Disclaimed Property Available to Pay Tax Lien
Audrey Deinlein had three adult sons, Christopher (“Chris”), Ronald Jack, Jr. (“Jack”), and Paul. At the time of her death, she owned a condominium in Kentucky with a value of $303,000. The condominium had a mortgage of $104,352. After her death and before the property’s sale, Jack and Paul had made payments reducing the mortgage balance to $87,936. The net proceeds after the sale were $198,339.56.
For many years, Chris had had problems with income and employment taxes he owed. The IRS issued its first tax lien in 2006. Between 2006 and 2010 a total of six liens were issued. As of April 1, 2013, the total outstanding balance of all of Chris’ federal tax liens was $459,409.49.
In an effort to help her son lessen his financial burdens and pay his tax debts, Audrey gave Chris checks totaling $150,500 between 2000 and 2010. She also made wire transfers to Chris from her brokerage account totaling $35,000.
In 1999, Audrey wrote a Last Will and Testament leaving all her personal property to her husband, Ronald Jack, Sr. If her husband had predeceased her (which he did), the tangible personal property “shall pass absolutely and in fee simple and in equal shares to my three children . . . .” There was also a residuary clause in the Will distributed the residue of her estate to her revocable trust agreement (which contained similar provisions distributing the trust assets equally, outright, and free of trust to her three sons). Shortly before her death, Audrey told her sons that she wanted an accountability of debts. She also wrote “[b]efore my assets are divided, there should be accountability of debts. [illegible] Ring to Audrey. Baba’s wedding ring to Phyl. Piano to Paul.”
Chris, Jack, and Paul filed competing petitions to be named as executor of Audrey’s estate. All three applications expressed concerns about the other brothers’ fitness to perform the duties of executor and the propriety of transactions between the bothers and Audrey. On February 10, 2012, the probate court of Campbell County, Kentucky, appointed a third party, Laurie B. Dowell (“Laurie”), as administratrix of the estate.
Two weeks after her appointment, Laurie, Chris, Jack, and Paul had entered into a settlement agreement and mutual release. The settlement agreement provided that it resolved all claims among the brothers without any admission of liability. Chris agreed he would not pursue his petition to be appointed executor any further and provided that he “renounced any further claims as a beneficiary of the Estate.” Chris further promised to pay certain mortgage and utility expenses, pay off Audrey’s Sears Visa card, and pay Audrey’s 2010 federal tax liability. Jack and Paul agreed to pay outstanding condo fees. All three brothers agreed to share responsibility for Audrey’s funeral expenses, her headstone costs, and the cost for Laurie’s services as administratrix.
The settlement agreement further provided that all debts, loans, gifts, and other transactions between Audrey and Chris, Jack, and Paul “shall be deemed settled, satisfied, and conclusively resolved, and the Parties shall not be entitled to any further accounting concerning any such debts, loans, gifts, or other transactions.” The agreement also states “other than inter-family loans, any debt or claims against the [E]state that were incurred by any heir for his individual benefit, shall be assumed by that individual and he shall hold the [E]state harmless.”
The Estate brought a Complaint / Motion Concerning Advancement in probate court in an attempt to quiet title relating to Chris’ federal tax liens and Chris’ share of the Estate / condominium sale proceeds. The IRS removed the case to federal court. The IRS then moved for summary judgment, claiming it was entitled to claim $60,641.17, which the IRS claimed represented Chris’ share of the condo value minus one-third of the mortgage reduction paid by Chris’ brothers. Chris countered that based on the decedent’s wish for an accountability of debts, his history of financial transactions with Audrey, and the settlement agreement, the funds paid to him should be treated as an advancement against his share of the Estate. In the alternative, Chris argues that the settlement agreement should be construed as a disclaimer of his share of the estate and that he should be treated under Kentucky law as having predeceased his mother.
Internal Revenue Code Section 6321 authorizes the Government to satisfy a tax deficiency by imposing a lien on all property and rights to property, whether real or personal, belonging to the taxpayer. The United States Supreme Court, in United States v. Craft, held that the determination of what constitutes property and rights to property is ultimately a question of federal law. However, the Craft court went on to hold that this statute “creates no property rights but merely attaches consequences, federally defined, to rights created under state law. Therefore, the federal court in this case needed to look at what rights Chris had in the assets of the Estate in order to determine to what the tax lien attached (see Estate of Dienlein v. United States, 114 AFTR.2d 2014-5390 (DC KY 7/23/2014), citing Drye v. United States, 528 U.S. 49, 58 (1999)).
The IRS argued the Kentucky statute relating to advancement applied only to intestate estates. Rather than rebut that position, the Estate cited a Kentucky Law Journal article that took the position the law should be changed. With regard to the Estate’s argument that Chris had made a disclaimer, the court held that it was well-settled law that an inheritance is a property right to which the tax lien attaches and that the taxpayer cannot avoid the lien by simply disclaiming the inheritance. The Estate then engaged in a circular argument that the $185,000 was a loan while also arguing that it was a debt that Audrey wanted to treat as an advancement of his inheritance. After winding its way through all the arguments, the court held that it had to look at Kentucky law as it exists today with regard to advancements and that the disclaimer was not effective to avoid the IRS’ tax lien.
For more than ten years before her death, Audrey was aware that Chris had tax and financial troubles. She could have structured her estate to include a trust for Chris that would have protected Chris’ inheritance from his creditors and the IRS. Unfortunately, either out of ignorance or other reasons, Audrey gave Chris his inheritance with no restrictions. This left the inheritance vulnerable to Chris’ creditors, including the IRS. Once an inheritance is available to a child or other beneficiary, there is very little, if anything, that can be done to protect the inheritance from creditors.
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