaluate, among other things, the 1988 stock transfer.

Upon receipt of Chaffe’s results, petitioners filed their amended

gift tax returns.

     We can find nothing unusual about this sequence of events.

Respondent apparently argues that, because petitioners hired

Chaffe to reevaluate the 1988 stock transfer after they were

advised of the examination and proposed deficiency, we should be

highly suspicious of the values petitioners now contend to be

proper.    In light of the facts before us, however, we think

petitioners’ actions were typical under the circumstances.      Yet

this does not mean that we attribute any greater degree of

confidence to petitioners’ recomputed values than we would have

otherwise attributed had petitioners filed their amended returns

prior to discovering that a deficiency was being proposed.

Petitioners must carry their burden of proof; otherwise,

respondent will prevail.    See id. at 577.
                               - 10 -

     Despite having attached a copy of Willis’ appraisal to Mr.

Rabenhorst’s original gift tax return as support for the values

used therein, petitioners now maintain that Willis was not

qualified to conduct an appraisal of the 1988 stock transfer.     In

advancing this argument, petitioners maintain that Willis failed

to consider Rev. Rul 59-60, 1959-1 C.B. 237, and section 25.2512-

2(f), Gift Tax Regs.3   Petitioners argue that the guidelines set

forth in both the revenue ruling and Treasury regulation are

mandatory, and Willis’ failure to conduct his appraisal in

accordance with such guidelines serves to establish that the

values derived in his appraisal are erroneous.   More

specifically, petitioners argue that both Rev. Rul. 59-60, supra,

and section 25.2512-2(f), Gift Tax Regs., require that stock

prices of similarly situated publicly traded companies be

considered when valuing the stock of closely held corporations

such as RLIC.   Petitioners contend that, unlike Willis’

appraisal, Chaffe’s appraisal was conducted in accordance with

the guidelines set forth in Rev. Rul. 59-60, supra, and section

25.2512-2(f), Gift Tax Regs.   In particular, petitioners argue

that Chaffe considered stock prices of publicly traded life

insurance companies in his analysis.


     3
      Petitioners also cite sec. 2031(b), but as this section
principally pertains to the Federal estate tax, we do not discuss
it. We note, however, that sec. 2031(b) generally parallels Rev.
Rul. 59-60, 1959-1 C.B. 237, and sec. 25.2512-1(f), Gift Tax
Regs.
                                - 11 -

     Respondent argues that neither Rev. Rul. 59-60, supra, nor

section 25.2512-2(f), Gift Tax Regs., requires that stock prices

of publicly traded companies be considered when valuing the stock

of a closely held corporation.    Rather, respondent maintains,

consultation of such stock prices is unnecessary if alternative

appropriate means of valuation are available.    Respondent

contends that Willis’ credentials and experience in the insurance

industry enabled him to prepare his appraisal without considering

stock prices of publicly traded companies.    Particularly,

respondent maintains that Willis’ appraisal was benefited by

Willis’ “intimate familiarity” with the sale of industrial life

insurance companies located in Louisiana.    In support of this

contention, respondent explains that Willis had completed an

appraisal, similar to the one in the instant case, for an

industrial life insurance firm located in Arkansas immediately

prior to being hired by David Rabenhorst to prepare the appraisal

involved in the instant case.    In contrast, respondent’s argument

continues, Chaffe’s report lacks the benefit of such professional

experience.   In fact, respondent explains, prior to preparing the

instant appraisal, Chaffe had never before prepared an appraisal

valuation of an industrial life insurance firm.    Respondent also

explains that Chaffe’s report is inherently flawed because of the

dissimilarities between RLIC and the publicly traded life

insurance companies used as comparables in his report.
                              - 12 -

     Neither side has convinced us that its computation of the

per-share stock price accurately reflects the true value of the

stock transfer at issue, but petitioners have advanced the more

convincing argument.   With respect to petitioners’ argument,

however, we note that it is not without its shortcomings.

Although we may choose to accept Chaffe’s appraisal in its

entirety, Buffalo Tool & Die Manufacturing Co. v. Commissioner,

74 T.C. 441, 452 (1980), we may also be selective in the use of

any portion of such appraisal, Parker v. Commissioner, 86 T.C.

547, 562 (1986).   We are particularly troubled by the brevity of

Chaffe’s report.   Specifically, Chaffe’s report does not provide

a discussion of the computation or model used to derive the

discounted per-share value of $176.13.   Furthermore, in his

report, Chaffe explains that he considered a variety of factors,

but he does not elaborate to any significant degree as to what

effect such consideration had on any particular variable involved

in his computations.   Similarly, Chaffe explains in his report

that he considered the stock value of several publicly traded

insurance corporations, but he failed to provide any explanation

of how such share values influenced his calculations.   We are

similarly troubled by the financial dissimilarities between RLIC

and the publicly traded firms used as comparables by Chaffe in

his report.   For example, the average premium income for the five

comparable firms used in Chaffe’s analysis was $150,020,000;

RLIC’s premium income in 1988 amounted to $2,406,000.   Similarly,
                              - 13 -

the average net income and the average amount of life insurance

in force of the five comparable firms were $18,922,000 and

$7,344,000,000, respectively; RLIC’s net income was $348,000 in

1988, and the amount of its life insurance in force was

$50,221,000 for the same year.   Making matters worse, despite

these dissimilarities, Chaffe‘s report does not mention how and

to what extent adjustments were made to account for such

differences.

     Section 4.02(h) of Rev. Rul. 59-60, 1959-1 C.B. at 242,

cautions that it is necessary to exercise care when selecting

companies that are to serve as comparables so as to avoid

comparing inherently dissimilar companies that are otherwise in

the same or similar lines of business.   In light of the magnitude

of the differences between RLIC and the publicly traded firms

considered by Chaffe, along with the general lack of specificity

of his report, we question the precision of his conclusion.

