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Income and Transfer Tax Issues

Arising from Split Interest Gifts
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in broad strokes:
1. charitable remainder trust f/b/o
spouse or other
2. charitable lead trust f/b/o
spouse or other
3. charitable gift annuity f/b/o
spouse or other
3
a brief overview


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charitable remainder trusts
section 664, per TRA 69
- annuity or
- unitrust
- net income, w/ or w/out makeup
[deduction calculated w/out reference to
income limitation]
- five pct. minimum payout
- lives in being or 20-year term
- exempt, except if UBTI [*]
- four tier ordering rule
- "worst in, first out"
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charitable lead trusts
section 170(f), also per TRA 69
- annuity or
- unitrust (no net income feature)
[cf. non-qualified lead trust]
- "grantor" vs. "non-grantor"
- recapture of excess deduction
- no minimum payout [*]
- no limit on term of years [*]
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charitable gift annuities
section 514(c)(5), also per TRA 69
- treated as "bargain sale"
- basis allocated, long term gain spread
over "expected return multiple"
- exception from acquisition indebtedness rules
- provided p.v. residuum at least ten pct.
- one or two lives
- not assignable except to issuing charity


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a bit more detail:
remainder trusts
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amendments per TRA '97 re CRTs
- minimum remainder value 10 pct.
- maximum payout 50 pct.
cf. "accelerated" CRT
- short term straight CRUT w/ high payout
- first year payout delayed per 65-day rule
- allocated to corpus
Notice 94-78, proposed regs, Notice 97-68
- final regs TD 8791
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reg. 1.643(a)-8, added per TD 8926,
effective 10/18/99
- annuity or unitrust payout in excess of basis
of contributed assets deemed pro rata sale
ref. "son of" accelerated CRT
- borrowing or "forward sale"


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the flipCRUT, per TD 8791
[proposal to require 90 pct. unmarketable assets
dropped from final reg]
- triggering event not "w/in control"
of any person
- "flip" occurs at start of next tax year
- makeup arrearage forfeited
- reformation proceeding commenced by 06/08/99
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spousal waiver
- Rev. Proc. 2005-24
- would invalidate CRT f/b/o settlor if
elective share of surviving spouse might attach
- "safe harbor" procedure to disregard
- waiver w/ six months of filing 5227 for
year in which
- CRTs created prior to [x date] grandfathered
- was 06/28/05, postponed indefinitely per
Notice 2006-15
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five pct. probability of exhaustion
- Rev. Rul. 77-374
- CRAT paying ten pct. for life of
individual aged 61 years
- under [then-current 7520 rate]*,
fund would exhaust in 16 years
- probability annuitant would survive
that term was 63 pct. plus
- not "so remote as to be negligible"
- threshold five pct.


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UBTI redux
- section 664(c) amended by TRHCA 2006,
effective 01/01/07
- replacing disqualification w/
confiscatory tax
- implementing regs TD 9403 (06/24/08)
- excise treated as paid from corpus,
i.e., does not reduce allocation to
annuity or unitrust distributee
[query whether character as UBTI
passes through to exempt distributee]
14
ordering rules, redux
- per TD 9190 (03/16/05)
- "worst in, first out" w/in each of the
four tiers
- see also Notice 98-20, Notice 99-17
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ordering rules, redux two
- proposed regs implementing 3.8 pct. Medicare
surtax on "net investment income"
- "worst in, first out" without reference
to other ordering rules
- ex. trust funded w/ proceeds of IRA


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a bit more detail:
lead trusts
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revisions to regs. 1.170A-6(e),
20.2055-2(e)(3)(iii), and 25.2522(c)-3(e)
per TD 8923, effective 04/04/00
- ref. "ghoul" CLT
- permitted measuring lives limited to
- settlor, spouse, or
- lineal ancestor or spouse of lineal
ancestor of remainder bene
- requirement met if actuarial probability
less than 15 pct. nonlineal will receive
any trust corpus
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ordering rules, redux three
per TD 9582, effective 04/16/12
- distributions from lead trust carry out
income classes pro rata
- ordering rule per trust instrument or state
law to the contrary disregarded unless "economic
effect independent of tax consequences"


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getting down to cases
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nonspouse as beneficiary of CRT
- present interest, annual exclusion 14k
- reserved testamentary power to revoke
- 2038 inclusion,
require bene to pay incremental tax
- GST exemption allocation
only at close of ETIP
- multiple lives w/ term of years limitation
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for example,
- Annie, age 18
- Table 2000 CM life expectancy 59.70 years
- July 7520 rate 1.4 pct.
- five pct. unitrust
- p.v. rmdr. after life only 6.954 pct.
[would fail ten pct. rmdr. test]
- p.v. rmdr. after 20 year term 36.176 pct.
- p.v. term interest 63.824 pct.


