Tax Law Update

Internal Revenue Service extends filing and payment deadlines for estates of decedents dying in 2010 — In Notice 2011-76 (Notice), the IRS provided relief for the estates of decedents dying in 2010 (2010 estates). The filing deadline for the Form 706, federal estate and generation-skipping transfer (GST) tax return for 2010 estates was originally Sept. 19. With the new deadline fast approaching, the IRS published this Notice on Sept. 13, providing relief for estates in several respects, including an automatic extension of time to file the estate tax return and to pay the estate tax.

First, executors of 2010 estates opting out of paying the estate tax and instead, electing the carryover basis must file Form 8939 by Jan. 17, 2012. Previously, this form was due on Nov. 15, 2011. If the executor allocates the decedent's GST tax exemption on a Schedule R or R-1 attached to Form 8939, the IRS will consider the allocation timely and effective as of the decedent's date of death.

Second, executors of 2010 estates that aren't electing out of the estate tax may file a Form 4768 by the due date of the estate tax return to receive an automatic six month extension both to file the return and to pay the estate tax. For decedents who died before Dec. 17, 2010, Form 4768 was due by Sept. 19, giving the executors until March 19, 2012 to file the estate tax return and pay the estate tax. For estates of decedents who died between Dec. 16 and Dec. 31, 2010, the Form 4768 is due nine months after the date of death, and the executors will have until 15 months after the date of death to file the return and pay the estate tax.

The Notice doesn't extend any deadlines for income tax returns or gift tax returns. However, it does provide relief to those taxpayers who received property from a 2010 estate and then disposed of it. These taxpayers may have to file their income tax return before the estate from which they received property is required to make its election under Internal Revenue Code Section 1022 regarding carryover basis. The Notice directs these taxpayers to write “IRS Notice 2011-76” on their income tax return and make a good faith estimate of their income tax liability. The IRS will presume reasonable cause and good faith and won't impose penalties under IRC Section 6651(a)(2) or IRC Section 6662(a) if the taxpayer's income tax liability is later increased.

For more information on the Notice, see “IRS Provides Relief to Executors of 2010 Estates” by Michael J. Jones, on the Trusts & Estates website, www.trustsandestates.com.

New proposed regulations under IRC Section 67 — In REG-1288224-06, 76 Fed. Reg. 55322-01 (Sept. 7, 2011), the Treasury withdrew its 2007 proposed regulations and issued new proposed regulations regarding which costs incurred by estates and non-grantor trusts are subject to the 2 percent floor for miscellaneous itemized deductions under IRC Section 67(a). Under the proposed regulations, which adopt the ruling of the U.S. Supreme Court in Knight v. Commissioner, 552 U.S. 181 (2008), a miscellaneous itemized deduction under IRC Section 67(b) incurred by such estates and trusts is subject to the 2 percent floor if it would commonly or customarily be incurred by a hypothetical individual holding the same property. Fiduciaries charging bundled fees for the administration of an estate or non-grantor trust must state separately the investment advisory fees that are subject to the 2 percent limit, but any reasonable method may be used to allocate a bundled fee (other than those payments made to third parties or separately assessed fees which are readily identifiable) between those costs that are subject to the 2 percent floor and those costs that aren't.

The following miscellaneous itemized deductions are subject to the 2 percent floor:

• Expenses that don't depend on the identity of the taxpayer, which may include costs incurred in the defense of a claim that are unrelated to the existence, validity or administration of the estate or trust;

• Ownership costs (costs incurred by the taxpayer simply because the taxpayer owns the property) such as condominium fees, real estate taxes, insurance premiums, maintenance and lawn service and partnership costs;

• Costs of preparing individual income tax returns, gift tax returns and tax returns for a sole proprietorship or a retirement plan;

• Fees that don't exceed the costs charged to an individual investor; and

• The portion of a bundled fee attributable to investment advice (up to the amount that would normally be charged to an individual investor).

