U.S. Supreme Court Grants Petition for Writ of Certiorari in Trust-Level State Income Tax Case

North Carolina Department of Revenue, Petitioner v. The Kimberley Rice Kaestner 1992 Family Trust, 814 S.E.2d 43 (N.C. 2018)

U.S. Supreme Court Grants Petition for Writ of Certiorari in Trust-Level State Income Tax Case

Author: Megan Neal of McDonald & Kanyuk PLLC

On October 9, 2018, the North Carolina Department of Revenue (“NC DOR”) filed a Petition for Writ of Certiorari to the U.S. Supreme Court, appealing the decision of the North Carolina Supreme Court in North Carolina Department of Revenue, Petitioner v. The Kimberley Rice Kaestner 1992 Family Trust, 814 S.E.2d 43 (N.C. 2018) (“Kaestner”).  The NC DOR asked whether the existence of a resident beneficiary of a non-grantor trust can trigger a trust-level state income tax within the state of the beneficiary’s residence.  On January 11, 2019, the U.S. Supreme Court granted the NC DOR’s Petition.

In Kaestner, the trust at issue was created by a New York resident grantor and was governed by New York law.  The trustee was a resident of Connecticut.  All books and records were kept, and all tax returns and accountings were prepared, in New York.  No beneficiary resided in North Carolina until years after the trust’s creation.  All of the trust’s assets consisted of financial investments that were kept in Boston.  The trust gave the trustee full discretion and no distributions had been made.  The North Carolina resident beneficiary received accountings and legal advice from the trustee and his firm and travelled to New York to discuss investment opportunities for the trust.  North Carolina taxed the trust on its accumulated income.  The trust paid the tax but sought a refund.  After the NC DOR denied its refund request, the trust filed a complaint alleging that the North Carolina tax violated the due process clause of the 14th Amendment and the Commerce Clause of the U.S. Constitution.  The Business Court held that taxation of the trust was unconstitutional and ordered that the trust be refunded with interest.  The NC DOR appealed the Business Court’s decision to the North Carolina Court of Appeals, which affirmed the Business Court’s decision, but the NC DOR appealed again.

The North Carolina Supreme Court ultimately determined that the trust at issue did not have sufficient minimum contacts with North Carolina to satisfy due process requirements.  Minimum contacts require “the taxed entity [to] ‘purposefully avail itself of the benefits of an economic market in the taxing state’…”. Kaestner, 814 S.E.2d at 48. Simply put, a taxed entity’s minimum contacts cannot be established by a third party’s minimum contacts with the taxing state, and, here, mere contact with a North Carolina beneficiary does not constitute purposeful availment of North Carolina’s benefits and protections.

To date, the U.S. Supreme Court has been silent on whether a trust-level state income tax based solely on the residence of its beneficiaries comports with due process.  The Petition states, “[t]here is now a direct split spanning nine states. Four state courts have held that the due process clause allows states to tax trusts based on trust beneficiaries’ in-state residency.  Five state courts, including two state supreme courts …have concluded that due process forbids these taxes.”  The due process clause should not have different meanings in different states.

Practitioners should keep a keen eye out for the U.S. Supreme Court’s decision.  Any U.S. Supreme Court decision will assuredly have a substantial impact on planning to minimize trust-level state income tax.

February 26, 2019 Lunch re: Pro Bono Opportunities with Veterans Legal Services

The Trusts & Estates Consortium (“TEC”) is inviting trusts and estates attorneys to lunch to meet with attorney Lynn Girton from Veterans Legal Services (“VLS”) to hear about volunteer opportunities to provide pro bono estate planning services to veterans in need. Please contact Jennifer Civitella Hilario at [email protected] if you can attend.

When:  February 26th 2019 from 12pm-1pm

Where: John Hancock, 197 Clarendon Street, Boston MA

83 Fed. Reg. 59343 – IRS Releases Proposed “Anti-Clawback” Regulations

83 Fed. Reg. 59343

IRS Releases Proposed “Anti-Clawback” Regulations

Author: Paul Cathcart of Hemenway & Barnes LLP

Public Law 115-97, commonly known as the Tax Cuts and Jobs Act (“TCJA”), temporarily doubles the basic exclusion amount for gifts made and decedents dying between 2018 and 2025, inclusive.  See I.R.C. § 2010(c)(3)(C).  What TCJA did not address was whether gifts made during that period that are above the single-exclusion amount but below the double-exclusion amount and, therefore, gift-tax free might nevertheless generate estate tax if the individual dies after 2025,.  See I.R.C. § 2001(b).  Practitioners have called this the possibility of “clawback.”

