10 percent interest to New York and pay a 25 percent penalty and interest on the tax owed to the IRS. In the context of a malpractice claim in connection with a Clifford trust, the court in Horne v. Peckham, 97 Cal.App.3d. 404, 158 Cal.Rptr. 714 (1979), treated the relationship between the client and the drafter of the trust as a fiduciary relationship, stating that this fiduciary relationship continued until after an IRS audit.
F. Fault and blame
A successful tax malpractice claim requires the plaintiff to show that the defendant was at fault. The defendant may be able to avoid liability by demonstrating that the law was so uncertain or unclear that the defendant could not be blamed. In Lucas v. Hamm, 56 Cal.2d 583, 15 Cal.Rptr. 821, 364 P.2d 685 (1961), a non-tax case, the California court held that California law on perpetuities was a "technically ridden legal nightmare." Defendants frequently seek to employ this legal nightmare rule in escaping liability, but without a significant measure of success.
Bucquet rejected the "technically ridden legal nightmare" defense as to marital deduction trusts, terming marital deduction trusts as "one of the best known estate planning devices." The court discussed the power of appointment provisions of section 2041, holding that the retention of a general power of appointment is within the reasonable competence of an attorney. Here the damage was clearly foreseeable.
A Lucas v. Hamm approach applied in Smith v. St. Paul Fire & Marine Insurance Company, 344 F.Supp. 555 (M.D.La. 1972), reversed and remanded 471 F.2d 840, 366 F. Supp. 1283 (M.D.La. 1973), in connection with the section 2032 alternative valuation date and the distribution of property. Smith did not make reference to Hamm.
G. Consumer protection; professional responsibility
A plaintiff in an estate tax malpractice suit may be able to successfully claim that the defendant failed to comply with consumer protection statutes or that the defendant failed to comply with professional responsibility requirements. In addition, a plaintiff or a defendant should be aware of the potential for disciplinary proceedings and the potential malpractice impact of these disciplinary proceedings.
In People v. Bailey, 503 P.2d 1023 (Colo. 1972), a disciplinary proceeding was brought against Robert G. Bailey, in which Bailey was charged with "conducting himself contrary to the highest standards of honesty, justice, and morality." Three charges were filed against Bailey. In the first situation, Bailey was appointed co-executor of an estate worth between $1 million and $1.5 million, but failed to act with reasonable diligence in preparing and closing the estate. His delay caused substantial additional inheritance taxes in the form of interest and penalties to be assessed to this estate. In the second situation, Bailey filed no inventory in the estate until the grievance procedures were filed. In the third situation, Bailey failed to file an inheritance tax application.
The Grievance Committee believed that Bailey's handling of the three matters amounted to gross negligence and unprofessional conduct. Bailey was warned and publicly reprimanded, and the Colorado Supreme Court, sitting en banc, affirmed. A plaintiff could have been able to use this decision as a basis for a malpractice claim against Bailey.
A principal issue in Estate of Hartz v. Nelson, 437 N.W.2d 749 (Minn.App. 1989), was the magnitude of the punitive damages where the attorney made false accusations concerning the estate's personal representative to various public agencies. The defendant was suspended from the practice of law and publicly reprimanded, and had never applied for readmission to the Minnesota bar. See In re Nelson, 327 N.W. 2d. 576. Here it appears that the court felt sympathy for Nelson in an award for punitive damages, which the court remanded.
In Levin v. Berley, 728 F.2d 551 (1st Cir. 1984), Levin, a Massachusetts resident, hired David R. Berley to prepare the will of Levin's wife to take full advantage of the marital deduction. Levin then sued Berley, accusing him of undertaking unfair and deceptive acts and practices under the Massachusetts Trade Practices Act and for malpractice. The Massachusetts Court of Appeals accepted Levin's claim that the Massachusetts Trade Practices Act applied, holding that Mrs. Levin was a purchaser of services under the act, and determined that Levin's claim as executor of Mrs. Levin's estate "clearly had standing."
In Sorenson v. Fio Rito 90 Ill.App.3d 368, 45 Ill.Dec. 714, 413 N.E.2d 47 (Ill. 1980), the executrix brought suit against her attorney for malpractice arising from his failure to timely file the Illinois inheritance tax return and the federal estate tax return. The trial court took judicial notice of the Code of Professional Responsibility in assessing the attorney's standard of care.
