IRC 2036- Suspect Death Bead Planning

Background: Periodically we have covered the ‘string’ provisions of the Tax Code, and in particular, IRC 2036, which bring the value of assets transferred during lifetime back into the transferor’s gross estate for federal estate tax calculations. IRC 2036 is one of the Tax Code provisions that enables the IRS to include in the transferor’s gross estate the fair market value of assets that were transferred by the decedent while alive if the decedent retained interest or control over the transferred assets. IRC 2036(a) mandates that the decedent’s gross estate include the value of such property where the decedent retained an interest in the enjoyment or income of that transferred property.

Bona Fide Sale Exception: The statutory exception to the application of IRC 2036(a) estate inclusion rule is when the decedent’s transfer was “a bona fide sale for an adequate and full consideration in money or money’s worth.”  Consequently, when the IRS asserts IRC 2036(a) to include the value of lifetime transfers in the decedent’s gross estate, the estate will seemingly inevitably claim that the statutory exception applies, asserting that there was a business purpose for the lifetime transfer of the decedent’s assets, such that estate inclusion is not warranted. In addressing the business purpose exception courts note that the decedent’s estate must demonstrate that the transfer served “a substantial business or non-tax purpose” with objective evidence, and that the non-tax reason was a significant factor that motivated the partnership or limited partnership entity’s creation. In short,, the “the significant purpose must be an actual motivation, not a theoretical justification.”

A recent federal court of appeals decision indicates how courts often dispense with perceived and at times creative ‘business purpose’ arguments as justification for the lifetime transfer even if days before the transferor’s death.

Estate of Anne Milner Fields v. Commissioner,  Fifth Circuit Court of Appeals, No. 25-60403 (June 8, 2026)

Facts: Anne was a successful businesswoman whose health rapidly declined due to Alzheimer’s disease. Anne’s agent and nephew, Bryan, transferred $17 million of Anne’s assets to a limited partnership (LP) that Bryan had formed in late May 2016. Anne’s assets were transferred by Bryan two weeks after the LP was formed. Anne died on June 23, 2016. Anne’s estate tax return was filed on which the Personal Representative reported that Anne’s interest in the LP was valued at $11 million, not $17 million. The IRS issued a Notice of Deficiency; it claimed that IRC 2036(a) applied to Anne’s transfer and that the full $17 million transferred to the LP weeks before her death should be included in Anne’s gross estate. The IRS also assessed a 20% accuracy-related penalty. [IRC 6662.]

Estate’s Position: Anne’s estate claimed that legitimate non-tax business purposes motivated the transfer of her $17 million to the LP weeks before her death. Three arguments were offered by the estate: (i) the LP was needed to remedy limitations and restrictions in Anne’s durable power of attorney that she had given to Bryan; (ii) the LP was necessary to consolidate and streamline the management of Anne’s diverse and complex asset holdings to facilitate their succession on her death; and (iii) the LP provided a safeguard against potential fraud and elder abuse. As to the accuracy-related penalty that had been assessed, Anne’s estate claimed that the LP was formed with the advice of lawyers and that Anne’s LP interest was correctly valued by a certified appraiser.

Court Analysis: The Fifth Circuit Court of Appeals affirmed the Tax Court’s decision that the application of IRC 2036(a) was warranted under the circumstances. The Court found that there was no substantial non-tax purpose for the creation and funding of the LP. In addressing Anne’s estate’s arguments and its justification for the transfer of $17 million to the LP a few weeks before her death, the Court noted:

Succession and Management: Anne’s existing durable power of attorney was functional. The LP structure offered no actual improvement in succession, and because management changes under the LP still required unanimous consent of the partners. As for the ‘streamlining of Anne’s assets,’ the assets, once transferred to the LP, were “of constituent character. And promised no obvious synergies with each other.”

Troublesome Facts: The Court’s decision identified several what it termed ‘troublesome facts,’ which included- (i) The temporal proximity of the transfers to the LP to Anne’s death. (ii) The attorney hired by Bryan sent an email that specifically sought advice on how to obtain a ‘deeper [valuation] discount.’ (Yes, attorney communications are discoverable.); and (iii) The asset transfers by Bryan to the LP “proceeded rapidly ‘ just days before Anne entered hospice. From these facts the Court concluded that the non-tax justifications asserted by Anne’s estate were “merely a post hoc theoretical justification” rather than an actual motivation.

Accuracy-Related Penalty: The Court sustained the assessment of the 20% accuracy related penalty when the estate reported Anne’s interest in the LP at $11 million. IRC 6662 permits the assessment of this 20% penalty if negligence is established. This occurs when the taxpayer fails to verify an exclusion or deduction that “would seem to a reasonable person to be too good to be true.”  The fact that Anne’s estate relied on legal counsel was insufficient as a justification to avoid the penalty. The Court noted that while engaging professionals is one factor to be considered, “the validity of this reliance turns on the quality and objectivity of the professional advice’ obtained. The Court noted that the $6 million discrepancy- a massive reduction in reportable assets- was an extraordinary opportunity to avoid taxes and that Bryan should have recognized that it was ‘too good to be true.’

Conclusion: “Pigs get fat, hogs get slaughtered.” The Fields decision comes as no real surprise. Individuals and estates cannot rely on seemingly desperate retrospective business justifications to deflect tax-motivated transfers from inclusion in a decedent’s estate under IRC 2036(a). If the proposed activity results in a ‘its too good to be true’ outcome, then welcome to the world of IRC 2036 and its estate inclusion ‘string.’  Scrambling to identify theoretical justifications for death-bed asset transfers to an LLC or LP will always invite judicial scrutiny and often produce a 20% accuracy-related penalty.

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