Commissioner v. Prouty

Olive H. Prouty (defendant) established three trusts in 1923. Olive amended the trust instruments until 1931, when the documents contained a provision that allowed her the right to revoke or amend the trusts on her own with the written consent of her husband, Lewis Prouty, during his lifetime and after his death. Trust 1 provided for the trustee (Olive herself) to make payments to Lewis out of an annuity for his maintenance, support, and welfare. If Lewis outlived Olive, he would become trustee and could pay himself any of the corpus and could control the final disposal of the corpus by will. Trusts 2 and 3 allowed Olive to control payments to Lewis and one of her children, and while Lewis would likewise succeed Olive as trustee if he outlived her, he could not make any payments to himself, and on his death, the property would pass to the relevant child. From each trust, Lewis was to receive the initial $2,500 annuity. In 1935, Olive gave up the power to revoke or amend the trusts. The Commissioner of Internal Revenue (the Commissioner) (plaintiff) initially found that the gifts were not completed in 1931 and that Prouty owed gift taxes in 1935 (the federal gift tax was enacted in 1932). Prouty filed a petition for redetermination, and the Board of Tax Appeals reversed. A petition for review was filed. The central inquiry was whether Lewis had a substantial adverse interest in the dispersal of the trust property or income therefrom. If so, the gifts were completed in 1931. The Board found that in Trust 2 and Trust 3, Richard’s concern for the welfare of his children constitutes a substantial adverse interest, such that the gift was completed in 1931. The Commissioner, on the other hand, considered the $2,500 annuities as completed gifts but calculated the remaining value of the trusts after deducting the value of the annuities based on Lewis Prouty’s life expectancy and treated that amount as a 1935 transfer. The larger question was whether a substantial adverse interest existed in Trust 1, since Lewis’s interests in the trust corpus beyond the annuity were predicated entirely on his outliving Olive.