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Tax Law Update: April 2018Tax Law Update: April 2018

David A. Handler and Alison E. Lothes highlight the most important tax law developments of the past month.

5 Min Read
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• Revenue procedure eliminates requirement for domestic corporate charities to re-apply for tax-exempt status after certain corporate changes—Revenue Procedure 2018-15 provides that a change in a charity’s state of incorporation and certain changes in corporate structure (namely mergers) won’t require a new application for tax-exempt status. The revenue procedure explains that generally, in the past, if an exempt organization changed its legal structure, such as converting from a trust to a corporation, merging or dissolving in one state and incorporating in another, it needed to file a new application to have its exempt status maintained. However, a charity could undergo some of those corporate changes without needing to obtain a new employer identification number (EIN). The Internal Revenue Service is now aligning the requirements for exemption applications with the requirements for obtaining a new EIN. It reasoned that if a charity retains its EIN, it shouldn’t need to re-apply for tax-exempt status (because the IRS could track the organization’s qualifications on its annual filing, the Form 990, which also requires the charity to report significant organizational changes). So, to reduce unnecessary and repetitive applications, the revenue procedure eliminates the requirement to re-file for tax-exempt status in certain circumstances.

The revenue procedure provides that a charity that’s a domestic business classified as a corporation under the Treasury regulations that undergoes certain “corporate restructurings” won’t have to file a new application for tax-exempt status as long as the surviving entity is: (1) also a domestic corporation (not a limited liability company, disregarded entity, partnership or foreign business entity), (2) carrying out the same purposes (the revenue procedure doesn’t elaborate on what exactly constitutes the “same purposes”), and (3) not required to obtain a new EIN.   

A corporate restructuring is an incorporation under the laws of a state (for example, the incorporation of an association that’s treated as a corporation under the Treasury regulations), reincorporation under the laws of a different state, filing articles of domestication under the laws of a different state or a statutory merger of one corporation with/into another corporation.  Notably, a conversion from a trust to a corporation isn’t a restructuring that qualifies under the revenue procedure. In addition, if the organization is exempt under Internal Revenue Code Section 501(c)(3), its articles of organization must continue to meet the requirements set out in the regulations (for example, its exempt charitable purposes and rules for appropriate distribution of its assets in the case of dissolution must be stated in its articles). The organization must be in good standing and report the corporate restructuring and/or its new address that reflects its state of incorporation on its Form 990.

• IRS confirms basic exclusion amount under IRC Section 2010—The basic exclusion amount for 2018 has been confirmed to be $11.18 million. This is the amount that can be sheltered from federal gift and estate taxes. Accordingly, it’s also the amount of the generation-skipping transfer tax exemption.  

• Private letter ruling allows reformation to alter grantor trust status to conform to grantor’s intent, based on mistake of law—In PLR 201807001 (Nov. 13, 2017), a non-citizen, non-resident established an irrevocable trust under the laws of a U.S. state for the benefit of himself and his descendants. His attorney drafted the trust, intending it to qualify as a grantor trust. Under the trust instrument, the independent (non-beneficiary) trustee was authorized to distribute income to the grantor and his descendants as the trustee determined. In addition, the trustee could distribute principal to the grantor and his descendants for their health, education and support.  

When the trust was executed, it would have been a grantor trust under IRC Section 677. That section provides that the grantor is treated as the owner of any portion of the trust whose income may be distributed to the grantor without the approval or consent of an adverse party. However, after the trust was established, IRC Section 672(f) was amended to provide that IRC Sections 671-677 (the so-called “grantor trust rules”) only apply to cause income to be attributed to a citizen or resident of the United States or a domestic corporation. The amendment to Section 672(f) basically made the grantor trust rules inapplicable when the grantor was a non-citizen, non-resident. However, there was an exception. The grantor trust rules would continue to apply to non-citizens and non-residents if the grantor and/or the grantor’s spouse were the sole beneficiaries of the trust during the grantor’s lifetime. This exception didn’t apply to the trust in this ruling because the grantor’s descendants were beneficiaries of the trust during his life. So, under the new amendment to Section 672(f), the trust wouldn’t be a grantor trust.