H. Privity and the attorney-client relationship
An estate tax malpractice case may turn on privity, the closeness of the relationship between the attorney and the client and others. Some jurisdictions apply strict privity, other jurisdictions look to the foreseeability of the relationship, and still other jurisdictions appear to have abandoned privity altogether.
In Bucquet v. Livingston, 57 Cal.App. 914, 129 Cal.Rptr. 514(1976), George and Ruby, husband and wife, engaged David Livingston to prepare separate revocable inter vivos trusts to minimize and avoid federal estate taxes and California inheritance taxes that would otherwise be payable on their deaths. Livingston's trusts contained a power of appointment, taxable under section 2041. Barbara Bucquet, daughter of George and Ruby, sued Livingston for including this clause in the trust instrument. Livingston contended privity barred Bucquet's claim, that he had no duty to Bucquet. The California court rejected Livingston's narrow view of professional duty. "The duty extends not only to the client, but also to the intended beneficiaries; a lack of privity does not preclude the testamentary beneficiary from maintaining an action against the attorney on either a contractual theory of third party beneficiary or a tort theory of negligence."
The California court in Bucquet recognized that liability to testamentary beneficiaries not in privity is not automatic. A determination whether liability exists in a specific case is a matter of policy and involves the balancing of various factors, including the following:
1. the extent to which the transaction was intended to affect the plaintiff;
2. the forseeability of harm to the plaintiff;
3. the degree of certainty that the plaintiff suffered injury;
4. the closeness of the connection between the defendant's conduct and injury suffered;
5. the moral blame attached to the defendant's conduct; and
6. the policy of preventing future harm.
The executrix hired an accountant to prepare the estate's fiduciary income tax return, but the accountant excluded windfall profits taxes and the executrix sued the accountant, seeking punitive damages in Wirtz v. Switzer, 586 So.2d 775 (Miss.1991). Residuary beneficiaries had a position different from that of the executrix, and the accountant contended that he lacked privity with the residuary beneficiaries. The Mississippi Supreme Court expanded privity and looked to the reasonable foreseeability of the users of the accountant's report. The accountant would be liable for any loss suffered by reasonably foreseeable users if the loss was proximately caused by the accountant's negligence. The court held that reasonable foreseeable users in this case would include the residuary beneficiaries.
Ms. Ferdinan B. Stevenson sought to benefit her four children on her death and retained a lawyer, Charles A. Severs III. Stevenson purchased two life insurance policies in 1986, each for half a million dollars. Severs set up a life insurance trust in 1986 to protect the insurance benefits for Stevenson's children, but the insurance policy was not transferred to the trust. The district court found that none of the defendants breached their duty to Stevenson as to the advice that they had provided, as they had no "duty to advise Stevenson on the potential gift tax liabilities of the trust arrangement...." Even if the defendants "had such a duty, they had not breached it." The U.S. Court of Appeals for the District of Columbia affirmed in Stevenson v. Severs, 82 AFTR2d Par. 98-6912 (D.C. Cir. 1998).
In Rutkowski v. Hollis, 235 Ill.App.3d 744, 175 Ill.Dec. 826, 600 N.E.2d 1284 (Ill. 1992), an attorney failed to use section 2032A, the special farmland valuation provision. The executrix contends that her attorney provided her late husband Charles with deficient tax advice regarding his role as executor of the estate of his brother Alexander. The attorney contended that he had no duty to her husband nor did he breach that duty. The executrix asserted that she sought damages for "an intended beneficiary of the contract" between her husband and the attorney, and argued that these actions are permitted where there was "an extra-contractional duty" to the persons whom the client intended to benefit from the agreement between the parties.
A client can maintain an action against an attorney based in negligence although no privity exists between the person and the attorney. The executrix sought compensation for damages suffered by her husband in his capacity as a third-party beneficiary of the contract between the attorney and himself. The court in Rutkowski held that an attorney retained by an executor owes no duty to the interests of the beneficiaries, and that the attorney's primary duty was to Charles as executor and not to Charles as beneficiary of Alexander's will. The complaint did not allege that the attorney owed Charles a duty that has been breached as a third-party beneficiary, and the breach of contract claim failed.