In the TCJA, Congress appeared to direct that “clawback” be avoided by the promulgation of “such regulations as may be necessary or appropriate to carry out [I.R.C. § 2001]” with respect to any difference between the basic exclusion amount for the year of any gift and the basic exclusion amount for the year of death.  I.R.C. § 2001(g)(2).  Such an anti-“clawback” regulation has now been proposed. 83 Fed. Reg. 59343 (Nov. 23, 2018).  The proposed new subsection of Treas. Reg. § 20.2010-1 would effectively provide that if the sum of the basic exclusion amounts allowed against the decedent’s prior taxable gifts exceeds the statutory basic exclusion amount for the year of the decedent’s death, the decedent’s basic estate tax exclusion amount is the larger of the two.  The effect would be to increase the decedent’s basic estate tax exclusion amount to the extent necessary to shelter any gifts that did not generate tax when they were made but would otherwise have generated tax in the decedent’s estate.

The proposed new subsection involves only “basic exclusion amounts” and does not involve or affect the computation of any deceased spousal unused exclusion amount (“DSUE”).  Under the proposal, exclusion would not be allowed against lifetime gifts “off the top,” so the additional exclusion amount allowable between 2018 and 2025 would remain “use it or lose it.”

The preamble to the proposal also expresses the agency’s view that no regulation is needed to address so-called “reverse clawback” because, under the existing statutes, the additional exclusion allowable between 2018 and 2025 is not offset by prior gifts that generated tax.

Comments on the proposal are due by February 21, 2019.  Outlines of topics for discussion may also be submitted by the same due date, in which case a public hearing will be held on March 13, 2019.

PLR 201825003 – IRS Determines Conditional Transfer of a Remainder Interest a Completed Gift

PLR 201825003

IRS Determines Conditional Transfer of a Remainder Interest a Completed Gift

Author: John H. Ramsey of Goulston & Storrs

In PLR 201825003, released June 22, 2018, the IRS considered whether the transfer of a remainder interest in a collection of artwork to two foreign museums was a completed gift for gift tax purposes. In this case, a favorable ruling would have been that the transfer did not constitute a completed gift.

Upon the death of the taxpayer’s spouse, the taxpayer transferred (i) legal title, (ii) naked ownership and a (iii) remainder interest in an art collection to the museums. The taxpayer retained a life interest in the artwork, but retained no right to transfer title to the collection.  The transfer was dependent on receiving a favorable ruling from the IRS and several conditions subsequent, each of which was not within the taxpayer’s control.

Nevertheless, the IRS concluded that the transfer of the remainder interest was a completed gift (see Section 2501 of the Internal Revenue Code, Regs Section 25.2511-2(b) – requiring no dominion and control of property nor any retained interest by the taxpayer; taxpayer has no power to change the disposition).  In this case, the IRS concluded that a completed gift would be made because the taxpayer did not retain sufficient rights to change the disposition of the property.

Importantly, though this topic was not discussed in the letter ruling, the transfer described would not qualify for a charitable income tax deduction, as contributions to foreign charities generally do not qualify for the income tax deduction and a gift of a future interest in tangible personal property is considered made only when all intervening interests have expired under Section 170(a)(3) of the Code. In addition, the gift would not qualify for the gift tax charitable deduction, as the taxpayer retained an interest in the transferred property and the gift was not structured as a qualifying charitable remainder trust or guaranteed annuity, as described in Section 2522(c)(2) of the Code.  Therefore, despite making a completed gift for gift tax purposes, the taxpayer would be left with no offsetting deduction.

The full PLR can be found at: https://www.irs.gov/pub/irs-wd/201825003.pdf.


Coming in as a Successor Trustee – Releases and Best Practices

Program Date: Friday, November 2, 2018

Speakers: Gerald Baker of Boston Private and Stacy K. Mullaney of Fiduciary Trust Company

Program ChairsDanielle Greene of Boston Private and Susan A. Robb of First Republic

Materials: Click here for the speakers’ handouts.

Program Topic:  This program provided discussion of liability and exposure considerations for fiduciaries in connection with the acceptance of appointments as successor trustee. The speakers assessed risks and identified options for individual and corporate fiduciaries coming in as successor trustees.

PLR 201834011 – Consequences (or Lack Thereof) of Divisions and Gift of QTIP Income Interest

PLR 201834011

Consequences (or Lack Thereof) of Divisions and Gift of QTIP Income Interest

Author: Kevin Ellis of Hemenway & Barnes LLP

In PLR 201834011, released August 24, 2018, the Internal Revenue Service ruled that a surviving spouse’s division of a Qualified Terminable Interest Property (“QTIP”) Trust, and her subsequent non-qualified disclaimer of the interests of one of the resulting trusts to a charitable remainder beneficiary, has no adverse income, estate or gift tax consequences.

The decedent’s spouse (the “Spouse”) was the beneficiary of a traditional Marital Trust (on which a QTIP election was made) (the “QTIP Trust”). The Spouse proposed, by court-approved agreement, to split the single QTIP Trust into two trusts on a non-pro rata basis, and thereafter to disclaim her interest in one of the two resulting trusts. The underlying trust provided that if the Spouse disclaimed an interest in the QTIP Trust, the disclaimed interest would pass to a charitable trust.

