Proposed regulations address estate tax inclusion of graduated retained interests in trusts. On April 30, 2009, the Internal Revenue Service issued proposed regulations (NPRM REG-119532-08) that provide the method for determining the portion of a trust that's includible in a deceased grantor's gross estate under Internal Revenue Code Section 2036 if the grantor held a graduated retained interest in the trust.
These proposed regs address comments responding to proposed regs issued on June 7, 2007, which provided guidance on the amount includible in a deceased grantor's gross estate under IRC Sections 2036 and 2039 if the grantor retained use of trust property or the right to an annuity, unitrust or other income payment from the trust. Thus, the 2007 proposed regs impacted all types of grantor-retained interest trusts, as well as qualified personal residence trusts, non-qualified personal residence trusts, and all charitable remainder trusts.
The 2007 proposed regs amended the regs under Section 2039 to state that Section 2036, not Section 2039, governs the estate tax inclusion of these types of trusts. The 2007 proposed regs also amended the regs under IRC Section 2036 to incorporate the methodology in Revenue Rulings 76-273, 1976-2 C.B. 268, and 82-105, 1982-1 C.B. 133. Under this methodology, the portion of the corpus of a trust in which the grantor retained an annuity, unitrust, or other interest, or the use of a trust asset, includible in the deceased grantor's gross estate is the amount necessary to generate income equal to the grantor's retained use or retained annuity, unitrust, or other payment — using the Section 7520 rate in effect as of the grantor's date of death as the rate of income generated. The 2007 proposed regs became final on July 14, 2008.
On April 30, 2009, the IRS issued new proposed regs under IRC Section 2036 to respond to certain comments responding to the 2007 proposed regs that weren't addressed when those regs became final. One commentator suggested that the regs address the portion of a grantor retained annuity trust includible in a deceased grantor's gross estate under Section 2036 if the annuity interest retained by the grantor increases annually during the term of the trust (that is to say, a graduated retained interest). In response, the new proposed regs dictate that the amount included in the grantor's gross estate under Section 2036 due to a trust or any other property in which the grantor held a graduated retained interest is equal to the sum of these amounts:
- the amount necessary to generate income equal to the grantor's retained use or retained annuity, unitrust or other payment, using the Section 7520 rate in effect as of the grantor's date of death as the rate of income generated, for the trust year in which the decedent's death occurs; and
- for each succeeding year of the trust, the amount necessary to generate income equal to the increase in the use, annuity, unitrust or other payment, using the Section 7520 rate in effect as of the grantor's date of death as the rate of income generated, deferred until the beginning date of that increase.
Out of the IRS' generosity, the amount includible in the grantor's estate will not exceed the value of the trust corpus on the date of death. The new proposed regs add an example to illustrate this calculation.
Another commentator questioned the result contained in Example 1 of Treasury Regulations Section 20.2036-1(c)(1)(ii) of the 2007 proposed regs. In this example, the decedent created an irrevocable trust that paid trust income to the decedent and his spouse in equal shares during their joint lives and all of the trust income to the survivor. Upon the death of the survivor, the remainder was to be paid to a third person. The commentator noted that the example raised unnecessary issues under IRC Section 2523 (relating to the gift tax marital deduction). In the new proposed regs, this example was revised so that the trust's income was payable to the decedent and his child, rather than the decedent and his spouse, and concludes that if the decedent is survived by his child, 100 percent of the trust corpus, reduced by the present value of the child's life interest, is includible in the decedent's estate under IRC Section 2036. If the decedent's child had predeceased the decedent, the example concludes that 100 percent of the trust corpus would have been includible in the decedent's gross estate.
Although not discussed in the new proposed regs, it should be noted that the decedent in this example made a gift at the time of his contribution to the trust. Moreover, this gift was equal to the decedent's full contribution to the trust because the interest retained by the decedent was not a “qualified interest” under Section 2702.
Finally, the new proposed regs amend Treas. Regs. Section 20.2036-1(b)(1)(ii) to clarify the calculation of the amount includible in a deceased grantor's estate if the decedent retained the right to receive an annuity or other payment (rather than income) after the death of another person who was receiving such annuity or other payment at the time of the decedent's death, such as a successive annuity interest in a charitable remainder trust. The amount includible is the portion of the date-of-death value of the trust corpus required to generate the annuity or other payment the decedent would have been entitled to receive if the decedent had survived the current recipient, using the Section 7520 rate in effect as of the grantor's date of death — reduced by the present value of the current recipient's interest. In no event, however, should the amount includible be less than the amount of corpus required to generate the annuity or other payment the decedent was entitled to receive for the trust year in which the decedent's death occurred. And in no event should the amount includible exceed the value of the trust corpus on the date of the decedent's death.
Regs revise mortality component tables for valuing annuities, interests for life or terms of years, as well as remainder and reversionary interests. Under Section 7520, the value of an annuity, an interest for life or a term of years, and a remainder or reversionary interest, dependent on one or more measuring lives, are to be determined using the Section 7520 interest rate and a mortality component in the form of tables published in the Treasury regulations. These tables reflect the mortality data most recently available from the U.S. census. IRC Section 7520(c)(3) instructs the IRS to update these tables at least once every 10 years to take into account the most recent mortality experience available at the time of the revision.
On May 1, 2009, the IRS issued new regs to revise the mortality tables based on data compiled from the 2000 census as set forth in Table 2000CM (the prior tables were based on Table 90CM). Although the regs are generally effective for interests valued on or after May 1, 2009, they do provide some transitional rules “intended to alleviate any adverse consequences resulting from the proposed regulatory change.”
For gift and estate tax purposes, if the transfer or date of death, respectively, is on or after May 1, 2009 but before July 1, 2009, the value of any interest and/or applicable charitable deduction may be based on either the old or new tables. The Section 7520 rate to be used is still the rate for the month in which the valuation date occurs.
But for charitable deductions, if the valuation date occurs on or after May 1, 2009, and before July 1, 2009, and the donor or executor elects to use the Section 7520 rate for March or April, then the old mortality tables must be used. If the donor or executor elects to use the Section 7520 rate for May or June, then either the old or the new mortality tables may be used. If the valuation date occurs after June 30, 2009, the donor or executor must use the new mortality tables even if a prior month's Section 7520 rate is used.
Revenue rulings. On May 1, 2009, the IRS issued two rulings describing six situations involving a life insurance transaction and its income tax consequences. Rev. Rul. 2009-13 focuses on tax consequences to an insured upon surrender or sale of a life insurance policy. Rev. Rul. 2009-14 is about the consequences to a purchaser of a life insurance policy from an insured upon a subsequent sale of the policy or the insured's subsequent death. For details, see “Life Insurance and Income Tax,” Wealth Watch, May 27, 2009, at www.trustsandestates.com.