FCG Valuation Case E-Flash Giustina v. Commissioner

Authored by John Walker and Chris D. Treharne, ASA, MCBA, BVAL of Gibraltar Business Appraisals, Inc. a member firm of FCG Issue 13:10

Estate of Natale B. Giustina, Deceased, Laraway Michael Giustina, Executor, Petitioner, v. Commissioner of Internal Revenue, Respondent
Docket No. 10983-09, T.C. Memo 2011-141, Judge: Hon. Richard T. Morrison, June 22, 2011

The court faulted taxpayer’s expert for using a pretax discount rate while simultaneously reducing cashflows for income taxes when valuing a limited partnership owning timberland. While the Tax Court used the taxpayer-expert’s discounted cash flow method, it recomputed the result using a slightly lower company-specific risk premium and did not tax affect the company’s income. Additionally, the Tax Court selected a smaller discount for lack of marketability (“DLOM”) than taxpayer’s expert. Because the taxpayer’s expert did not rebut the IRS expert’s testimony regarding the DLOM, the Tax Court accepted the IRS expert’s DLOM

The Takeaway
Following Gross v. Commissioner (TCM 1999-254) and its progeny, the Tax Court has again concluded that the adverse economic impact associated with the income tax liability generated by a pass-through tax entity’s income should not be considered in a business valuation. Failure to recognize that income tax distributions reduce net cash flow to equity in pass-through entities results in an overstatement of economic income and a mismatch with discount rates (derived from sources such as Ibbotson and Duff & Phelps) used to determine the present value of those cash flows.

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