Commissioner v. Prouty - 115 F.2d 331 (1st Cir. 1940)

Rule:

"Substantial adverse interest," as it is used in I.R.C. § 166, means a direct legal or equitable interest in the trust property, and not merely a sentimental or parental interest in seeing the trust fulfilled for the advantage of other beneficiaries.

Facts:

In 1923 Olive H. Prouty, the taxpayer herein, set up three trusts. Between 1923 and 1931 the grantor, by virtue of power reserved to her, made various amendments to the trust instruments. The Commissioner ruled that the gifts were not complete in 1931; that under Section 501 of the Revenue Act of 1932, 47 Stat. 245, as amended by Section 511 of the Revenue Act of 1934, 48 Stat. 758, 26 U.S.C.A. Int. Rev. Acts, pages 580, 769, gift taxes became due upon amendment of each of the trusts on January 2, 1935, whereby the grantor finally relinquished all reserved power to revoke or amend the trust instruments. Upon petition for redetermination of the deficiency, the Board of Tax Appeals held with the taxpayer that the gifts had been completed prior to the enactment of the gift tax in 1932, and decided that there was no deficiency in gift taxes for the year 1935. The Commissioner of Internal Revenue petitioned for review. 

Issue:

Did the Board of Tax Appeals correctly hold that there was no deficiency in gift taxes for the year 1935? 

Answer:

No. There was no deficiency tax only as to the first trust.

Conclusion:

 On appeal, the court affirmed as to the first trust and reversed as to the other trusts. The court found that if the taxpayer's husband had a substantial adverse interest in the disposition of the trust, the gift was not complete and would be liable for taxes in 1931, but gift taxes occurred when the grantor relinquished her power to revoke or amend the trusts in 1935. Unlike the other trusts, in the first trust, the husband had a substantial adverse interest in the disposition of the trust, since if he outlived the grantor, he would succeed as trustee.