Estate Of Rapp v. Commissioner

140 F.3d 1211 (9th Cir. 1998)

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Nature of the Case

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Facts

Bert Rapp died in February 1988. He was survived by his wife and two children. Bert willed his one-half of the community property to a trust. The issue was whether the trust qualified as a QTIP trust and thus qualifying it for a marital tax deduction. If a terminable trust qualifies as a QTIP, the surviving spouse can elect the marital deduction as if the interest passed directly and without restraint to the surviving spouse. The will left by Bert did not create such a trust, but the will as modified by the California probate court did create a QTIP trust. When Bert's will was admitted to probate, Mrs. Rapp asked the probate court to modify the will so that the trust created would qualify for the QTIP exception. This petition relied on the power of probate court to modify or terminate a trust upon the consent of all parties or to modify or terminate a trust due to changed circumstances. Mrs. Rapp's petition was granted. The IRS did not appear as it was not notified. After the probate order was issued, the executor filed an application for extension of time to file a federal estate tax return. A final tax return was prepared and submitted, and the executor claimed a $3,683,899.38 marital deduction which in effect reduced the total tax owed from the $156,424 submitted on the request for extension to nothing. The IRS sent a notice of deficiency stating that the executor failed to fully substantiate the marital deduction claim; the IRS only allowed a $435,262.50 claim from the total. The tax court eventually ruled that the probate court reformation was not controlling for tax matters.