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for example,
- Annie, age 18
- Table 2000 CM life expectancy 59.70 years
- July 7520 rate 1.4 pct.
- five pct. annuity
- p.v. rmdr. after life only 1.091 pct.
[would fail both ten pct. rmdr. and
probability of exhaustion tests]
- p.v. rmdr. after 20 year term 13.305 pct.
- p.v. term interest 86.695 pct.
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incidentally,
- CRAT paying min. five pct.
- 7520 rate 1.4 pct.
- fund would exhaust in 24 years
- probability annuitant age 74
would survive that term is 4.42 pct.
[youngest age at which CRAT for life can
qualify at current 7520 rate]
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footnote:
- Rev. Rul. 2002-20 amplifying and superseding
Rev. Rul. 76-270 re distributions to trust for
benefit of disabled bene
- specifically w/ ref. to reg. 1.664-3(a)(5)(i)
"only an individual or an organization described
in section 170(c) may receive an amount for the
life of an individual"
- i.e., term of years would be permitted


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spouse as beneficiary of CRT
- 2523(g)(1) exception
cf. 2056(b)(8)
- immediate, no successive interest
[other than settlor]
- alternative: straight QTIP
- possibly w/ successive interest
to settlor
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for example,
- Grace, age 34
- Table 2000 CM life expectancy 44.49 years
- July 7520 rate 1.4 pct.
- five pct. unitrust
- p.v. rmdr. after life 13.595 pct.
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as part of prenup
- reg. 25.2512-8 says
relinquishment of marital rights is not
consideration in "money's worth"
- cf. NIMCRUT flip to straight CRUT
in event of divorce


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as part of divorce settlement
- per section 2516,
- decree entered w/in three year window
starting one year before date of agreement
- whether or not incorporated into decree
- treated as transfer for consideration
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as part of divorce settlement, cont'd
- per section 1041,
- transfers betw. spouses or incident to
divorce
- "related to" or w/in one year after
- not a recognition event
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what about the 2523(g)(1) exception
- Oliver, age 62
- Table 2000 CM life expectancy 19.99 years
- Grace, age 34
- Table 2000 CM life expectancy 44.49 years
- likelihood Oliver survives Grace ~8.4 pct.
- p.v. rmdr. after two lives 12.274 pct.
[compare 13.595 pct. Grace only]


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also per TD 8791, ref. section 2702
- retained interest in net income CRUT
f/b/o someone other than settlor or
citizen spouse is valued at zero,
except
- only two lives, and settlor is second life
[also applies to "flip"CRUT]
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"grantor" lead trust
- securing "grantor" trust status
- reversion greater than five pct.
per 673(a)
[estate tax inclusion per 2037(a)(2)]
- power to change charitable bene
per 674(b)(4)
- swap power per 675(4)(C)
[estate tax inclusion per 2038 unless
held by nonadverse party]
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"grantor" lead trust, cont'd
- deduction "for use of" charity,
limited to 30 pct. of AGI
- recapture of excess deduction
when "grantor" trust status ends
per Reg. 1.170A-6(c)(4)


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"non grantor" lead trust
- no income tax deduction, but
- trust treated as "complex" trust,
unlimited charitable deduction per 642(c)
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remainder gift in lead trust
- not a present interest per 2503(b)(1)
- not eligible for gift tax marital
deduction
- reserved testamentary power to revoke
- 2038 inclusion,
not fully offset by marital deduction,
unless lead term is "shorter of"
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generation skip:
- because no ETIP, can allocate GST exemption
amounts to CLUT to secure zero inclusion ratio
- but not to CLAT, per section 2642(e),
until end of term


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third party bene of gift annuity
- immediate recognition of gain
nonspouse as beneficiary
- present interest, annual exclusion 14k
- reserved power to revoke
- again, 2038 inclusion
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spouse as beneficiary
- deferred does not qualify for marital
under 2523
- but 2038 inclusion offset by 2056
deduction
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odds and ends
- commutation, acceleration
- capital asset, zero basis
- valued per current 7520 rate
- net income limitation
- reformation of nonqualified trusts
- the ninety-day deadline
- five pct. tolerance
- same term