December 2007
LEGISLATIVE UPDATE
U.S. Court of Appeals Affirms Ruling that Doctrine of Substantial Compliance Does Not Entitle Trust to Deduction under I.R.C. § 2055
In Estate of Tamulis v. Commissioner, the U.S. Court of Appeals for the Seventh Circuit found that the estate failed to satisfy the doctrine of substantial compliance when the executor-trustee filed a statement with the decedent's estate tax return that the trust would be reformed as a charitable remainder unitrust, but failed to actually reform the trust through the required judicial proceeding. The ruling affirmed the U.S. Tax Court's 2006 findings, which disallowed the estate a deduction under I.R.C. § 2055 for the remainder interest in the trust passing to a charitable beneficiary. The interest did not qualify as a charitable remainder unitrust, charitable remainder annuity trust, or pooled income fund, nor did the trustee commence the required qualified reformation proceeding. Since a reformation proceeding was never commenced, the 2006 ruling determined that the remainder interest was not a "reformable interest" meeting the requirements for a deduction.
In 2000, Father Anthony J. Tamulis died leaving an estate of $3.4 million. Decedent's will directed that property, after payment of debts, expenses, and taxes, pass to his living trust. The trust provided for specific bequests to various charitable and noncharitable recipients, with net proceeds, including real estate, remaining in the trust for the longer of 10 years or the joint lives of the decedent's brother, John, and his wife, Mary. During that time John and Mary received a life estate in the real estate with the property taxes paid by the trust. In addition, specific amounts were to be paid annually from the net proceeds to several of decedent's relatives, if certain conditions were met, with the remainder of the trust's "net income" each year divided equally between two of decedent's grandnieces. Upon termination of the trust, the remaining trust assets were to pass to the Roman Catholic Diocese of Fall River, Massachusetts.
Upon examination the IRS determined that the charitable contribution deduction claimed by the estate for the remainder interest should not be allowed because the trust did not satisfy the requirements of I.R.C. § 2055, and, in 2003, issued a notice of deficiency. In 2006, the estate argued before the U.S. Tax Court (Estate of Tamulis v. C.I.R., T.C. Memo. 2006-183, T.C.M. (RIA) P 2006-183, 92 T.C.M. (CCH) 189 (2006), aff’d, 2007 WL 4191981 (7th Cir. 2007)) that the statement on the estate tax return served either to amend the trust into a CRUT or to signify the trustee’s intent to operate the trust as a CRUT. This, along with the fact that the trust was managed in accordance with the requirements for a CRUT, as the total annual distributions to the noncharitable beneficiaries were equal to 5 percent of the fair market value of the trust's assets in each of the years 2001 through 2004, should be deemed substantial compliance with the Code. The court rejected these arguments and found that since no qualified reformation proceeding was actually commenced, the remainder interest was not a "reformable interest" that could meet the requirements for a deduction under I.R.C. § 2055(e)(2).
The trustee’s argument was renewed on appeal before the U.S. Court of Appeals for the Seventh Circuit in 2007. Upon rejecting the argument, the court noted:
There is a doctrine of substantial compliance with the often intricate and obscure provisions of the Internal Revenue Code.Tamulis's charitable remainder trust flunks this test. The executor-trustee, represented by counsel, as he was, and well aware that a substantial tax deduction was at stake, had no excuse for failing to bring the required judicial proceeding to reform the trust. The requirement is not unimportant; it protects against efforts to bend trust law to get a tax benefit. Nor is the requirement stated unclearly or confusingly in the Code or in any regulation — it is perfectly clear. Until the trust was reformed, compliance with the spirit of the Code's provisions dealing with charitable remainder trusts had depended largely on the good faith of the trustee; had Congress thought this enough it would not have amended the Code as it did in 1969.
