Another Valuation Win in Court for Taxpayers?

A few months back, I wrote a blog post about a gift tax case (Kress) out of Green Bay, Wisconsin, involving the valuation of shares in Green Bay Packaging, Inc., an S-Corporation. That case included a key issue related to the treatment of income tax burden in valuing a pass-through entity using a Discounted Cash Flow model. The court found that tax-affecting the income stream of a pass-through entity was appropriate in determining the net cash flow to be used in a valuation model. Looking at this very simplistically, a cash flow stream that is reduced for income taxes (similar to a C-Corporation) produces a smaller net cash flow, and thus a smaller valuation, when compared to a cash flow stream that is not burdened by taxes.

Now we have yet another case in which the court upheld the use of a tax-affecting methodology in valuing a pass-through entity. This time in both the S-Corporation and limited partnership space. Another issue at play in this case was the magnitude of the weighting of different valuation approaches, the income approach vs. the asset approach.

valuing a pass-through entity

Case Background:
Aaron Jones had owned and operated a lumber manufacturing business in Eugene, Oregon since it’s founding in 1954. The business was organized as an S-Corporation beginning in 1986. Mr. Jones also owned a limited partnership that held the timberlands, which essentially acted as lumber manufacturing company’s inventory. Mr. Jones gifted shares in the S-Corporation and partnership interests in the limited partnership to his three daughters in 2009 and filed gift tax returns for these gifts with value totaling around $21 million. The value of the gifts was then challenged by the IRS to the tune of a $45 million deficiency notice as the IRS stated the gifts were worth just shy of $120 million. Ultimately, the Jones Estate’s appraiser prevailed in valuing the gifts at $24 million, slightly higher than the gift tax returns stated as originally filed.

Key Issues:

  • Was the income approach or asset approach more appropriate when valuing the limited partnership holding the timberlands?
  • Is tax-affecting the benefit stream of both companies (pass-through entities) under the income approach appropriate?


  • As both businesses were expected to continue to operate, the income approach was deemed to be more appropriate and thus received higher weighting than the asset approach. This is based on the idea that a hypothetical buyer would continue to operate the business and would not liquidate the timberland. The court sided with the Jones Estate’s appraiser here.
  • Tax-effecting the benefit stream makes sense in valuing an S-Corporation and a limited partnership as a hypothetical buyer of these entities would take into consideration the taxes that would need to be paid at the individual shareholder/partner level. It should be noted that the Estate’s appraiser did apply an S-Corporation premium of 22% after the benefit stream was tax-affected to account for the benefit of avoiding double taxation (deemed the “dividend tax”) that S-Corporations allow and it was unlikely that a hypothetical buyer would do anything that would cause the S election to be revoked. The court also sided with the Jones Estate’s appraiser on this issue.

Here we have another case in which the court says tax-affecting is okay for pass-through entities and also provides some additional support for the income approach in going concern businesses. This case appears to put another checkmark in the win column for taxpayers this summer.