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.

 

Tax Cuts and Jobs Act of 2017

Tax Cuts and Jobs Act of 2017

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

The Tax Cuts and Jobs Act of 2017, Public Law No. 115-97, was signed into law on December 22, 2017 by President Donald Trump. The final bill had tax implications for trusts and estates as well as for individuals and corporations:

Lifetime Exclusion: The lifetime exclusion amount from estate tax under Section 2010(c)(3) is increased from $5,000,000 to $10,000,000 per decedent. This increase is in effect for estates in which the decedent dies after December 31, 2017 and before January 1, 2026.

  • The lifetime exclusion amount for gift tax is also increased to $10,000,000 per donor from $5,000,000.
    • The amount of the exclusion for both amounts is adjusted for inflation using the Chained-CPI.

No “Clawback” on Exclusion Amount: Regulations will be forthcoming to deal with gifts made during the time this exclusion amount is in effect and whatever the basic exclusion amount under Section 201(c)(3) so that there will be no “clawback.”

  • A “clawback,” with regard to this section, might occur if, after the time period lapses, the exclusion amount reverts back to its previous amount prior to the enactment of this bill. Without modification language to avoid a “clawback,” amounts gifted under the increased exclusion levels during of the Tax Cuts and Jobs Act could become taxable.

Tax Rates for Estates and Trusts:

Taxable income is:                                          The tax is:

Not over $2,550 ………………………………………..         10% of taxable income.

Over $2,550 but not over $9,150 ………………..          $255, plus 24% of the excess over $2,550.

Over $9,150 but not over $12,500 ………………          $1,839, plus 35% of the excess over $9,150.

Over $12,500 ……………………………………………          $3,011.50, plus 37% of the excess over $12,500.

Personal Exemption Amount: Deductions for personal exemptions under Section 151(d) are suspended under the Act, but there is an exception for qualified disability trusts. Disability trusts permitted to take the personal exemption deduction under Section 642(b)(2)(C) will be allowed a deduction of $4,150, adjusted for inflation.

 

Miscellaneous Itemized Deductions: Deductions for miscellaneous itemized deductions subject to the 2% floor, such as tax and investment advice, are suspended for taxable years 2018 through 2025.

  • Note: The language of the provision under new Section 67(g) refers specifically to miscellaneous itemized deductions. However, the deduction for trust administration services under Section 67(e) does not fall under miscellaneous itemized deductions. The current view is that this deduction for trusts and estates will still be available, but further guidance is hoped for.

Qualified Business Deduction: The 20% Qualified Business Deduction for pass-through entities will impacts trusts and estates with qualified trades or businesses.

The new QBI deduction benefits all business owners, other than C corporations, irrespective of whether they operate their businesses as sole proprietorships, partnerships, S corporations, estates or trusts. The business deduction is claimed in the taxable year in which the related business income is reported by the taxpayer.

Case Summary: Ajemian v. Yahoo!, Inc.

Author:  Bradford N. VezinaMcLane Middleton

The Massachusetts Supreme Judicial Court, in the case of Ajemian v. Yahoo!, Inc., held that the Stored Communications Act (SCA), a 1986 federal law that regulates the disclosure of electronic communications, does not prohibit Yahoo!, Inc., from voluntarily disclosing the contents of a decedent’s email account to the administrators of a decedent’s estate.

The decision represents the continuation of an eight year legal dispute, initially commenced in 2009, that arose after the administrators of John Ajemian’s estate filed a complaint with the probate court requesting “unfettered” access to John’s Yahoo email account.  Yahoo refused to provide access to this account.

The Supreme Judicial Court agreed to hear the case on its own motion after the estate appealed the probate court’s award for summary judgment in favor of Yahoo.  The probate court awarded summary judgment to Yahoo on the basis that the SCA prohibited Yahoo from disclosing the contents of the account to the estate administrators.  The Supreme Judicial Court ultimately disagreed and vacated the probate court’s judgment.

The Supreme Judicial Court’s decision turned on whether the estate’s request for access to the email account fell within the “lawful consent exception” of the SCA thereby permitting Yahoo to voluntarily disclose the contents of the emails.  Rejecting the industry consensus that this lawful consent exception requires actual or express consent of a decedent, the Court held that the administrators could consent to such a disclosure on behalf of the decedent.  To interpret the SCA otherwise, the Court reasoned, would prevent personal representatives from accessing a decedent’s digital assets and thereby preempt state probate and common law.

This decision, however, has its limits.  First, the Court did not mandate Yahoo to divulge the contents of the email account; it merely permitted Yahoo to do so.  As the Court explained, the SCA “does not stand in the way” of such a disclosure.  Second, it remains to be seen whether this case will be challenged in federal court, as it is a state court’s interpretation of federal law.  Third, the case raises the question of whether online providers such as Yahoo can rely on their terms of service agreements as a basis in refusing access to (and perhaps deleting altogether) a decedent’s digital assets.  The Supreme Judicial Court did not take up this issue instead electing to remand the case to the probate court for further hearing on this issue.  Stay tuned.