Source: Westlaw:
Tamulis v. C.I.R., 2007 WL 4191981 (7th Cir. 2007); United States Court of Appeals for the 7th Circuit Opinions: Estate of Anthony J. Tamulis et al. v. C.I.R , 7th Cir., No. 06-4141, November 29, 2007; see also United States Tax Court Opinions: Estate of Anthony J. Tamulis et al. v. C.I.R.,
T.C. Memo. 2006-183, August 29, 2006..
House Subcommittee Seeks Treasury Assistance on STOLI Transactions Targeted to Elderly
Last month, the members of the House Ways and Means Select Revenue Measures Subcommittee issued a letter to Henry M. Paulson, Secretary, United States Department of Treasury requesting the Treasury's "assistance with a serious tax issue impacting unsuspecting elderly Americans." In the letter, lawmakers requested the Treasury's assistance in notifying elderly taxpayers of the potential tax consequences of investing in a life insurance product known as Stranger-Originated, or Stranger-Owned, Life Insurance ("STOLI"), noting that these transactions can leave elderly Americans with an unexpected tax liability.
Authors, Subcommittee Chairman Richard Neal (D-Mass.) and ranking member Phil English (R-Pa.), noted that there are several variations of the product being marketed, typically to high net worth elderly individuals, and acknowledged that the state law treatment of a STOLI policy is not within the jurisdiction of the Treasury. However, due to federal tax consequences on settlement of the policy, STOLI transactions have been the subject of increasing concern since, depending upon the structure, the rules concerning cancellation of indebtedness income may come into play or the terms for the initial arrangement may not qualify as true indebtedness, thus exposing the insured to income inclusion.
The Subcommittee stated that their intention is not to inhibit the ability of individuals to legitimately settle life insurance policies. Rather, they are requesting the Treasury's assistance in notifying the elderly of the adverse tax consequences of investing in a product that is in fact "too good to be true."
Source: Westlaw: Insurance:
Lawmakers Seek Treasury Guidance For Elderly on STOLI Transactions,
228 DTR G-3, 2007; House Committee on Ways and Means,
Paulson.STOLI.Letter, November 16, 2007.
IRS Addresses Acceptance of Stock as Collateral for Lien under I.R.C. § 6324A
Recently, the Internal Revenue Service Office of Chief Counsel issued an advisory memorandum (C.C.A. 200747019) in response to questions regarding the Service's acceptance of stock as collateral for a lien under I.R.C. § 6324A. The memorandum focuses mostly on stock in a closely-held corporation, but notes that the principles discussed also apply to interests in a limited liability company and/or a partnership.
One of the main issues addressed was whether, and under what circumstances, stock in a closely held corporation meets the requirements of § 6324A as property which may be pledged in support of the election by the estate under I.R.C. § 6166(k)(2), and related Treas.Regs. §§ 20.6324A-1 and 301.6324A-1. I.R.C. § 6324A(c)(1)(A) provides that collateral offered as security for the lien may be an interest in "real and other property." The Service states that stock in a closely held corporation qualifies as "other property" and may be accepted if the three statutory requirements in section 6324A(b)(1) and (2) are met. The first requirement is that the stock must be expected to survive the deferral period, meaning that the corporation must survive and retain value. Second, the stock must be identified in a written agreement described under I.R.C. § 6324A(b)(1)(B), filed by the executor, and indicate that all persons having an interest in the collateral agree to the creation of the lien. Third, the stock’s value as of the date of the agreement must be sufficient to pay the deferred taxes plus required interest. According to the advisory, if these three requirements are met, the Service must accept the closely held stock as collateral.
Other issues addressed include:
- Requirements the Service may impose on an estate which has pledged stock as collateral in order to determine whether there has been a disposition of interest or withdrawal of funds from the business that would trigger the acceleration of payment under section 6166(g)(1).
- Steps the Service should use to secure its interest in the stock.
- Whether full audits should be required of all estate tax returns when estates propose using closely held stock as security under section 6324A.
- What procedure must be followed in determining whether the stock adequately secures the government's interest.
Source: Westlaw: IRS CCA 200747019,
2007 WL 4141477; Internal Revenue Service, Office of Chief Counsel,
CCA 200747019, IRS Guidance - Released November 23, 2007.
