Tax Law Update 2009-06-01 (1)Tax Law Update 2009-06-01 (1)
Proposed regulation NPRM REG-119532-08 - The Internal Revenue Service provides a method for determining the portion of a trust that’s includible in a deceased grantor’s gross estate if the grantor held a graduated retained interest in the trust
David A. Handler, partner, and Patricia H. Ring, associate, in the Chicago office of Kirkland & Ellis LLP
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 pa...
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