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Recent Developments

The following article appeared in .The Will and The Way. newsletter for the North Carolina Bar Association Estate Planning and Fiduciary Law Section (November 2000).

Federal Administrative Developments

Revenue Procedure 2000-34, effective August 21, 2000. Donor filed a gift tax return but failed to adequately disclose the gift, so the limitation period on assessment did not begin to run. This procedure sets forth the steps such a donor can take to file an amended return for the calendar year in which the gift was made and start the limitation period on assessment.

Technical Advice Memorandum 200014004. Excessive fees paid to the children/trustees of a QTIP trust created for the benefit of the children.s mother were recharacterized by the IRS as taxable gifts to the children. The IRS determined that the trustee fees were excessive when it discovered that banks in the same locality that provided trustee services similar to those provided by the children/trustees charged approximately five percent of the total fees paid to the children/trustees.

Private Letter Ruling 200018021. A trust income beneficiary who lived in a home owned by a trust could not exclude gain on the sale of the home by the trust under IRC '121. The IRS stated that had the beneficiary qualified as owner of the trust under the grantor trust rules, the gain from the sale could have been excluded.

Private Letter Ruling 200020011. The IRS has ruled that an estate may claim an administration deduction for interest paid on a loan that was taken out in order to pay estate tax that was deferred under IRC '6166. The IRS determined that the deduction was available to the estate because the loan was taken out primarily for completing the administration of the estate and not just to benefit the beneficiaries.

Private Letter Ruling 200025032. Prior to his death, the decedent and his wife instructed their brokerage company to transfer their joint account into the decedent.s sole name to allow the decedent to make full use of his unified credit. However, the decedent died prior to the transfer taking place. The brokerage company sought to enter into a settlement agreement with the wife in which it would be agreed that the wife, after the decedent.s death, would transfer to the brokerage company the additional amount needed for the unified credit to be fully utilized and the brokerage company would then transfer that amount to the credit-shelter trust under the decedent.s will.

The IRS rejected the plan and stated that the transfer to the trust would not be treated as having passed from the decedent.s estate for purposes of determining his estate tax liability. The IRS further noted that the wife could be held liable for taxes because she would be treated as having made a gift to the trust for federal gift and generation-skipping transfer tax purposes.

Private Letter Ruling 200034015. A trust exempt from the GST tax because it was created prior to the enactment of the Tax Reform Act (TRA) of 1986 was terminated when the children of the grantor disclaimed their interests in the trust. As a result of the disclaimers, the grandchildren of the grantor were subsequently able to receive their interests in the trust. The IRS ruled that the even though the disclaimers were filed after 1986 and the grandchildren were able to receive their interests in the trust, the TRA did not apply and the trust was still exempt from GST tax.

Private Letter Ruling 200038050. Upon his retirement an executive received a plan distribution that included ESOP stock. The executive rolled over a portion of the stock to his IRA and transferred the remaining portion of the stock to a charitable remainder unitrust. The IRS ruled that since the plan distribution was a lump sum, the executive could transfer the stock to the charitable remainder trust without recognizing any net unrealized appreciation (NUA).

Field Service Advice 200018020. The IRS has concluded that a trust may qualify for QTIP treatment despite the fact that a provision in the decedent.s will directed the executor to offer to sell stock to an ESOP at a discount. The trust could qualify for QTIP treatment because the will directed that the stock be offered to the ESOP at the time of the decedent.s death and the QTIP trust was funded after the discount sale. The IRS distinguished this case from a previous court case in which it had been found that where the trustee was obligated to sell trust property to someone other than the surviving spouse at a discounted price after the trust had already been funded, the trust could not qualify for QTIP treatment because it failed to give the surviving spouse a .qualifying income interest for life. as required by IRC '2056(b)(7)(B) (Estate of Rinaldi, 80 AFTR 2d 97-5324).

Field Service Advice 200040001.The buyer purchased the assets of an S corporation and agreed to a split-dollar arrangement with the shareholder/employee of the S corporation. The IRS rejected the S corporation.s claim that the amount realized from the sale should be limited to the cash it actually received, and held that the amounts used to fund the split dollar arrangement were in the form of an interest free loan to the corporation, a portion of which would have to be characterized as additional gross income to the employee.

IRC '7520 Tables. The IRS first issued temporary and proposed regulations last year that revised the valuation tables to reflect more recent mortality experience. The IRS has now finalized the tables used for valuing annuities, life estates and other interests under '7520 without any substantive changes.

IRS Notice 1261 (May 2000). The IRS has revealed that Table Z in IRS Publication 1458, 7-1999, Actuarial Values Book Beth, which is used to compute the remainder interest in unitrusts payable for the shorter of one life or a term of years, is incorrect. The correct factors for a specific interest rate under Table Z can be obtained by contacting Norman Greenberg at the IRS at 202-622-7789 or by fax at 202-622-6856.

Notice 2000-37, 2000-29 IRB 118.The IRS is currently requesting comments from the general public regarding revisions to be made to the charitable remainder annuity trust and unitrust sample forms and provisions set forth in the regulations. Comments can be made by email at: The deadline for submitting comments is December 1, 2000.

Reg. '1.671-2(e); TD 8890. The IRS has issued final regulations that expand the definition of a .grantor. for trust income tax rules. The new regulations now define a grantor as someone who creates a trust or directly or indirectly makes a gratuitous transfer of property (including cash) to a trust. The regulations also state that where one trust makes a gratuitous transfer to another trust, the grantor of the donor trust will be considered the grantor of the transferee trust.