IRS Releases 2008 Standard Mileage Rates
In Revenue Procedure 2007-70. the Internal Revenue Service announced the new optional standard mileage rates to use beginning January 1, 2008 when computing the deduction for operating an automobile for business, charitable, medical or moving expense purposes. These rates will be:
- 50.5 cents a mile when computing deductible business miles;
- 19 cents a mile when computing deductible medical or moving expenses; and
- 14 cents a mile when providing services to a charitable organization
Rules for substantiating the deductible expenses of using an automobile for business, moving, medical, or charitable purposes and limitations on the use of the standard mileage rates are also provided in the procedure.
Source: Westlaw: Rev. Proc. 2007-70,
2007 WL 4173415: Internal Revenue Service:
IRS Announces 2008 Standard Mileage Rates; Rate for Business Miles Set at 50.5 Cents per Mile,
IR-2007-192, Nov. 27, 2007, News Releases for November 2007.
Applicable Federal Rates for December (REV. RUL. 2007-70)
TABLE 1
Applicable Federal Rates (AFR) for December 2007
Period for Compounding
| |
Annual |
Semiannual |
Quarterly |
Monthly |
| Short-term |
| AFR |
3.88% |
3.84% |
3.82% |
3.81% |
| 110% AFR |
4.26% |
4.22% |
4.20% |
4.18% |
| 120% AFR |
4.66% |
4.61% |
4.58% |
4.57% |
| 130% AFR |
5.05% |
4.99% |
4.96% |
4.94% |
| Mid-term |
| AFR |
4.13% |
4.09% |
4.07% |
4.06% |
| 110% AFR |
4.55% |
4.50% |
4.47% |
4.46% |
| 120% AFR |
4.97% |
4.91% |
4.88% |
4.86% |
| 130% AFR |
5.39% |
5.32% |
5.29% |
5.26% |
| 150% AFR |
6.23% |
6.14% |
6.09% |
6.06% |
| 175% AFR |
7.29% |
7.16% |
7.10% |
7.06% |
| Long-term |
| AFR |
4.72% |
4.67% |
4.64% |
4.63% |
| 110% AFR |
5.21% |
5.14% |
5.11% |
5.09% |
| 120% AFR |
5.68% |
5.60% |
5.56% |
5.54% |
| 130% AFR |
6.16% |
6.07% |
6.02% |
5.99% |
TABLE 2
Adjusted AFR for December 2007 for purposes of I.R.C. § 1288(b)
Period for Compounding
| |
Annual |
Semiannual |
Quarterly |
Monthly |
| Short-term adjusted AFR |
3.40% |
3.37% |
3.36% |
3.35% |
| Mid-term adjusted AFR |
3.67% |
3.64% |
3.62% |
3.61% |
| Long-term adjusted AFR |
4.34% |
4.29% |
4.27% |
4.25% |
TABLE 3
Rates under I.R.C. § 382(f) for December 2007
| Adjusted federal long-term rate for the current month |
4.34% |
| Long-term tax-exempt rate for ownership changes during the current month (the highest of the adjusted federal long-term rates for the current month and the prior two months.) |
4.49% |
TABLE 4
Appropriate Percentages under I.R.C. § 42(b)(2) for December 2007
| Appropriate percentage for the 70% present value low-income housing credit |
8.03% |
| Appropriate percentage for the 30% present value low-income housing credit |
3.44% |
TABLE 5
Rate under I.R.C. § 7520 for December 2007
| Applicable federal rate for determining the present value of an annuity, an interest for life or a term of years, or a remainder or reversionary interest |
5.0% |
| Applicable rate of interest for 2008 for purposes of I.R.C. § 846 and I.R.C. § 807 |
4.06% |
Source: Westlaw: Rev. Rul. 2007-70,
2007 WL 4107164; Internal Revenue Service:
Rev. Rul. 2007-70, 2007-50 I.R.B., published December 8, 2007.