Estate Valuation Disputes with the IRS

The estate tax is a tax on value. Change the value of a waterfront lot, a family business, or a partnership interest by a few million dollars and the tax moves by hundreds of thousands. That is why the IRS spends most of its estate examination effort on valuation, and why executors who get valuation right rarely have much of a fight.

The legal standard

IRC 2031 includes in the gross estate the value of all property at the time of death. Treas. Reg. 20.2031-1(b) defines that value as fair market value: the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts.

That hypothetical buyer and seller are the whole game. They are not the family. They are not the heir who loves the house. They are rational market participants who look at what the property actually is, including its flaws, restrictions and risks.

For a closely held business, Treas. Reg. 20.2031-3 directs a fair appraisal considering the net value of assets, demonstrated earning capacity, and other relevant factors. For publicly traded securities, value is set mechanically from trading prices. Everything in between needs an appraiser.

Where disputes come from

• Real estate with few true comparables. Gulf-front homes on Siesta Key or Casey Key, large acreage, and commercial property are classic examples.
• Closely held businesses. Choice of method, normalization of earnings, and the treatment of owner compensation all move value.
• Entity interests and discounts. A 30 percent interest in a family LLC that owns real estate is not worth 30 percent of the real estate. How much less is the argument.
• Unique assets. Art, collectibles, private notes, royalties, and intellectual property.
• Self-reported values. Values pulled from a county tax roll, an online estimate, or an old appraisal from years before death.

A word about Florida property tax values

Executors often reach for the county property appraiser's just value. It is convenient and official-looking. It is also the wrong tool. County values serve property tax administration, are set as of January 1, and reflect mass appraisal methods. For homestead property, the assessed value under Florida's caps can be far below market.

The IRS knows that. An estate that reports a Sarasota home at its assessed value is inviting an adjustment. Get a qualified appraisal as of the date of death.

What makes an appraisal hold up

The Form 706 instructions call for appraisals supporting the values reported. A strong appraisal:

1. Is prepared by an appraiser with credentials and experience in the specific asset type.
2. Values the property as of the date of death, or the alternate valuation date if elected.
3. Describes the property in detail, including physical condition, legal restrictions, and economic factors.
4. Explains the method chosen and why other methods were rejected.
5. Uses real data for comparables, capitalization rates, and discounts, and shows its work.
6. Reconciles the results into a single conclusion with reasoning a reader can follow.

The appraisals that fail usually fail on items 4 and 5. Conclusions without reasoning get replaced by the IRS reviewer's conclusions.

Appraisers have skin in the game too. IRC 6695A imposes a penalty on an appraiser whose appraisal results in a substantial or gross valuation misstatement. Good appraisers know that and document accordingly.

Discounts

Discounts for lack of control and lack of marketability are legitimate tools grounded in the willing buyer standard. A buyer of a minority interest cannot force distributions, sell the underlying property, or control management. A buyer of an interest in a private company cannot sell it on an exchange tomorrow. Both facts reduce what a buyer would pay.

The IRS does not dispute that discounts exist. It disputes their size, and it scrutinizes entities formed shortly before death or holding only passive assets. The appraiser should support each discount with market data and explain how the specific governing documents affect control and transferability.

Alternate valuation under IRC 2032

IRC 2032 allows the executor to value the gross estate as of six months after death instead of the date of death. If property is sold or distributed within the six months, its value on that date is used.

The election is limited. Under IRC 2032(c), it is available only if it reduces both the value of the gross estate and the combined estate and generation-skipping transfer tax. It must be made on the Form 706, it applies to all property in the estate, and it cannot be made on a return filed more than one year after the due date, including extensions. Remember that it also lowers the income tax basis heirs receive.

Special use valuation for farms and business real estate

IRC 2032A offers another valuation option for qualifying real property used in farming or a closely held business. Instead of valuing the land at its highest and best use, the executor can elect to value it based on its actual use, if the decedent and family meet the statute's ownership, use and participation requirements and the qualified heirs agree to recapture rules. The reduction is capped. For decedents dying in 2026, Rev. Proc. 2025-32 limits the aggregate decrease in value from 2032A to $1,460,000. In Manatee and DeSoto County agricultural land under development pressure, that election can matter.

Valuation penalties

IRC 6662(g) defines a substantial estate or gift tax valuation understatement as a value claimed on the return that is 65 percent or less of the amount determined to be correct. The penalty is 20 percent of the resulting underpayment. Under IRC 6662(h), a gross valuation misstatement, meaning a value claimed of 40 percent or less of the correct amount, doubles the penalty to 40 percent. Under IRC 6662(g)(2), the penalty applies only if the underpayment attributable to the understatement exceeds $5,000.

Reasonable cause and good faith under IRC 6664(c) is a defense. Reliance on a qualified appraisal by a qualified appraiser, where the executor provided complete information and had no reason to doubt the result, is the most common basis. Reliance on a guess is not. See estate tax penalties and reasonable cause.

Fighting a proposed adjustment

When an examiner proposes a higher value, the estate's options track the normal exam process described in what happens in an estate tax audit:

• Have the original appraiser respond to the IRS reviewer's critique in writing.
• Commission a review appraisal if the original has real weaknesses.
• Protest unagreed adjustments to the IRS Independent Office of Appeals, where hazards of litigation drive settlement.
• If necessary, petition the Tax Court after a notice of deficiency.

Valuation disputes settle more often than most tax disputes, because both sides understand that a court may land anywhere between two credible appraisals.

Values reach beyond the 706

Heirs generally take an income tax basis equal to date-of-death value under IRC 1014. Under the consistency rule in IRC 1014(f), for property whose inclusion increased the estate tax, that basis cannot exceed the value finally determined for estate tax, and IRC 6035 requires the executor to report those values on Form 8971. A lower estate value saves estate tax but raises capital gains later. For an estate below the 2026 basic exclusion of $15,000,000 that owes no estate tax, a higher, well-supported value may actually help the family. See Form 706 deadlines and Form 8971.

Gift values work the same way. Gifts disclosed adequately on a Form 709 can become final when the gift tax statute runs. See adequate disclosure and the gift tax statute.

If the IRS is challenging the value of an estate asset, call (813) 229-7100. Let's talk.