Catherine F. Sorenson, the executrix in her husband's estate, brought suit against her attorney, Michael Fio Rito, for malpractice arising from his failure to timely file the Illinois inheritance tax return and the federal estate tax return. The trial court found for the plaintiff and the appellate court affirmed, Sorenson v. Fio Rito, 90 Ill.App.3d 368, 45 Ill.Dec. 714, 413 N.E.2d. 47 (Ill. 1980). Evidentiary issues arose as to whether the attorney-client relationship existed. Sorenson claimed that she and Fio Rito met a few months after her husband's death where he advised her concerning joint tenancy property. She claimed that Fio Rito took several of her husband's estate documents with him after their meeting, and told her that he "was taking care of everything."
I. Proof facts
An estate tax malpractice claim raises a number of factual issues, including a lack of documentation, the involvement by the tax authorities at various stages of the audit and appeals process, the reliance on oral testimony, and the like.
For example, in Key Trust Co. of Maine v. Doherty, Wallace, Pillsbury and Murphy, P.C., 811 F. Supp. 733 (D.Mass. 1993), one factual issue was the credibility of Key Trust. Jerry Simpkins, a tax auditor with the Massachusetts Tax Bureau, sent a form letter inquiring into the status of the David E. Harriman Trust. This letter indicates that "[i]t appears from an examination of our files that the tax on the remainder interest on the above-captioned estate has not yet been assessed." Key Trust disputed receiving Simpkins's letter, which could be a crucial issue for statute of limitations purposes. Neither the Massachusetts Tax Bureau nor Key Trust had Simpkins's letter. Importantly, however, Jerry Simpkins had received a responsive letter from Key Trust, making reference to "your letter regarding the David E. Harriman Trust." Based on that documentation, the court believed that Key Trust did receive this letter from Simpkins.
The existence of an attorney-client relationship was a key factual issue in Sorenson v. Fio Rito, 90 Ill. App. 3d 368, 45 Ill. Dec. 714, 413 N.E. 2d 47 (Ill. 1980). See discussion in Part II.H., supra.
J. Expert witnesses and testimony
Estate tax malpractice claims may require the plaintiff to secure the use of an expert witness to challenge the behavior being substantiated. The defendant may require the use of an expert witness to substantiate the behavior being challenged.
Expert testimony was a central issue in Smith v. St. Paul Fire & Marine Insurance Company, 344 F. Supp. 555 (M.D. La. 1972), reversed and remanded 471 F.2d 840, 366 F.Supp 1283 (M.D. La. 1973). The heirs sought to apply the section 2032 alternative valuation to the property and the attorney did not oppose the transfer of the assets taking place within one year of death. The court relied on five expert witnesses, all attorneys, three who found negligence and two who did not, before concluding that the defendant attorney was not at fault.
The first expert witness testified that he had handled 10 or 15 matters involving the payment of federal estate taxes. He stated that as an attorney he would have advised a client of the lack of jurisprudence on the subject, and thought the defendant attorney was negligent for not informing the client about this lack of knowledge. He admitted that a number of attorneys would form a contrary conclusion on the alternative valuation issue.
The second expert witness testified that he handled about 20 federal estate tax returns. He suggested that the problem could have been avoided by waiting a year before putting the heirs in possession, but the court felt that this approach begged the question. The court was critical of this witness for stating that he is "never too confident on a point of law," while at the same time concluding that the defendant was negligent.
The third expert witness testified that the defendant was negligent for not seeking advice from the IRS or from some other attorney. However, the defendant attorney did in fact seek IRS advice. The court concluded that this witness reached an "unusual conclusion."
The fourth expert witness testified that he had handled 10 matters involving federal estate taxes. He advised that a distribution of property under Louisiana law did not affect the claim for alternative valuation under section 2032.
The fifth expert witness testified that he had handled several estate tax cases. He stated that his decision to use the alternative valuation date of one year after death had never been questioned. He negotiated this issue three times with the IRS, twice permitting the alternative valuation date and once using the date of death.
In Sorenson v. Fio Rito, 90 Ill.App.3d 368, 45 Ill.Dec. 714, 413 N.E.2d 47 (Ill. 1980), the trial court allowed an attorney to address the "standard of care" issue, but the court did not qualify the attorney as an expert witness. The appellate court held that this lack of qualification was not harmful.
