November, 2008 | Issue 29
A recent New York Appellate Court decision on the valuation, for matrimonial purposes, of an investment holding company was largely shaped by recent court decisions made in estate tax cases. In Wechsler v. Wechsler, 2008 WL 463582 (N.Y. 1 Dept., Oct 21, 2008), the court concluded that a privately-owned C corporation that functioned as an asset holding company should be valued by deducting the amount of the company’s latent or “trapped-in” capital gains taxes from the baseline value of the company’s securities portfolio as of the valuation date. In so doing, the Appellate Court reversed the opinion of the trial court below.
As of the valuation date, the company in question, Wechsler & Co., Inc., had a securities portfolio with a market value of $71 million. Both sides agreed that the proper way to value the company was by measurement of its net asset value. They agreed on the baseline pretax value of $71 million, but disagreed as to how to account for the state and local capital gains taxes that would have been due upon the ultimate liquidation of the portfolio.
Both the neutral expert and the Husband’s expert urged the court to apply an estate tax case, Dunn v. Commissioner (5th Cir. 2002). Under that holding, the court should assume a sale of the company on the valuation date and reduce its baseline value by 42% of the gain, that percentage being the combined state and federal capital gains tax rate that the portfolio would be subject to.
The Wife’s expert, on the other hand, offered the Tax Court’s decision in Jelke v. Commissioner (2005), another estate tax case, which rejected a dollar-for-dollar discount for embedded taxes. At the time, Jelke was on appeal to the Eleventh Circuit. The heart of the Wife’s expert’s argument was that the portfolio was not going to be liquidated on the valuation date, and therefore the taxes would not be due on that date, and that therefore using a dollar-for-dollar deduction would overstate the amount of the tax burden.
The New York Appellate Court, in a split decision, finally opted for the Husband’s argument, ruling that the trial court should have adopted the dollar-for-dollar approach of the Fifth Circuit in Dunn. Its reasoning was similar to that ultimately used by the Eleventh Circuit Court in Jelke, where, in reversing the Tax Court, it also adopted the dollar-for-dollar discount for embedded taxes, concluding that it had “the virtue of simplicity.”