The following miscellaneous itemized deductions aren't subject to the 2 percent floor:

• Costs of preparing estate and GST tax returns, fiduciary income tax returns and a decedent's final income tax return;

• Fees paid for investment advice that exceed what would typically be charged to an individual investor because of an unusual investment objective or a specialized balancing of the interests of various parties (other than the usual balancing of the interests of the current beneficiaries and remaindermen), such that a reasonable comparison with individual investors would be improper; and

• Bundled fees (other than fees relating to investment advice) that aren't charged on an hourly basis except: (1) payments made to third parties out of the bundled fee that would have been subject to the 2 percent floor had the non-grantor trust or estate made the payment; and (2) payments for expenses separately assessed that are commonly or customarily incurred by an individual owner of property.

Treasury publishes 2011-2012 priority guidance list — The following issues are on the Treasury's most recent priority guidance list (published at www.irs.gov/foia/article/0,,id=181687,00.html) regarding the taxation of gifts, estates and trusts:

1. Final regulations under IRC Section 642(c) concerning the ordering rules for charitable payments made by a charitable lead trust. Proposed regulations were published on June 18, 2008;

2. Guidance concerning adjustments to sample charitable remainder trust (CRT) forms under IRC Section 664;

3. Guidance concerning private trust companies under IRC Sections 671, 2036, 2038, 2041, 2042, 2511 and 2601;

4. Regulations under IRC Section 1014 regarding uniform basis of CRTs;

5. Guidance on portability of the unified credit between spouses under IRC Section 2010(c) (Notice 2011-82, published on Oct. 17, 2011 provides guidance on the filing requirements for executors to make the necessary election for a surviving spouse to use the decedent's unused exclusion amount);

6. Regulations under IRC Section 2032(a) regarding imposition of restrictions on estate assets during the six month alternate valuation period. Proposed regulations were published on April 25, 2008;

7. Final regulations under IRC Section 2036 regarding graduated grantor retained annuity trusts. Proposed regulations were published on April 30, 2009;

8. Revenue ruling on whether a grantor's retention of a power to substitute trust assets in exchange for assets of equal value, held in a non-fiduciary capacity, will cause insurance policies held in the trust to be includible in the grantor's gross estate under IRC Section 2042;

9. Guidance under IRC Section 2053 regarding personal guarantees and the application of present value concepts in determining the deductible amount of expenses and claims against an estate;

10. Revenue procedure for filing protective claims for refunds for amounts deductible under IRC Section 2053;

11. Notice on decanting of trusts under IRC Sections 2501 and 2601;

12. Final regulations under IRC Section 2642(g) regarding extensions of time to make allocations of the GST tax exemption. Proposed regulations were published on April 17, 2008;

13. Regulations under IRC Section 2704 regarding restrictions on the liquidation of an interest in certain corporations and partnerships; and

14. Guidance under IRC Section 2801 regarding the tax imposed on U.S. citizens and residents who receive gifts or bequests from certain expatriates.

IRS releases Form 8939 and instructions — The IRS recently released Form 8939 and its instructions. The form is filed in lieu of an estate tax return if the executor is electing carryover basis instead of estate tax under IRC Section 1022. In addition, Schedule R to the form allows the executor to allocate GST tax exemption to direct skips from the estate and from trusts. The instructions note that an executor may not file both a Form 706 and a conditional Form 8939 that would take effect only if an estate tax audit increases the decedent's gross estate. The executor must complete Schedule A for each person who receives property from the decedent and provide the relevant Schedule to each such recipient. Schedule A requires the executor to describe the property, the date the decedent acquired the property, the adjusted basis and fair market value of the property at death, the amount of gain that would be ordinary income and the allocation of basis increase, if any.

The instructions detail what property is eligible for the basis increase. Generally, eligible property is property owned by the decedent at the time of death, which includes, 50 percent of property owned jointly with a surviving spouse and property contributed to a qualified revocable trust. The executor must list all property, regardless of whether the executor allocates basis increase to the property. The instructions also provide examples of how to allocate basis when a recipient receives a partial interest in property from the decedent. For example, if a recipient receives a life estate or remainder interest in property (if such interests were created by the decedent at death), the basis increase must be allocated to the entire property; as a result, the recipient receives only a share of the basis increase, calculated using the applicable Section 7520 rates.

Executors must file the Form by Jan. 17, 2012 and can't revoke it once filed unless they file a subsequent form before the due date.