TIGTA Report Recommends Improvements for Estate and Gift Tax Return Examination Process

TIGTA Report Recommends Improvements for Estate and Gift Tax Return Examination Process

Author: Patti Weisgerber, M. Robinson Tax Law

 

While much focus this fall has been on tax reform proposals and debates, it’s possible some may have missed the September 26, 2017 TIGTA[1] report proposing recommendations to tighten the estate and gift tax return examination process. The report described a very manual process for the classification, prioritization and assignment of estate and gift tax returns with a variety of problems, such as, but not limited to:

  • Minimal guidance from the Internal Revenue Manual (IRM) on the process, which translates into a lack of formal written procedures,
  • A subjective prioritization of returns by a “national gatekeeper,”
  • Illegible and incomplete classification sheets,
  • Missing documents from case files, and
  • Timeframes not followed in the examination process.

These issues raised the question of whether or not the most productive cases were being assigned for examination. Some of the issues also bring into question whether a taxpayer’s rights are at risk of being violated. For the most part, the IRS agreed with all recommendations for improvement, including an update to the IRM for more guidance on how returns are classified, prioritized and assigned for examination.

In addition to the recommendations made, the report shared some insightful statistical information about estate and gift tax examinations.

Estate and Gift Tax Examination Information: By the Numbers[2]

  • 254: The number of field examination employees assigned to the IRS Estate and Gift Tax Program (per the 2016 payroll).
  • 36,130: The number of estate tax returns, including IRS Forms 1041 and 1041-N, that were filed for calendar year 2015.
  • 238,324: The number of gift tax returns filed in that same year.
  • 3,187: For FY 2016, the number of examined estate tax returns that were closed.
    • $248,000: The average recommended additional tax per return.
    • $790,000,000: The total additional recommended estate tax for FY 2016.
  • 1,843: Also for FY 2016, the number of examined gift tax returns that were closed.
    • $164,000: The average recommended additional tax per return.
    • $303,000,000: The total additional recommended gift tax in FY 2016.
  • 289: The average number of days to complete an estate tax examination.
  • 81%: Approximately, the percent of estate and gift tax cases resulting in the IRS position being either fully or partially sustained.
  • 4.4%: Approximately, the percent of estate and gift tax cases which go to Appeals.

The full report, “Improvements Are Needed in the Estate and Gift Tax Return Examination Process,” can be found here.

[1] Treasury Inspector General for Tax Administration.

[2] All statistics are from the TIGTA analysis and/or the IRS.

CLE Program – You Can’t Take It With You: Issues With Real Estate In A Probate Estate

Please attend the BBA’s Trust & Estate’s Section’s first CLE program of the year on Thursday, November 9, from 3-5 PM. 

 We are thrilled to be hosting an expert panel consisting of Jennifer A. Maggiacomo (Norfolk Probate and Family Court), Evelyn Patsos (Probate and Family Court Administrative Office), and Elizabeth J. Young (Westcor Land Title Company), who will discuss issues that arise when an Estate owns real estate, how to navigate the Massachusetts Uniform Probate Code, and practice pointers to avoid title problems down the road. The program will include:

– How to clear title if the real estate passes to family (and is not sold right away, but may be sold at some point in the future);

– What to do if real estate is being sold from the probate estate;

– When a license to sell is required and/or desirable;

– When and how to use deeds of distribution; and

– How to convey clear title when the will devises real estate to a trust.

To sign up and for more detail, please go to the BBA’s website: https://www.bostonbar.org/membership/events/event-details?ID=25688

 

 

Republican House Tax Bill

Author:  Heather N. Harris, Day Pitney LLP

Yesterday, Republicans in the House of Representatives unveiled the “Tax Cuts and Jobs Act.” Notably, the tax reform bill:

  • Increases the basic exclusion amount for estate tax and generation-skipping transfer tax from $5,000,000 to $10,000,000 for decedent’s dying and generation-skipping transfers made after December 31, 2017 (adjusted for inflation after 2010).
  • Repeals the estate tax and generation-skipping transfer tax for decedent’s dying and generation-skipping transfers made after December 31, 2023.
  • Increases the basic exclusion amount for gift tax from $5,000,000 to $10,000,000 for gifts made after December 31, 2017 (adjusted for inflation after 2010).
  • Does not repeal the gift tax, but reduces the top rate for the gift tax to 35 percent from 40 percent for gifts made after December 31, 2023.
  • No change to the step-up in basis of an asset at death.
  • No change to treatment of retirement accounts.
  • Repeals the Alternative Minimum Tax.
  • Pass-through businesses pay a 25% tax rate, excluding some professional service partnerships such as lawyers and accountants.
  • Reduces the corporate tax rate to 20 percent from 35 percent