Transfer of Stock Warrants to Charity Was Not an Anticipatory Assignment of Income

In Gerald A. Rauenhorst, 119 TC No. 9 (2002), the Tax Court granted a couple's motion for partial summary judgment, finding the IRS was bound by Rev. Rul. 78-197; thus, the couple's transfer of their stock warrants to four charities was not an anticipatory assignment of income.

Facts

Gerald and Henrietta Rauenhorst owned stock warrants in NMG, Inc. On Sept. 28, 1993, World Color Press, Inc. (WCP) sent a letter to NMG, stating its intention to purchase all of that company's issued and outstanding stock. NMG's officers accepted the letter of intent, which by its terms was “nonbinding.” On Oct. 22, 1993, WCP's board of directors adopted a resolution to negotiate and enter into an agreement to purchase all of NMG's issued and outstanding stock.

On Nov. 9, 1993, the taxpayers executed an assignment of their stock warrants to four charities. On Nov. 12, 1993, NMG's warrant ledger was updated to show the ownership change. One week later, each donee signed a warrant purchase and sale agreement, in which he or she agreed to sell his or her reissued NMG warrants to WCP before 1994.

Representatives of each donee signed affidavits stating that, before execution, there were no agreements among the donee charity, the taxpayers or any other party to sell the stock warrants.

On Nov. 22, 1993, NMG, its stockholders and WCP executed an agreement to purchase of all of NMG's issued and outstanding stock. WCP acquired all of the NMG stock and all of the issued and outstanding warrants to purchase NMG stock in a transaction that closed on Dec. 22, 1993. As part of this transaction, the donees sold their warrants.

The taxpayers did not report any gain from the sale of the institutions' warrants on their 1993 Federal return. In 1999, the IRS issued them a deficiency notice, stating that the donation of the warrants to the charities was an anticipatory assignment of income, resulting in more than $4 million in capital gains in 1993.

Analysis

In Rev. Rul. 78-197, the Service stated that it would treat the proceeds from a charitable contribution followed by a redemption of a donee's stock, under facts similar to Palmer, 62 TC 684 (1974), as donor income if the donee is legally bound or can be compelled by the corporation to surrender the shares for redemption. The taxpayers relied on Palmer and also on Carrington, 476 F2d 704 (5th Cir. 1973), arguing that the anticipatory-assignment-of-income doctrine did not apply, because the conditions did not apply.

According to the Service, Carrington and Rev. Rul. 78-197 were distinguishable from the case at issue, because they did not involve a pending “global” transaction for the purchase and sale of all of a corporation's stock. Rather, the IRS asserted that the issue was a factual question of whether the taxpayers' right to receive the proceeds from the sale of the stock warrants had “ripened to a practical certainty” at the time of the assignment, citing Ferguson, 174 F3d 997 (9th Cir. 1999).

Although the Tax Court stated that it has not adopted and was not bound to follow Rev. Rul 78-197's “bright-line” test, it rejected the argument that the Service was not bound to follow its own revenue rulings in Tax Court proceedings. The court noted that the ruling has been in existence for nearly 25 years and has not been revoked or modified. As a result, the taxpayers relied on the ruling in planning their charitable contributions. Thus, the court limited its decision to the question of whether the charitable donees were legally obligated or could be compelled to sell the stock warrants as of the date that they met the requisites for completing the gifts (i.e., as of Nov. 12, 1993, when NMG's warrant ledger was changed to show that the donees owned the warrants).

The Tax Court determined that the letter of intent could not be construed to legally bind or compel the donees to sell their stock warrants at the time of assignment. To the contrary, the letter specifically stated that it was not a binding agreement among the parties. Further, NMG's officers did not accept and agree to the conditions stated in the letter in their capacities as NMG shareholders. The resolution by WCP's board of directors did not compel the donees to sell their warrants—it simply authorized WCP's officers to negotiate and complete the acquisition. Accordingly, the court held that the institutions were not legally bound and could not be compelled to sell their stock warrants to NMG or WCP, at the time of the assignments. Thus, the Tax Court granted the taxpayers' motion for partial summary judgment, finding that the assignment of their warrants to the four institutions was not an anticipatory assignment of income.

From Sylvia J. Pozarnsky, Chicago, IL