IRS Rev Ruling 2011-28: Grantor’s Power to Acquire Insurance Policy by Substituting Assets Does Not Cause Estate Tax Inclusion Under IRC § 2042

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Author:
Caleb Sainsbury, Esq., Pabian & Russell, LLC

The IRS issued Revenue Ruling 2011-28 on December 5, 2011 regarding the includability of a nonfiduciary power held by the grantor to acquire an insurance policy on the grantor’s life from an irrevocable trust by substituting assets of equivalent value. This ruling is important because it resolves the issue of whether the grantor’s retention of a power, exercisable in a non-fiduciary capacity, to acquire an insurance policy on his life owned by an irrevocable trust by substituting assets of equivalent value causes the insurance policy to be includible in the grantor’s gross estate under § 2042. The IRS ruled for the taxpayer and concluded that such a power would not by itself cause the value of the insurance policy to be includible in the grantor’s gross estate under §2042. In reaching this conclusion, the Service noted several important facts working in the taxpayer’s favor:

  • The trust instrument expressly prohibited the grantor from serving as trustee.
  • The grantor’s power to substitute assets of equivalent value was held in a nonfiduciary capacity.
  • Under the terms of the trust in this particular case, the assets transferred to the trust must be equivalent in value to the insurance policies that the grantor will receive.
  • The trustee had a fiduciary obligation to ensure that substituted assets were of equivalent value ensuring that the trustee cannot act in a manner that will deplete trust assets or increase the grantor’s net worth.
  • Because the trustee had the fiduciary duty to treat the beneficiaries impartially and the trustee had the power to re-invest assets, a substitution of assets would not work to shift assets among the beneficiaries.

This Ruling is taxpayer friendly and provides useful guidance when advising clients on the types of powers a grantor may retain. Practitioners should consult the Ruling itself for the detailed legal analysis the IRS conducted in reaching this result.

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