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Loaning money to family members is rife with perils, both for the giver and for the receiver.
Sibling squabbles can spark either side to regard the transaction as unfair. If a family member falls on hard times, the lender might not get paid back. And the IRS can take a dim view of things if it suspects the deal is a disguised present intended to evade taxes.
Throw in a board director at Bank of America, a contentious divorce, multimillion-dollar apartments in Manhattan and Chicago, handwritten notes never intended for public eyes and hints of potential mortgage fraud perpetrated on JPMorgan Chase and Morgan Stanley, and things get ugly.
That’s what is unfolding with an affluent Chicago couple in the midst of splitting up. The legal drama centers on R. David Yost, an independent director at Bank of America and a former CEO of the drug wholesaler AmerisourceBergen. As the dispute plays out in a federal court, it’s highlighting the thorns embedded in a favorite estate planning strategy used by the wealthy to transfer money to their heirs.
In September 2020, Yost sued his son-in-law, Morgan Carroll, in federal district court in Chicago to demand repayment of more than $8 million in loans he made to the couple years earlier. Only three months earlier, Yost’s daughter, Anne, had filed for divorce from Carroll.
Last fall, son-in-law Carroll fired back. In a counterclaim filed against Yost in September 2021 in the same case, Carroll asserted that the monies weren’t loans but instead disguised gifts that Yost made in order to evade federal taxes.
“As that famous philosopher Scooby-Doo would say, ‘ruh roh,'” Joel Crouch, an estate planning and business lawyer at the law firm Meadows Collier in Dallas, wrote in a blog post about the case.
The Bank of Mom and Dad
Intrafamily loans, in which one family member lends money to another in exchange for a promissory note to pay the money back, are often used to help an heir buy a home or start a business. For loans of $10,000 or more, the lender must charge a minimum interest rate, document things and require repayments. The rate can’t be lower than the applicable federal rate , a gauge that changes monthly and is around 1.9% for long-term loans as of February 2022. The gift tax ranges from 18% to 40% , depending on the giver’s taxable income.
With the interest paid to a family member, not to a bank, and required rates at historic lows that are well below those of banks, it’s a super-cheap way for a younger generation to access money. This year, an individual can gift another person up to $16,000 a year — that’s per person, so gifts to various people can be made — without reporting it to the IRS or potentially owing tax on the transfer.
What’s known colloquially as “The Bank of Mom and Dad” helped family members buy $317 billion worth of U.S. property in 2018, according to a study by Legal & General Group, a financial services firm in London. The private loans are also a way for parents to move money out of their taxable estates. The 40% gift and estate tax kicks in when a deceased individual’s estate holds just over $12 million (over $24 million for married couples). Loaning money to a family member reduces the assets that can get hit with the tax.
The IRS scrutinizes a taxpayer’s documentation of a loan carefully to make sure that it’s not a gift in disguise intended to evade gift and estate taxes. Taxpayers report interest received on their federal income tax returns.
Crouch said that the tax agency is adept at rooting out disguised gifts and unfiled gift tax returns. In the case of the Yost-Carroll family drama, public court papers may make that process easier — or more complicated.
‘The Bank of Yost’
In September 2020, Yost sued Carroll for repayment of two loans, plus more than $1.2 million in interest. According to his breach of contract claim, Yost loaned Carroll and wife, Anne, $2.5 million in 2015 and $4.5 million in 2016. Promissory notes in court papers showed that the couple agreed to pay back Yost with 4% interest.
“The Bank of Yost is open for assistance, and both Mom and I are strong advocates of stretching on the personal real estate front to enhance your standard of living,” Yost emailed his daughter and her husband in 2014, court papers show. Regarding the promissory notes, Yost added in the email, “Sorry, that this all sounds so impersonal, but the formality may be necessary in a tax audit.”
The couple made no payments on the two notes.
While Yost’s lawsuit says the loans were to the couple, it doesn’t name his daughter Anne as a defendant.
“Ultimately, these are promissory notes that are jointly and severally liable, so you can sue one party, the other or both,” said Bonita Stone, a lawyer for Yost at Katten Muchin Rosenman in Chicago.
Kara Allen, a lawyer for Carroll at the Gutnicki law firm in Skokie, Illinois, did not respond to requests for comment. Nor did spokespersons for Bank of America.
Nuclear family meltdown
In his counterclaim against his father-in-law and his soon-to-be-ex-wife, Carroll claimed that the two loans were, in fact, gifts. Neither side ever intended for them to be repaid. Alleging fraudulent misrepresentation, Carroll, an executive at digital marketing firm Digitas, asserted that Yost made additional wink-nod transactions that were cast as loans but were actually tax-evading cash flows for the couple to bankroll expensive apartments in New York and Chicago. His explosive allegations were accompanied by copies of family emails.