At issue in the PLR were the following:

  1. Would the division of the QTIP Trust trigger any gain recognition or loss?
  2. Would the resulting trusts, after the division, still qualify as QTIP trusts?
  3. Would the deemed gifts from the Spouse’s disclaimer of her interests in one resulting trust qualify for the gift tax charitable deduction?
  4. Would such a gift of the assets of one of the resulting trusts remove those assets from the Spouse’s gross estate?
  5. Would the disclaimer as to one of the resulting trusts also cause a deemed gift of the other, non-disclaimed trust (of which the Spouse continued to be the sole income beneficiary)?
  6. Would the disclaimer cause the Spouse’s retained interest in the non-disclaimed trust to be valued at zero under IRC § 2702 (and presumably cause a deemed gift as a result)?

The IRS’s ruling was favorable to the taxpayer on all accounts. The ruling bifurcated the proposed transaction – first, the division of the QTIP Trust into two resulting trusts, and next, the subsequent gift of interests in one of those trusts. The IRS ruled that:

  1. The non-pro rata division of the QTIP Trust into two resulting trusts (one of which the Spouse would disclaim) would not cause a recognition of any gain or loss under IRC §61 or §1001 because the same beneficiary – the Spouse – held the same interests in the QTIP Trust before and after division.
  2. The division of the QTIP Trust would not disqualify the two resulting trusts from continued treatment as QTIP trusts. The terms of the resulting trusts mirrored those of the QTIP Trust, and the Spouse continued to be the sole income beneficiary, with a qualifying lifetime income interest in both resulting trusts.
  3. The Spouse will be treated as having made a gift of her income and remainder interests in the disclaimed resulting trust, and such a gift qualifies for the gift tax charitable deduction (because the disclaimed assets pass to a charitable trust). It is important to note that IRC §§ 2511 and 2519, together, provide that when a spouse makes a gift (or makes a non-qualified disclaimer, which is treated like a gift) of her income interest in a QTIP trust, she is deemed to have made a gift of the entire property of such QTIP trust – even though she only had an income interest in the property. In this case, that gift of the entire interest was not an issue because the gift tax charitable deduction allowed for deductibility of the entire gift.
  4. The assets of the disclaimed trust are deemed to have been transferred under IRC §2519, and as a result will not be included in the Spouse’s gross estate under IRC §2044(a).
  5. Following on the IRS’s treatment of the transaction as two separate steps, the deemed gift of the assets of one resulting trust would not cause a deemed gift of the assets of the retained resulting trust under IRC §2519 because the two trusts were to be treated as distinct, separate trusts.
  6. Building on the findings in (4) and (5), the IRS concluded that the Spouse’s disclaimer of the assets in one resulting trust will not cause her interest in the retained trust to be valued at zero under IRC §2702, again because the two trusts were distinct and separate from each other.

The full PLR can be found at: https://www.irs.gov/pub/irs-wd/201834011.pdf


IRS Notice: 2018-61 – Effect of IRC Section 67(g) Costs Paid or Incurred in the Administration of an Estate or Trust

IRS Notice: 2018-61 – Effect of IRC Section 67(g)

Costs Paid or Incurred in the Administration of an Estate or Trust

Author: Kerry Reilly of K. Reilly Law LLC

Section 67(g) was enacted as part of the Tax Cuts and Jobs Act, December 22, 2017. That section disallows the itemized miscellaneous deductions exceeding the 2% floor for tax years beginning after December 31, 2017 and ending January 1, 2026.

Generally, the Adjusted Gross Income (AGI) of a trust or estate is calculated the same way for those entities as it is for an individual (Section 67(e)), which would support the disallowance of the above deductions. However, exceptions are provided under Section 67(e)(1) for costs paid or incurred for transactions that would not have been otherwise incurred if the property was not held in a trust or estate (see Regulations Section 1.67-4). Additionally, deductions allowed under Sections 642(b), 651 and 661 shall continue to be allowed for trusts and estates in determining AGI (Section 67(e)(2)).

The Notice highlights that it is the “type of service” that is determinative for whether it is an allowed deduction solely as a result of the trust or estate framework or would continue to be incurred regardless of the entity (includible – IRS Form 1041, 706, decedent’s final 1040 versus Form 706, property maintenance costs – not includable (see Regs. Section 1.67-4(b) and (c))).

The Notice goes on to say that “nothing in Section 67(g) affects the ability of the estate or trust to take a deduction listed under Section 67(b),” and that the Treasury and IRS will be issuing regulations to that effect.

Lastly the Notice asks for comments on Section 67(g) as it relates to a beneficiary’s ability to deduct Section 67(e) expenses upon the termination of a trust or estate pursuant to Section 642(h).

