In the Estate of Anenberg, the U.S. Tax Court determined whether the termination of a qualified terminable interest property (QTIP) marital trust for the benefit of a surviving spouse, and the surviving spouse’s subsequent sale of the property previously held in the QTIP trust, resulted in gift tax liability as to the surviving spouse pursuant to Internal Revenue Code Section 2519. The court held that IRC 2519 didn’t apply to the transfers as was asserted by the Internal Revenue Service; therefore, the surviving spouse made no gift.
QTIP Trust Terminated
In March 2008, Alvin Anenberg passed away, survived by his wife Sally, Alvin’s children and grandchildren. As a result of Alvin’s death, various assets were passed to a QTIP trust for Sally’s benefit. In March 2012, the QTIP trust was terminated with the consent of all beneficiaries (Sally and the remainder beneficiaries) pursuant to California Probate Code Section 15403, and the assets were distributed outright to Sally. At the time of termination, the fair market value (FMV) of the QTIP trust property was $25,450,000, and the FMV of Sally’s lifetime income interest was $2,599,463. In August 2012, Sally made two $1,632,622 gifts of property received from the QTIP trust termination to trusts for the benefit of Alvin’s descendants. In September 2012, Sally sold some of the QTIP trust property to trusts for the benefit of Alvin’s descendants in return for 9-year promissory notes, which paid interest to her at the applicable federal rate. Sally reported these transfers on her timely filed 2012 gift tax return.
IRS Asserts Gift Tax Deficiency
Sally died in 2016. In 2020, the IRS asserted that Sally’s estate was liable for a gift tax deficiency of more than $9 million due to the termination of the QTIP trusts and Sally’s subsequent sale of the property she received from the termination. The IRS’ rationale was that when the QTIP trust terminated, Sally disposed of her qualifying income interest for life in the trust within the meaning of IRC Section 2519 at one of two times: (1) when she agreed to the termination of the trust and accepted distribution of its assets to her, or (2) when she sold the received assets in exchange for promissory notes. The IRS contended that either one of these two events was a “disposition” sufficient to trigger Section 2519. Under Section 2519, any disposition of a surviving spouse’s income interest in a QTIP trust is treated as if the surviving spouse transferred 100% of the remainder interests in the trust.
No Transfer by Gift
The court agreed with the estate’s argument that Sally’s deemed transfer of the remainder interests in the QTIP trust resulted in her actual receipt of the remainder interest unencumbered. At the end of the day, she gave away nothing of value as a result of the deemed transfer. Therefore, Sally’s agreement to terminate the QTIP trust and acceptance of its assets didn’t result in a gift by Sally pursuant to Section 2519. Even if Sally were deemed to have transferred the remainder interest (note that the court expressly didn’t analyze whether a “disposition” occurred within the meaning of Section 2519, finding no need to analyze the question in light of the other conclusions), no value passed from Sally to anyone else because Sally (and no one else) ultimately received all the property held by the QTIP trust as part of the QTIP trust termination.
Sale of Shares
The court further agreed with the estate’s counterargument to the IRS’ second assertion that a gift would have occurred on Sally’s sale of the assets received from the QTIP trust for notes. The court held that Section 2519 didn’t apply to Sally’s sale of the assets because Sally’s income interest had already been terminated on termination of the QTIP trust. Accordingly, once the QTIP trust terminated, normal estate and gift tax rules (rather than Section 2519, which specifically applies to a transfer of a qualifying income interest in a QTIP trust) applied to Sally’s subsequent transfer of the assets she received, and gift tax wouldn’t apply to Sally’s sale of the assets for their FMV.