The executors sued the attorney in Schmitz v. Crotty, 528 N.W.2d 112 (Iowa 1995), for including property that the estate did not own in filing the estate tax return. The expert witness described the activities that the practitioner should have undertaken in applying the "reasonable care" standard in this endeavor including the gathering of information, atlas checking, and title search. The court concluded that "[a]lthough plaintiffs provided expert testimony on the requisite standard of care, hindsight shows that such testimony was not required in this case." Expert testimony is necessary unless the court can rule as a matter of law that the attorney failed to meet the applicable standard or the conduct claimed to be negligent is so clear that it can be recognized or inferred by a layperson.
In Estate of Hartz v. Nelson, 437 N.W.2d 749 (Minn.App. 1989), the personal representative brought suit against the attorney for malpractice and conversion of assets. The personal representative introduced expert testimony regarding the errors that the attorney had made on the estate tax returns. Here the expert's opinion was that the errors could have been avoided if the attorney had used a reasonable degree of skill in the practice of his profession and had acted in good faith. The expert further testified that the attorney did not use a reasonable degree of skill in preparing the estate taxes, did not act in good faith, and his failure to do so injured the personal representative.
The executrix hired an accountant to prepare the estate's fiduciary income tax return, but the accountant excluded windfall profits taxes and the executrix sued the accountant, seeking punitive damages in Wirtz v. Switzer, 586 So.2d 775 (Miss.1991). The executrix relied on expert testimony to support the accountant's negligence. An expert witness testified that accountant's mistake in omitting the windfall profits tax fell below the standard of care for accountants.
In Wirtz, the expert witness studied the following documents in making his determination: the accountant's depositions, the remittance advices received by the estate, estate and fiduciary tax returns, correspondence, and the executrix's depositions. The expert witness stated that the accountant's mistake was an error rather than an erroneous estimate. The Mississippi Supreme Court stated that an expert witness was needed to prove that the professional did not exercise necessary knowledge, skill, or ability.
Estate of Callahan v. Allen, 97 Ohio App. 749, 647 N.E.2d 543 (Ohio App.4 Dist. 1994), concerned an attempt to use the section 2056 marital deduction and the section 2018 disclaimer. A defendant's expert witness who practiced in tax appeals testified that he believed that taxpayers would prevail in tax appeals only about 30 percent of the time. He further stated that he believed it was appropriate for the estate to settle the dispute because the facts of the case indicated a small chance of the estate prevailing and the estate would do better to pay the reduced tax and forego an appeal.
K. Statute of limitations
The defendant's principal weapon in defending an estate tax malpractice claim is often the statute of limitations. The defendant may seek to demonstrate that the plaintiff brought suit too quickly, making the claim unripe, or more typically, that the plaintiff waited too long to pursue the estate tax claim. Timing issues are compounded because estate tax malpractice can begin at the earliest stages of the attorney-client relationship, such as will drafting, but estate tax malpractice can also be based on events that have occurred much later, such as during the probate of the estate or the preparation and filing of estate tax returns and inheritance tax returns.
Situations may require the parties to pursue administrative remedies before pursuing judicial relief, but the statute of limitations in tax matters exists independently from the exhaustion of remedies. As such, practitioners may find that statute of limitations arise at an earlier point in time than the practitioner contemplated. Statute of limitations issues are complex in the estate tax malpractice context, primarily for three reasons:
1. Limitation periods are enacted by individual states, not by multistate bodies or the federal government, precluding a more universal approach to the statute of limitations.
2. Courts seek to engraph rules of construction into the statute of limitations, making a review of the state's case law essential.
3. Both the malpractice plaintiff and malpractice defendant are affected by the receipt of notices of various types from Internal Revenue Service or from other tax authorities.
A claimant may lose out by bringing the claim too quickly, raising the issue of ripeness. In Stevenson v. Severs, 82 AFTR2d Par. 98-6912 (D.C. 1998), the heirs sued an attorney for estate tax malpractice for improper structuring of a life insurance trust. The estate, not the trust, was reflected as the owner of the insurance, requiring costs to make the correction. The plaintiff sought $550,000 for potential estate tax liability, determined by applying the 55 percent tax rate to the $1 million estate, applied to the three-year gift tax look-back pursuant to section 2035(a). The U.S. Court of Appeals for the District of Columbia in Stevenson held that the plaintiff's $550,000 claim was unripe. The transfer of the policies took place on September 29, 1995, so that the estate tax claim would be moot if Stevenson survived beyond September 29, 1998. The appellate court opinion was filed October 27, 1998, making this issue totally moot if Stevenson survived until that date.