The full text of the Notice can be found at: https://www.irs.gov/pub/irs-drop/n-18-61.pdf


Estate and Income Tax Planning for “Small” Estates (Now Under $11 Million!)

Program Date: Thursday, April 26, 2018

Speakers: Paul M. Cathcart, Jr. and Charles R. Platt of Hemenway & Barnes LLP

Program ChairsHeidi A. Seely of Rackemann, Sawyer & Brewster and David L. Silvian of Day Pitney LLP

Materials: Click here for the speakers’ handout.

Program Topic:  This program discussed estate tax and basis step-up planning choices for Massachusetts residents who expect to be subject to state, but not federal estate tax—those with assets between about $1 million and $11.2 million per person.  The program provided an overview of the current law and focused on opportunities for income-tax basis planning and Massachusetts estate tax planning.

The Philanthropic Enterprise Act of 2017 (a/k/a “Newman’s Own Exception”)

By: Nikki Marie Oliveira, Esq., Bass, Doherty & Finks, P.C.

On February 9, 2018, the Philanthropic Enterprise Act of 2017 (the “Act”) was signed into law as part of the Bipartisan Budget Act of 2018. The Act addresses excess business holdings and allows private foundations to own for-profit businesses in certain circumstances.  Under the prior law, such ownership was forbidden, which was in place for public policy reasons to prevent families from establishing private foundations to serve as tax shelters for their business interests.

The Act, which became effective as of 2018, now makes up I.R.C. §4943(g). In general, Section 4943 imposes the “excess business holdings” rule on private foundations, which is triggered when a private foundation and its disqualified persons (e.g., substantial contributors, directors, officers and their family members and businesses) own more than 20% in the aggregate of a for-profit business.  The Act creates an exception for a private foundation to own a for-profit business, so long as the following requirements are met:

  1. 100 percent of the voting stock in the business must be held by the private foundation;
  2. The private foundation must have acquired the ownership interest in the business by means other than by purchase;
  3. All of the profits of the business must be distributed to the private foundation;
  4. The private foundation cannot be controlled by a disqualified person (e.g., the family members of the creator of the private foundation or any substantial contributors of the private foundation, or a director, officer, trustee, manager, employee, or contractor of the business);
  5. At least a majority of the foundation’s board are persons that are not directors or officers of the business or family members of a substantial contributor; and
  6. There is no outstanding loan from the business to a substantial contributor or his or her family members.

The Act is known as the “Newman’s Own Exception” because Newman’s Own Foundation had been lobbying for this exception since the death of the foundation’s founder, Paul Newman, in 2008. Newman left his entire interest in Newman’s Own, Inc. to his foundation and under the prior rules, the foundation was required to divest itself of the company within the 10-year extended grace period (which would have expired in November 2018).  Under the Act, the foundation will now be able to retain ownership of the company.


Donor-Advised Funds: IRS Proposes Rule Changes Through IRS Notice 2017-73

Donor-Advised Funds: IRS Proposes Rule Changes through IRS Notice 2017-73

Author: Morris N. Robinson of M. Robinson & Company

IRS Notice 2017-73 (the “Notice”) provides advance notice of U.S. Treasury and IRS’ proposed rule changes for Donor-Advised Funds (“DAF’s”). Comments are requested by March 5, 2018. The Notice represents a significant departure from the rules governing the use of DAF’s by donors, sponsoring organizations, charities and their tax advisors. The Notice addresses the following three questions:

  1. Charitable Pledges: May DAF distributions be used to pay a donors’ charitable pledges without triggering penalty taxes under Section 4967?
  2. Charity Event Tickets and Memberships: May DAF distributions be used to pay the charitable portion of tickets to attend charity-sponsored events, which are used by its donors, advisors and members of their extended families, without triggering penalty taxes under Section 4967?
  3. DAF Grants and Public Support Test: May a donee charity use DAF distributions to demonstrate that is has substantial public support and should not be classified as a private foundation? How will “anonymous contributions” be treated to determine if the donee charity has substantial public support?

Additional Comments Requested: In addition to requesting comments on the above issues, the Treasury Department and IRS would like comments on the following:

  1. How do private foundations use DAFs to support their purposes?
  2. Whether a time limit should be placed on a distribution from a DAF to a qualifying charity for grants made by a private foundation to a DAF to satisfy the private foundation’s qualifying distribution requirement?
  3. What other considerations should be taken into account for DAFs with multiple unrelated donors with regard to the public support proposal change?
  4. What methods could be used to streamline recordkeeping by DAFs and public charities for the public support proposal change?

The Notice is detailed and provides examples to explain the background and considerations of its proposed changes. To understand its full intent, the Notice should be read in its entirety. To view a more in-depth analysis by Mr. Robinson on this topic, click here.