Rev. Rul. 71-507

Advice has been requested whether the value of payments receivable by a surviving spouse under the death, disability and retirement program provisions of a certain partnership agreement is includible in the gross estate of a deceased partner under section 2039 of the Internal Revenue Code of 1954 under the circumstances described below.

Under the terms of the partnership agreement, a partner qualifies for the periodic receipt of an indicated portion of future partnership income for a specified period when he retires after twenty years or more of participation in the partnership business, for at least the last two years of which he was a partner. The continued payment of such retirement benefit is subject to a requirement that he furnished any reasonable assistance, advice or consultation requested by the partnership. Further, while the portion of the partnership agreement providing for such retirement benefit contemplates a schedule of proportions of the partnership income to be paid a retired partner, varying with the facts and circumstances preceding the partner's retirement, it also reserves a subsequent right in the partnership to alter the specific proportion of income payable as and when made necessary by the admission of new partners to the firm, such as by reason of granting accrued time for retirement benefit purposes to such new partners. There is no other provision for later modification of the agreement.

The terms of the partnership agreement also provide that upon the death of a retired partner receiving such a retirement benefit, the decedent's retirement benefit payment is to be paid to his surviving spouse for a specified time, subject to the same reserved right of alteration by the partnership. These payments are not in liquidation of, nor determined with reference to, any capital interest of the retired partner in the partnership.

In the instant case, the decedent had met all the requirements under the partnership agreement and was receiving an appropriate retirement benefit when he died, being survived by his wife, to whom payments of the same proportion of retirement income are to continue to be made.

Section 2039 of the Code provides as follows:

(a) General.--The gross estate shall include the value of an annuity or other payment receivable by any beneficiary by reason of surviving the decedent under any form of contract or agreement entered into after March 3, 1931 (other than as insurance under policies on the life of the decedent), if, under such contract or agreement, an annuity or other payment was payable to the decedent, or the decedent possessed the right to receive such annuity or payment, either alone or in conjunction with another for his life or for any period not ascertainable without reference to his death or for any period which does not in fact end before his death. (Emphasis supplied.)

(b) Amount Includible.--Subsection (a) shall apply to only such part or the value of the annuity or other payment receivable under such contract or agreement as is proportionate to that part of the purchase price therefor contributed by the decedent. * * *

Under section 20.2039-1(b)(1) of the Estate Tax Regulations, where a decedent had performed all of his contractual obligations and the contract was enforceable immediately prior to his death, the decedent is considered to have "possessed the right to receive" an annuity or other payment provided for under the contract.

Under section 761(d) of the Internal Revenue Code of 1954, the term "liquidation of a partner's interest" means the termination of a partner's entire interest in a partnership by means of a distribution, or a series of distributions, to the partner by the partnership.

Under section 736(a) of the Code, and the Income Tax Regulations thereunder, a deceased partner's successor in interest receiving payments in liquidation of the partner's interest is regarded as a partner until the entire interest of the deceased partner is liquidated. Payments made in liquidation of such interests are considered as a distributive share of partnership income to the recipient if the amounts are paid with regard to the income of the partnership and are not in exchange for the retiring partner's interest in the assets of the partnership. The regulations also provide that the amount of such payments under section 736(a) shall be included in the income of a deceased partner's successor in interest to such payments for the successor's taxable year with or within which ends the partnership taxable year for which the payment is a distributive share.

Under the provisions of section 753 of the Code, the amount includible in the gross income of a successor in interest of a deceased partner under section 736(a) shall be considered income in respect of a decedent under section 691.

Section 691(c) of the Code provides that a person, who is required to include in gross income for any taxable year an amount of income in respect of a decedent may deduct for the same taxable year that portion of the Federal estate tax imposed upon the decedent's estate that is attributable to the inclusion in the decedent's estate of the value of the right to receive such amount. The deduction is determined according to section 1.691(c)-1 of the regulations as clarified by Revenue Ruling 67-242, C.B. 1967-2, 227.

The situation described here is similar to the facts and circumstances described in Revenue Ruling 66-20, C.B. 1966-1, 214, except that there a specified share of the partnership income was to be paid the decedent's estate, whereas here the share is to be paid the decedent's widow, if any, and is subject to a contingency of alteration by reason of the reservation of the right in the partnership, under certain conditions, to change the proportion of partnership income that is payable. The cited Revenue Ruling quotes from the opinion of the Tax Court of the United States in Charles F. Coates, et al. v. Commissioner, 7 T.C. 125 (1946), to the effect that "provisions of this kind are 'intended to be in the nature of a mutual insurance plan, the disadvantage of which each partner was willing to accept in consideration of a similar commitment for his benefit on the part of all other partners, and, in part, as further compensation for the past service of the deceased partner payable after his death.'"

It follows that in the instant case, for purposes of satisfying, under section 2039(b) of the Code, the limitation of the application of section 2039(a) to only such part of the value of the annuity or other payment receivable as is proportionate to that part of the purchase price therefor contributed by the decedent, the payments made by the firm under the plan may be considered as entirely attributable to contributions made by the decedent whose services and reciprocal promises with the other partners constituted full consideration for the contractual obligation of the firm to make the payments in question.

Any questions with respect to the contingency of reduction of the proportion of partnership income payable upon the future admission of a new partner, or as the result of the discretion of the firm in the operation of the plan, relate to the valuation of the payments due the decedent's widow rather than to the includibility of such interest in the decedent's gross estate for Federal estate tax purposes. James Gray v. United States, 278 F. Supp. 281 (1967), affirmed 410 F. 2d 1094 (1969).

Accordingly, it is held that since the deceased partner possessed the right to receive the payments in question, which are entirely attributable to consideration furnished by him and are to be paid to his surviving wife, the value of the payments due his spouse under the partnership agreement is includible in his gross estate under section 2039 of the Code.

It is further held that the amounts received by the deceased partner's surviving spouse are payments made in liquidation of her husband's partnership interest and she is therefore regarded as a partner until his entire interest is liquidated. Accordingly, the amounts received by the surviving spouse are includible in her gross income pursuant to the provisions of section 736(a) of the Code and she is allowed a deduction for that portion of the Federal estate tax attributable to the inclusion in her deceased husband's estate of the right to receive such amounts, in accordance with the provisions of section 691(c) of the Code.