Carroll cited $475,000 given to his wife, Anne, by her father in July 2003 in exchange for a promissory note. The note, Carroll alleged, was a disguised gift for Anne to buy an apartment in Manhattan’s Chelsea neighborhood. Its purpose, he alleged: For Yost “to avoid having to pay taxes to the United States Treasury.”
The son-in-law’s filing surfaced other purported family dirt. Court papers show that Yost scrawled a message on an AmerisourceBergen notepad to his daughter in 2003 that said, “Annie, attached is a very simple promissory note for you to sign so that the money for your apartment does not count as a gift, for which gift taxes have to be paid.” Yost signed the note with a cryptic squiggly drawing.
Carroll’s counterclaim also included another email to Anne and Carroll in 2015, in which Yost wrote that the promissory notes “were to keep things ‘even’ among the sisters [Anne and her sisters], with final ‘settlement’ of the notes with all daughters occurring at my death, with the daughters with smallest notes outstanding getting the difference in cash.” Crouch of Meadows Collier said in an interview that the language suggested that Yost had potentially done similar wink-nod loans for Anne’s siblings.
Carroll alleged that starting in 2009, he and Anne used the money from Yost to buy real estate, including a $2.7 million apartment in Manhattan’s Gramercy Park neighborhood. By 2014, the couple decided to move to Chicago. They sold the Gramercy Park apartment for $5.6 million that year and bought a $3.4 million townhouse in Chicago’s Lincoln Park neighborhood. In 2016, they bought a $3.5 million townhouse in Lincoln Park. Yost loaned the couple $4.5 million for the purchase price and renovations.
Carroll alleged that his wife, Anne, didn’t disclose the promissory notes as liabilities in a residential mortgage application with Morgan Stanley’s private bank. He also alleged that Anne didn’t disclose the notes in a 2012 mortgage application with JPMorgan Chase, but it’s not clear from court papers which residence that covered. The counterclaim added that should Carroll be forced to pay back his father-in-law, it would only boost his soon-to-be-ex-wife’s inheritance, due to her prior arrangements with her father.
‘Unusual’ and ‘troubling’
In a memorandum and order on Jan. 20, 2022, magistrate judge Jeffrey Cole of the Northern District of Illinois’s Eastern Division in Chicago wrote that “this, it must be said, is an unusual and perhaps troubling case.”
The judge’s decision dismissed Carroll’s counterclaim against Yost, in part by saying that Carroll had contradicted himself in asserting that the loans wouldn’t have to be repaid had he and Anne stayed married. That “it was the divorce action that triggered the present situation is clear from the pleadings in the case,” Cole wrote. Still, the judge wrote, “to put it colloquially, there is a good deal of smoke here, and Carroll should be allowed to adequately allege there is fire.”
Then the judge unleashed on the other parties. By not listing the notes as liabilities on mortgage applications but declaring them as liabilities in her ongoing divorce proceedings, Anne, he wrote, “had her proverbial father’s cake and ate it, too.” He added that “depending on the circumstances, there may be some concern over laws relating to bank fraud.”
Judge Cole also took Yost to task.
“It was Mr. Yost who brought the family’s dirty laundry to federal court, and given the repeated allegations by Mr. Carroll of an attempt by Mr. Yost to evade gift taxes — not to mention the fact that the tax-payers are, in effect, subsidizing this case — the needle on the “chutzpah” detector would seem to point to Mr. Yost perhaps as much as it does to Mr. Carroll — depending, of course, on the truthfulness of the allegations by Mr. Carroll.” Judge Cole added that “where the truth lies remains to be seen.”
Yost’s lawyer, Stone, said the case was continuing, with a March 7 video hearing scheduled on the pace of depositions and discovery. Meanwhile, she added, Anne and Morgan Carroll’s split is still wending its way through an Illinois state court.
Crouch said that the case was becoming the talk of estate planning lawyers for the affluent. “If what the son-in-law is saying is true, Yost needs to clean this up quickly,” he said. So do the other parties, he added. Under IRS rules, a recipient of a gift can be liable for unpaid gift tax.
Crouch wrote in his
on Jan. 31 that “based on the court’s order, the IRS, and possibly the Department of Justice, could be making inquiries of the parties soon.” What’s clear, he said in the interview: “They need to get that divorce over. Somebody’s going to have to approach the IRS and do some sort of voluntary disclosure.”