Statute of limitations was the principal issue in Nellas v. Loucas, 191 S.E.2d 160 (W.Va. 1972). Here the attorney filed the federal tax return late, subjecting the estate to a penalty, and the executor sued the attorney. The statute of limitations defense was not pleaded, and the attorney sought to claim statute of limitations after the fact. The West Virginia Supreme Court of Appeals was concerned that acceptance of the belated statute of limitations defense would have prevented the plaintiff from bringing its best case. The court permitted the defendant to amend his answer to plead the statute of limitations, but the plaintiff was permitted to provide evidence that affects the application of the statute of limitations, such as tolling, waiver, and the like.
The Paparodis heirs in Nellas were Ohio residents, the lawyer was a West Virginia resident, and the West Virginia Supreme Court of Appeals applied conflict of law principles in ascertaining the statute of limitations. In Ohio, an action by a client against the client's lawyer for breach of the relationship is treated as a malpractice action, and this action is governed by a one-year statute of limitations. West Virginia provides that the shorter limitation period applies, whether West Virginia or foreign, where a claim accrues beyond state boundaries. Ohio case law provides that a cause of action against the attorney for malpractice accrues, at the latest, when the attorney-client relationship changes. As a result, the action might not be time-barred under Ohio law.
Issues can arise as to the inception of the event that starts the running of the statute of limitations period as states apply different rules. Some states begin the limitations period when the event giving rise to malpractice occurs, but many states start the limitations period on "notice," when the plaintiff knows or has reason to know about the malpractice event. Some states apply the notice approach to the statute of limitations, but delay the time period until the plaintiff suffers appreciable harm. States delay the statute of limitations period in the event of fraudulent concealment.
In United States v. Gutterman, 701 F.2d 104 (9th Cir. 1983), the attorney filed the estate's federal income tax return and paid the estate taxes six months late. David M. Schindler died on April 26, 1970, and the tax return was filed and payment made on January 25, 1972. The IRS assessed a penalty on March 6, 1972, and the executor was notified on August 14, 1972, that the amount was due. The executor did not pay, and the United States bought suit in March 1978. The executor brought suit against the attorney in California on September 19, 1979.
California applies the notice rule for legal malpractice. A cause of action does not accrue until "the client discovers, or should discover, the facts establishing the elements of his cause of action" and there is "appreciable and actual harm flowing from the attorney's negligent conduct." The issue here was in ascertaining when the executor suffered "appreciable harm" as nominal damages do not trigger the statute of limitations. California looks to when the "error becomes irremediable," and the court held that the executor "first suffered actual and appreciable harm, at the latest, in August 1972 when the IRS assessed the tax penalty." The court did not find any case holding that a malpractice claim for negligent tax services does not accrue until a court judgment. The executor's claim was therefore barred by the statute of limitations.
In Levin v. Berley, 728 F.2d 551 (1st Cir. 1984), the executor, Irving M. Levin, hired attorney David R. Berley to draft a will taking full advantage of the section 2056 marital deduction, but the IRS disallowed the marital deduction. The extent of Levin's damages were uncertain before the final judicial resolution of the tax deficiency, but the U.S. Court of Appeals, speaking in the diversity context, concluded that this uncertainty did not delay the accrual of Levin's cause of action against Berley. The Tax Court had decided in favor of the IRS on April 9, 1981, and the court of appeals affirmed the decision.
Massachusetts applies the three-year statute of limitations period for attorney malpractice claims. Massachusetts is a "notice" state, as are most states, and, like California, imposes a "appreciable harm" prerequisite for the inception of the statute of limitations period. The cause of action in Massachusetts does not accrue until a plaintiff knew or reasonably should know that he has sustained appreciable harm as a result of the defendant's negligence. The time period begins when the plaintiff discovers the appreciable harm, even if the plaintiff does not know the extent of the harm.
Attorney Lippman sent an accusatory letter to Berley on January 23, 1979, stating that Levin "plans to hold you accountable." Levin knew about this letter. Under the "notice" approach, the issuance of this letter served as the starting point for the statute of limitations period. Levin filed his claim against Berley on October 12, 1982, which was beyond the three-year statute of limitations period. The court refused to apply either the April 9, 1981, Tax Court decision or the court of appeals' later affirmation as the starting date. The court also rejected Levin's attempt