The taxpayer had consistently filed U.S. tax returns treating the trust as a grantor trust, withholding 30 percent of its U.S. source income. However, he sought the advice of counsel and was told that the trust wasn’t, in fact, a grantor trust, due to the amendments to Section 672(f).  

The taxpayer then sought to reform the trust in state court. The trust authorized the independent trustee to reform provisions of the trust to reduce or minimize taxes, with the consent or approval of a court. In addition, a state statute permitted reformation to conform a trust to the settlor’s intent, if a mistake is proved by clear and convincing evidence. The court found clear and convincing evidence (likely the testimony of the grantor and the drafting attorney) that the trust was intended to be a grantor trust and that the amendment to Section 672(f) effectively retroactively changed the grantor trust rules on which the grantor and his attorney had relied. Concluding that the trust was drafted based on a mistake of fact and law, the court reformed the trust to remove the grantor’s descendants as beneficiaries during his lifetime. Now that the trust was for the sole benefit of the grantor during his life, the general rule of Section 672(f) wouldn’t negate grantor trust status, and it would continue to be treated as a grantor trust.

The IRS determined that it would respect the reformation because the state court’s decision was consistent with state law and resolved a bona fide issue. The IRS also noted that the trust had never made any distributions to the grantor’s descendants in the past. The result was that the trust was respected as a grantor trust from the date it was funded.

About the Authors

David A. Handler

 

David A. Handler is a partner in the Trusts and Estates Practice Group of Kirkland & Ellis LLP.  David is a fellow of the American College of Trust and Estate Counsel (ACTEC), a member of the NAEPC Estate Planning Hall of Fame as an Accredited Estate Planner (Distinguished), and a member of the professional advisory committees of several non-profit organizations, including the Chicago Community Trust, The Art Institute of Chicago, The Goodman Theatre, WTTW11/98.7WFMT (Chicago public broadcasting stations) and the American Society for Technion - Israel Institute of Technology. He is among a handful of trusts & estates attorneys featured in the top tier in Chambers USA: America's Leading Lawyers for Business in the Wealth Management category, is listed in The Best Lawyers in America and is recognized as an "Illinois Super Lawyer" bySuper Lawyers magazine. The October 2011 edition of Leading Lawyers Magazine lists David as one of the "Top Ten Trust, Will & Estate" lawyers in Illinois as well as a "Top 100 Consumer" lawyer in Illinois. 

He is a member of the Tax Management Estates, Gifts and Trusts Advisory Board, and an Editorial Advisory Board Member of Trusts & Estates Magazine for which he currently writes the monthly "Tax Update" column. David is a co-author of a book on estate planning, Drafting the Estate Plan: Law and Forms. He has authored many articles that have appeared in prominent estate planning and taxation journals, magazines and newsletters, including Lawyer's Weekly, Trusts & Estates Magazine, Estate Planning Magazine, Journal of Taxation, Tax Management Estates, Gifts and Trusts Journal. He is regularly interviewed for trade and news periodicals, including The Wall Street Journal, The New York Times, Lawyer's Weekly, Registered Representative, Financial Advisor, Worth and Bloomberg Wealth Manager magazines. 

David is a frequent lecturer at professional education seminars. David concentrates his practice on trust and estate planning and administration, representing owners of closely-held businesses, principals of private equity/venture capital/LBO funds, executives and families of significant wealth, and establishing and administering private foundations, public charities and other tax-exempt entities. 

David is a graduate of Northwestern University School of Law and received a B.S. Degree in Finance with highest honors from the University of Illinois College of Commerce.

Alison E. Lothes

Partner, Gilmore, Rees & Carlson, P.C.

http://www.grcpc.com

 

Alison E. Lothes is a partner at Gilmore, Rees & Carlson, P.C., located in Wellesley, Massachusetts. Ms. Lothes focuses on estate planning for high net worth individuals including estate, gift and generation-skipping transfer tax planning, will and trust preparation, estate and trust administration, and charitable giving.  Ms. Lothes previously practiced at Kirkland & Ellis LLP (Chicago, Illinois) and Sullivan & Worcester LLP (Boston, Massachusetts).