Aug 1, 2009 12:00 PM

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David A. Handler, partner, in the Chicago office of Kirkland & Ellis LLP.

• Conversion to grantor trust not taxable to grantor — In Chief Counsel Advice 200923024, dated Dec. 31, 2008, Internal Revenue Service senior counsel addressed the income tax consequences of conversion of a non-grantor trust to a grantor trust. In the transaction at issue, interests in a partnership that owned appreciated stock were sold to a non-grantor trust by the grantor in exchange for a private annuity. As such, the gain would be reported and taxed ratably over the duration of the annuity. The partnership then sold the stock in an IPO for cash roughly equal to its inside basis in the stock. Subsequently, the trust was converted to a grantor trust, with the result that the grantor would no longer realize gain on the annuity payments received from his grantor trust, based on Revenue Ruling 85-13.

  While acknowledging the transaction was abusive, the IRS concluded that the conversion should not be treated as a transfer for income tax purposes of the property held by the non-grantor trust to the grantor (as the new owner for income tax purposes) and the grantor should not recognize gain upon the conversion. The Service noted that non-grantor trusts become grantor trusts in many non-abusive transactions, such as a mere change in trustee, and accordingly stated that it “should not take the position that the mere conversion of a nongrantor trust to a grantor trust results in taxable income to the grantor.”

• Another reverse QPRT approved — In Private Letter Ruling 200920033, dated Feb. 3, 2009, the IRS ruled on another “reverse QPRT.” In this ruling, a “normal” QPRT — that is, a qualified personal residence trust — had ended and ownership of the residence had passed to the son. The son planned to create another QPRT under which his parents would have the right to use the residence for a term of years, with the son retaining the reversion interest (a “reverse QPRT.”) Internal Revenue Code Sections 2702(a)(1) and (a)(2) provide that when an individual makes a transfer to a member of his family, the value of any interest retained by the transferor is zero unless the interest is a qualified interest. But Section 25.2702-5(c)(5) of the Gift Tax Regulations provides that IRC Section 2702(a) does not apply to any transfer of an interest in trust, all the property in which consists of a residence to be used as a personal residence by persons holding term interests in such trust. This exception to Section 2702(a) applies only if the trust instrument is substantially similar to the sample in Section 4 of Revenue Procedure 2003-42, the trust operates in a manner consistent with the terms of the trust instrument and the residence qualifies as a personal residence under Section 25.2702-5(c)(2) of the Gift Tax Regulations.

  Although a grantor typically uses a QPRT to gift the remainder interest in a residence while retaining use of the residence for a term of years, the IRS held that a trust can qualify as a QPRT when the grantor gifted the use of the property for a term of years and retained the reversion. The IRS reached the same conclusions in PLRs 200848003, 200814011, 200904022 and 200848007, among others.¹ But this latest ruling notes that “no opinion is expressed or implied concerning whether the transfer of Residence to Trust 2 would result in Residence being included in the gross estate of Father under § 2036.” The IRS is keeping the door open to claiming there was an express or implied agreement that, after the first QPRT term ended, the son would re-transfer the home to the reverse QPRT so that the father could continue using it for his lifetime.

  1. Two of these private letter rulings are discussed in detail in the “Tax Law Update,” Trusts & Estates, February 2009, at p. 10.

• Timing is everything in dismissal of a discount case — The District Court for the Western District of Washington has granted the government's motion for summary judgment against William and Stacy Linton in Linton v. United States, U.S. District Court for the Western District of Washington; C08-227Z, July 1, 2009 (2009-2 USTC para. 60,575). In December 2002, Bill Linton formed WFLB Investments, LLC. On Jan. 22, 2003 (1) Bill transferred 50 percent of the limited liability company (LLC) to Stacy; (2) he conveyed securities and real estate to the LLC; (3) Bill and Stacy executed trusts for each of their four children; and (4) Bill and Stacy executed documents transferring LLC interests to each of the trusts.

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Topics of Interest

Estate Tax	Donor Advised Funds
GSTs	Family Offices
Private Foundations	Life Insurance
2010 Tax Act News	Industry Trends Surveys

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2011 Trust Glossary

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50 years ago, in May 1962, we featured articles such as: "Future of Canadian Trusteeship" by Arthur H. Mingay", "Training Trust Employees" by Ian M. Marr, "What is a Trust Officer?" by Eric J. Brown, and "Selling Services" by Donald I. Webb.

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