United States v. Cartwright
1973 U.S. LEXIS 155, 36 L. Ed. 2d 528, 411 U.S. 546 (1973)
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Rule of Law:
For federal estate tax purposes, shares in an open-end mutual fund must be valued at their redemption price ('bid' price). A Treasury Regulation requiring valuation at the higher public offering price ('asked' price) is an unreasonable and unrealistic implementation of the Internal Revenue Code because the estate can only realize the redemption price.
Facts:
- At the time of her death in 1964, Ethel B. Bennett owned approximately 8,700 shares in three different open-end investment companies, commonly known as mutual funds.
- These mutual funds have a dual-pricing structure: a higher 'asked' or public offering price for buyers, which includes a sales charge ('load'), and a lower 'bid' or redemption price for sellers, which represents the share's net asset value.
- The sales loads for the funds Bennett owned ranged from one percent to eight percent of the net asset value.
- An owner of mutual fund shares, such as Bennett's estate, can only liquidate the shares by selling them back to the fund at the redemption price.
- There is virtually no private trading market for shares of open-end mutual funds; the only buyer is the fund itself.
Procedural Posture:
- The executor of Ethel B. Bennett's estate filed a federal estate tax return, valuing the mutual fund shares at their redemption price of approximately $124,400.
- The Commissioner of Internal Revenue assessed a deficiency, valuing the shares at their public offering price of approximately $133,300, in accordance with Treasury Regulation § 20.2031-8(b).
- The estate paid the deficiency of about $3,100 and filed a claim for a refund, which the Commissioner denied.
- The executor (respondent) filed a refund action against the United States (petitioner) in the U.S. District Court.
- The District Court held the regulation was invalid and entered judgment for the estate.
- The government appealed to the U.S. Court of Appeals for the Second Circuit, which affirmed the District Court's judgment.
- The U.S. Supreme Court granted the government's petition for certiorari.
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Issue:
Is Treasury Regulation § 20.2031-8(b), which requires that shares in an open-end mutual fund be valued for federal estate tax purposes at their public offering price ('asked' price), a reasonable and valid implementation of the Internal Revenue Code?
Opinions:
Majority - Mr. Justice White
No. The contested regulation, which values mutual fund shares at their public offering price, is unrealistic and unreasonable. The 'willing buyer-willing seller' test for fair market value must reflect market reality. For mutual funds, the only price an estate (the seller) can obtain is the redemption price from the fund (the only buyer). Valuing the shares at the higher public offering price, which includes a sales load the fund does not receive and the estate cannot realize, is inconsistent with the fundamental concept of fair market value. Unlike brokerage commissions on ordinary stock, which are part of a transaction with a third party, the sales load here is part of the initial purchase and is not recoverable upon sale. Therefore, the regulation imposes an artificial value that the estate could never hope to obtain.
Dissenting - Mr. Justice Stewart
Yes. The Treasury Regulation is a reasonable exercise of the Commissioner's authority. The standard 'willing buyer-willing seller' market does not exist for mutual fund shares after their initial issuance. The Commissioner reasonably concluded that the value of these shares includes not just the right of redemption, but a 'bundle of rights,' such as the right to receive dividends, reinvest capital gains, and exchange shares for other funds without a new sales charge. The public offering price, which a willing buyer on the open market would have to pay to acquire this bundle of rights, is a rational measure of the shares' inherent worth. The fact that an estate cannot realize this full amount is analogous to other assets, like real estate, where brokerage fees reduce the net proceeds but not the appraised fair market value.
Analysis:
This decision significantly clarifies the application of the 'fair market value' standard to assets with unique market structures, like mutual fund shares. It establishes the precedent that for estate tax purposes, value must be based on the actual, realizable price an estate can obtain, not on a theoretical replacement cost. The ruling constrains the Treasury Department's authority to promulgate regulations that assign values disconnected from the economic reality of the specific market. This case reinforces that valuation tests must be grounded in the practicalities of the transaction, recognizing that restrictions on transferability, such as the mandatory redemption feature of mutual funds, are central to determining an asset's true value.