Reg. 209038-89; Proposed Reg. '1.679-1 - 1.679-7. The IRS has issued proposed regulations for foreign trusts with U.S. beneficiaries. The proposed regulations will apply for transfers made to foreign trusts after August 7, 2000.

Federal Case Law Developments

Estate of Smith, 84 AFTR 2d 99-7393 (2000) nonacq. 2000-19 IRB. The IRS has announced that it will not follow the Fifth Circuit.s recent decision in Estate of Smith wherein it was held that events occurring after death should not be considered to determine the amount deductible under IRC '2503(a)(3) for claims against the estate that are contingent or contested at the date of death. At the time of death, the decedent was defending against a lawsuit which, at the time, the defendant appeared to be losing. Five months after the decedent.s death, the estate filed its return and took a deduction for $2.5 million, the approximate amount claimed against the defendant. However, the case was settled fifteen months later for under $700,000. To determine the value of the claim and the proper amount of the deduction, the Fifth Circuit stated that it was proper for the decision to be based on the facts that existed at the time of death instead of post death events. Although the IRS will be bound by the court.s decision in the Fifth Circuit, the IRS has stated that it will not be bound by the decision in any other jurisdictions.

Estate of Stinson v. US, 85 AFTR 2d 2000-690 (2000). Over a four year period the decedent made gifts to various family members by forgiving debt owed to her by a corporation which had been formed by the family members. Under local law, the corporation could not declare dividends unless a majority of the board of directors approved it. Also, under the corporation.s bylaws, the corporation could not sell company property unless 67% of the shareholders and 2/3 of the board members first approved.

The court held that the gifts did not qualify for the annual gift tax exclusion because they were not gifts of present interests. The court rejected the estate.s argument that the gifts were present interests because they increased the value of the shareholders stock. The court reasoned that the shareholders could not individually realize the increased value without liquidating the corporation or declaring a dividend, neither of which could be accomplished by any individual shareholder. Consequently, the gifts were of future interests.

Estate of Atkinson, 115 TC No. 3 (2000). The donor created a charitable remainder annuity trust for her life but died two years later without ever receiving an annuity payment. Certain secondary beneficiaries were named to receive annuity payments for their lives on the condition that they pay their portion of the estate taxes due. When it was discovered that the decedent.s estate could not pay the estate taxes due, the charitable remainder annuity trust paid the shortfall. The Tax Court held that the trust failed to qualify as a charitable remainder annuity trust because the trust failed to make any annuity payments to the donor and because trust assets were used to pay estate taxes due.

Mellon Bank, N.A. v. U.S., 86 AFTR 2d 2000-5321 (2000). The trustee claimed that fees paid by the trust for outside investment and management services were not subject to the 2% floor on the deductibility of miscellaneous itemized deductions. The trustee argued that the fees were necessary under state law to meet its fiduciary duties and thus the 2% rule did not apply because the fees met the exception in IRC '67(e)(1). The court held that '67(e)(1) did not apply because it was not certain whether the type of fees incurred would not have also been incurred had the property not been held in a trust.

Estate of Scott, 86 AFTR 2d 2000-5976. The decedent held title to a home she purchased and occupied with her same-sex partner. The partner sought to include only one-half of the value of the home on the decedent.s estate tax return. The partner claimed that she owned one-half of the home under a constructive trust. The Seventh Circuit rejected the partner.s claim based on a lack of evidence that she had ever contributed any assets toward the purchase of the home or made any payments toward the mortgage on the home.

North Carolina Case Law Developments

Ripley v. Day, Lawyers Weekly No. 0-07-1066 (Unpublished) (N.C. App. 2000). The North Carolina Court of Appeals has held that despite the fact that the Declatory Judgement Act (.DJA.) grants an interested party the right to contest a decedent.s will, it does not give the interested party the right to contest a surviving spouse.s right to dissent under the decedent.s will. The court based its decision in part on the fact that the action brought by the interested parties under the DJA sought to contest only valuations relevant to the surviving spouse.s right of dissent.

Hardison v. NationsBank, N.A., Lawyers Weekly No. 0-16-1030 (Unpublished) (N.C. App. 2000). The decedent.s testamentary trust gave the defendant-trustee authority, in its .sole discretion. to distribute principal to the decedent.s surviving wife, as it .deem[ed] advisable,. for her maintenance and support. The trust held a significant portion of stock in X Company, and the decedent stated in his will that it was his preference for the defendant-trustee to retain the stock so long as the defendant-trustee determined it was .desirable. to do so. Over the course of several years, the trustee sold all of the stock in X Company in order to make principal distributions to the surviving wife. The plaintiff, the decedent.s grandson, argued that the defendant-trustee abused its discretion in deciding not to retain the stock in X Company which had greatly increased in value over the years. The Court of Appeals affirmed the lower court.s decision that the will contained unambiguous language regarding the scope of the defendant-trustee.s discretionary authority, and therefore, the plaintiff.s action for mismanagement could not be sustained.

Haddock v. Duvall, Lawyers Weekly No. 0-16-0767 (Unpublished) (N.C. App. 2000). The decedent.s original will devised a life estate in his real property to his wife with a remainder to the plaintiff-daughter. Shortly before his death, however, the decedent executed a codicil which struck out the life estate provision and left all of his real property to his wife outright. In the codicil the decedent also requested that, at her death, his wife leave all real property inherited from him to the plaintiff-daughter.The North Carolina Court of Appeals rejected the daughter.s will contest claim because the terms of the codicil were clear and ambiguous and there was no evidence that the testator lacked capacity when he executed the codicil.

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