     Petitioners improperly construe the text of Rev. Rul. 59-60,

supra, and section 25.2512-2(f), Gift Tax Regs.   Neither the

ruling nor the regulation can be read to require that the share

price of a closely held corporation be based upon share prices of

publicly traded companies.   Albeit both Rev. Rul. 59-60, supra,

and section 25.2512-2(f), Gift Tax Regs., explain that the share

price of publicly traded corporate stock is a relevant factor to

be considered, both the ruling and regulation continue and

explain that weight is to be accorded to all relevant factors
                                - 14 -

considered depending upon the facts and circumstances of each

case.    See also Estate of Andrews v. Commissioner, 79 T.C. at

940; Messing v. Commissioner, 48 T.C. at 512.     It follows that

the facts and circumstances of a particular case may be such that

an appraiser accords no weight to such share prices.

Accordingly, petitioners’ argument in this regard is misplaced.

        We are also troubled by respondent’s argument that the

discounted per-share value of the 1988 stock transfer was $445.

Although we agree with respondent that it makes more sense to

value a gift of stock made in December 1988 using financial data

as of December 31, 1988, rather than December 31, 1987, we

question whether the computation respondent used to perform such

valuation was appropriate.     See Symington v. Commissioner, 87

T.C. at 896.     In addressing this matter we focus our attention on

Willis, as it was he who created the model used by respondent to

ascertain the discounted per-share value of the 1988 stock

transfer.     We recognize that Willis has respectable credentials,

but we are troubled by his unfamiliarity with relevant Treasury

regulations and revenue rulings.     While such unfamiliarity does

not in and of itself convince us that Willis was incapable of

rendering an accurate valuation, it does raise some suspicion.

We also question the accuracy of his appraisal in light of his

testimony regarding two variables used in his computation: The

minority interest discount and the annual premium increase.      With

respect to the annual premium increase, Willis testified that he
                              - 15 -

elected to use a factor of 1.5, which he derived by splitting the

difference between two factors used in recent valuation projects

involving insurance companies with which he was familiar.    Willis

further testified that he was unfamiliar with the use of minority

interest discount factors in conducting appraisals.    In fact,

Willis had never before valued a minority block of shares.    While

neither of these two matters alone is sufficient to cause us to

conclude that Willis was unqualified to appraise the 1988 stock

transfer, when they are coupled and viewed in conjunction with

his unfamiliarity with relevant revenue rulings and Treasury

regulations, we are inclined to question his appraisal skills.

Simply splitting the difference between two premium increase

factors seems to be a rather arbitrary way to calculate a

critical variable.   Additionally, it seems to us unusual that an

individual who represents himself to be an expert appraiser lacks

familiarity with a concept as common as minority interest

discounts.   Accordingly, in light of his questionable skills as

an appraiser, the efficacy of Willis’ model is suspect.

     Petitioners argue in support of Chaffe’s result by pointing

to a redemption of RLIC stock that occurred in 1984.    Petitioners

maintain that in 1984 RLIC redeemed 5,000 shares of its stock

from Mr. Rabenhorst’s two cousins at a redemption price of

$137.50.   The redeemed shares were immediately distributed in the

form of a stock dividend, and, as a result, the total number of

issued and outstanding shares remained unchanged before and after
                               - 16 -

the redemption.    Petitioners’ argument continues as they explain

that immediately after the redemption and subsequent stock

distribution, the per-share value of RLIC’s stock was $93.14.

Based upon this postredemption share price of $93.14, petitioners

contend that the $176.13 per-share value reached in Chaffe’s

report is reasonable because it accounts for growth in the amount

of 89 percent.    In contrast, petitioners argue, respondent’s

determination of a $445 per-share value is unreasonable because

it requires the acceptance of a growth rate of nearly 400

percent.

     Respondent argues that the redemption lacks probative value

because of its remoteness to the 1988 stock transfer and because

it involved family members.    Because the redemption involved

family members, respondent contends that it was not conducted at

arm’s length.

     We are only partially convinced by petitioners’ argument as

it requires the acceptance of a value derived from a transaction

that occurred nearly 5 years earlier as the basis for

establishing the accuracy of the result obtained in the Chaffe

report.    While we agree with petitioners that a recent

arm’s-length sale of the subject property is probative of fair

market value, we question whether and to what extent the

remoteness of the redemption detracts from its probative worth.

See Kaplan v. Commissioner, 43 T.C. 663, 665-666 (1965).     We

reject, however, respondent’s argument that the redemption lacks
                              - 17 -

probative value simply because related parties were involved.    It

cannot be said that every transaction between related parties is

“endowed with a conclusive presumption of suspicion”.   Messing v.

Commissioner, supra at 511.   Petitioners provided uncontradicted

testimony regarding the redemption, and we believe that such

testimony was credible.   Under the circumstances, we also believe

that the redemption retains probative value despite having

occurred approximately 5 years before the 1988 stock transfer.

     Having carefully studied the entire record in this case, and

based upon the testimony and the appraisal documents relied upon

by both parties, we find that petitioners have successfully

established that respondent’s determination is erroneous.

However, based upon our examination of the evidence contained in

the record, we decline to accept petitioners’ valuation without

first accounting for its shortcomings, as identified herein.

Accordingly, we hold that on December 12, 1988, the fair market

value of the 1988 stock transfer was $902,208, or $296 per share.

In reaching this result, we give due consideration to Chaffe’s

appraisal report and the 1984 redemption.   We also give due

consideration to petitioners’ overall credibility.

     To reflect the foregoing,

                                         Decision will be entered

                                  under Rule 155.
