Rev. Rul. 83-81

1983-1 C.B. 230.

                       Internal Revenue Service
                                 Revenue Ruling

       CLAIMS AGAINST ESTATE;  UNPAID MORTGAGE;  FARM;  SPECIAL USE VALUE

                            Published: May 23, 1983

26 CFR 20.2053-7: Deduction for unpaid mortgages

(Also Section 2032A; 20.2032A-3.)

  Claims against estate;  unpaid mortgage;  farm;  special use value.  A mortgage for which the decedent's estate is liable is fully deductible under section 2053 of the Code if all of the secured property is included in the gross estate, even though the property has been valued in a section 2032A election.

ISSUE

  For purposes of section 2053(a)(4) of the Internal Revenue Code, what amount of an unpaid mortgage, for which the decedent was personally liable and which is enforceable against the property of the estate, is allowable as a deduction when the property subject to the mortgage is valued as qualified real property under section 2032A?

FACTS

  D, the decedent, died in 1981 owning a farm that was entirely included in D's gross estate.  The value of the property, based on the special use value (farm use), was 600x dollars.  The fair market value of the farm was 1,000x dollars. When D died, the farm was subject to a mortgage in the amount of 700x dollars, for which D was personally liable.  The indebtedness is enforceable against other property of the estate not subject to the mortgage.

  On the federal estate tax return filed for D 's estate, the executor elected under section 2032A of the Code to value the farm based on its special use value of 600x dollars.  The executor claimed a deduction of 700x dollars for the mortgage debt, under section 2503(a)(4).

LAW AND ANALYSIS

  Section 2031(a) of the Code provides that the value of the gross estate shall be determined by including the value at the time of the decedent's death of all property, real or personal, tangible or intangible, wherever situated.

  Section 20.2031-1(b) of the Estate Tax Regulations provides that the value of every item of property includible in a decedent's gross estate is its fair market value at the time of the decedent's death.

  Under section 2032A of the Code, if certain requirements are satisfied, the executor may elect to value real property, used for farming purposes, as qualified real property (based on the property's value as a farm) rather than at its fair market value (based on its highest and best use).  Section 2032A(a)(1) provides that for purposes of the Estate Tax Chapter the value of the qualified real property is its special use value.

  Under section 2053(a)(4) of the Code, a deduction from the value of the gross estate is allowed for the amount of unpaid mortgage on property where the value of the decedent's interest therein, undiminished by the mortgage, is included in the value of the gross estate.

  Section 20.2053-7 of the regulations provides that a deduction is allowed from a decedent's gross estate of the full unpaid amount of a mortgage upon any property of the gross estate provided the value of the property, undiminished by the amount of the mortgage, is included in the value of the gross estate. If the decedent's estate is liable for the amount of the mortgage, the full value of the property subject to the mortgage must be included as part of the value of the gross estate and the amount of the mortgage is allowed as a deduction.

  The legislative history considering the predecessor statute of section 2053(a)(4) states that the provision requiring the inclusion of the value of the decedent's interest in the property ensures that "in order for a mortgage to be deducted, the full value of the mortgaged property must be included in the gross estate." [Emphasis supplied.]  H.R.Rep. No. 708, 72nd Cong., 1st Sess. (1932), 1939-1 (Part 2) C.B. 491;  S.Rep. No. 665, 72nd Cong., 1st Sess. (1932), 1939-1 (Part 2) C.B. 533.

  The section 2053(a)(4) and section 20.2053-7 provisions requiring inclusion of the full value of the mortgaged property are considered in Estate of Fawcett v. Commissioner, 65 T.C. 889 (1975).  In Fawcett, a deduction for the total indebtedness in respect of property was taken on the decedent's federal estate tax return.  However, the decedent had transferred one-half of the property during his lifetime and, therefore, only one-half of the mortgaged property was included in the gross estate.  Quoting the legislative history discussed above, the court held that only one-half of the total indebtedness could be deducted because only one-half of the property securing the debt was included.  See also Estate of Courtney v. Commissioner, 62 T.C. 317 (1974).  Under Fawcett and Courtney, the section 2053(a)(4) and section 20.2053-7 requirement of property inclusion results in the allowance of a mortgage deduction in an amount corresponding to the quantum, or portion, of the mortgaged property owned by the decedent;  that is, if less than the entire mortgaged property is included in the gross estate, only the portion of the mortgage indebtedness corresponding to the portion of the decedent's interest in the property is deductible even though the decedent was personally liable for the full indebtedness and the mortgage is enforceable against other property of the estate.

  Before section 2032A was enacted, the value of the farm property included in the gross estate was the fair market value at the decedent's death.  An important factor in determining fair market value is the highest and best use to which the property can be put. H.R.Rep. No. 94-1380, 94th Cong., 2nd Sess. 21, 1976-3 (Vol. 3) C.B. 735, 755.  Under section 2032A, qualifying farm property is valued on the basis of a statutory formula rather than on the basis of the highest and best use.  This formula valuation generally results in a reduced value of the included property, which equals only a portion of the fair market value that would otherwise be determined on the basis of highest and best use.  See H.R.Rep. No. 94-1380, above cited, 22, 1976-3 (Vol. 3) C.B. 756.  Nonetheless, valuation of property under section 2032A does not diminish the quantum of the interest included in the gross estate.  Rather, the section 2032A valuation merely affects the manner in which the included property is valued for estate tax purposes.  Consequently, for purposes of section 2053(a)(4), a deduction for an unpaid mortgage (on which the decedent was personally liable) is allowable for property valued under section 2032A in an amount corresponding to the quantity of the mortgaged property that is included in the gross estate.

  In this case, because the entire farm was included in D's gross estate, the full value of the mortgaged property was included, for purposes of section 2053(a)(4), even though the section 2032A value of the farm was equal to sixty percent of the property's fair market value.  Inasmuch as 1) the full value of the property was included in D's gross estate (unlike the situations in Fawcett and Courtney), and 2) D was personally obligated for the amount of the mortgage and the mortgage is enforceable against other property of the estate, the entire unpaid mortgage of 700x dollars is allowed as a deduction.

HOLDING

  For purposes of section 2053(a)(4) of the Code, the full amount of an unpaid mortgage, for which the decedent was personally liable and which is enforceable against other property of the estate, is allowable as a deduction when the entire mortgaged property is included in the decedent's gross estate and valued as qualified real property under section 2032A.  If only a portion of the mortgaged property is included in the gross estate, then only a corresponding portion of the unpaid mortgage may be deducted.

Rev. Rul. 83-81, 1983-1 C.B. 230.