Recent Decisions In Brief

GRAT Reformation

rantor and his wife each created two grantor-retained annuity trusts. In the event Grantor died before the term of the annuity, a spousal annuity would be created. However, Grantor retained the right to revoke that spousal annuity. The IRS determined that the revocable interests of the spouse were not qualified interests for purposes of §2702. A revocable interest might never vest. Cook v. Commissioner 269 F. 3rd at 858. In addition, at the inception of the GRAT, the spousal interest was not fixed and ascertainable, but rather was contingent. As a result, the revocable spousal interests were not qualified interests; they were not included in valuing Grantor's retained interests.

Trustees attempted to amend the GRATs retroactively. To the extent that Grantor's retained interests in the trust were already qualified, reformation that changed the substantive disposition of assets was undertaken to enhance tax benefits and not merely preserve them. In addition, the IRS refused to recognize reformations that attempt to change the tax consequences of completed transactions. TAM 200319001.

QTIP Election Disregarded

Decedent's will bequeathed property to his wife outright. This property qualified for the marital deduction under §2056(a). Additional property valued at $600,000 was bequeathed to Decedent's wife and son. This property resulted in no federal estate tax as a result of Decedent's available unified credit amount. A QTIP election made pursuant to §2057(b)(7) to treat Decedent's residuary estate as qualified terminable interest property was therefore not necessary to reduce Decedent's estate tax liability to zero. Following Rev. Proc. 2001-38, 2001-24 IRB 1335, the IRS complied with the estate's request to disregard the QTIP election for transfer-tax purposes. As a result, the remainder of the estate would not be includible in the wife's estate under §2044(a). Letter Ruling 200318039.

Decedent Paid Gift Tax

Decedent established a trust that contained life insurance on his wife's life and funded the trust with $3.1 million. This triggered a gift tax liability of $1.4 million which was satisfied by checks which Decedent transferred to his wife, who deposited the checks and then wrote her own checks against these funds the next day. The $1.4 million was included in Decedent's gross estate under §2035(c). This was gift tax paid within three years of Decedent's death which, applying "step-transaction" analysis, was derived from Decedent. The "step-transaction" doctrine collapses "formally distinct steps in an integrated transaction" in order to assess federal tax liability on the basis of a "realistic view of the entire transaction."

In addition, $1.7 million of excess administration expenses would reduce the marital deduction to the extent the expenses were charged against the trust principal rather than interest. The entire estate of $181 million was transferred to a qualified terminable-interest property trust for Decedent's wife. Brown v. U.S., U.S. Court of Appeals, 9th Circuit. No. 02-55254 (May, 2003).

Community Property Life Insurance

The IRS has acquiesced with the Tax Court's decision in, Burris Estate, 82 TCM 400, T.C. Memo 2001-210, in which only half of life insurance proceeds were includible in Decedent's gross estate under §2042. Decedent was the only owner of the policy. The policy was purchased using community property funds. Based on Louisiana's community property law, Decedent could only have incidents of ownership in half of the policies. The IRS acquiesced only in the result and has issued a Revenue Ruling on point. Acquiescence Announcement; Rev. Rul. 2003-40.

IRD and IRAs

Husband's estate included two IRAs. Wife claimed a one-third elective share of Husband's estate under state law. A portion of Wife's elective share was paid to her prior to her death. The IRS has ruled as follows: Wife's estate includes her partial interest in the IRAs. The IRAs constituted income in respect of a decedent (IRD).

However, Wife's estate was entitled to an income tax deduction under §691(c) based on the portion of estate tax paid by Husband's estate that was attributable to the IRA assets received by Wife prior to her death. And beneficiaries of Husband's estate were entitled to deductions under §691(c) based on the inclusion of the IRAs in Husband's estate for estate tax purposes. Note also that Husband's hypothetical estate tax was based on the application of the marital deduction to the wife's entitlement to one-third of the estate. Letter Ruling 200316008.

© R. Moshman, 08/03