Gift tax question

[Florida]

Man transfers life insurance policy worth $30,000 to irrevocable trust ('trust'). The trust's beneficiaries are the man's wife, the man's child, and any children of the man's child (grandchildren).

So far, only the wife and child are alive and have had a meaningful opportunity to withdraw an amount equal to 12,000.

This leaves an interesting question for the 709 - who do you report as the beneficiaries and how much do you allocate to them? With fast tax, the program defaults to showing the gift to the trust, and under the trust, 2 beneficiaries, the wife, allocated 15,000 of which 12,000 is characterized as a present interest gift, and the child, 15,000 of which 12,000 is characterized as a present interest gift.

The GST allocation will show 30,000 allocated since there is a chance that a non-skip person would receive the property (the trust does not qualify as a direct skip trust, etc.)

$6,000 would be taxable and there is plenty of the lifetime credit to offset any tax.

Someone else suggested showing two gifts of 12,000, one to the wife, and one to the child, and then a 6,000 gift to the "remaindermen" of the trust.

Which way would you recommend?

[Investor]

I am several months late responding to this, but the first question is - what are the terms of the trust? Does the wife have all income and principal for life, then to kid, then to kids of kids?

Second, and more important to your question - how are the Crummey powers written? Who has the right to withdrawal? This is the key to determining how much gift is allocated to which beneficiary.

Secondly, you are better off, IMO, to gift $30,000 cash to the trust and have the trust purchase the policy. This eliminates the problem with retained interests. If you do this, you must ensure that the trust qualifies as a grantor trust for income tax purposes to avoid the transfer for value rules.

No matter what, there should be no GST on this if the grandkids are merely contingent remaindermen.

[Investor]

The one caveat is the IRS has a 3 year look-back rule, which means that once the policy is transferred to the ILIT, if the insured dies within 3 years of the transfer, the policy will be included in the decedant's estate - assuming the decedant was the one who transferred ownership from self to the ILIT.

That is why I suggested gifting cash and then buying the policy from the policyholder instead of gifting the policy. There is no three year look back if the policy is transferred purchase instead of by gift. The trick is to avoid the transfer for value rules while doing this. That requires the ILIT to be an intentionally defective grantor trust.

[Investor]

You do know that probably 90% of the readers are going "HUH?"

Yeah, but I don't do that type of work anymore and kind of liked the opportunity to talk about it. Brings back memories.

[Florida]

I am several months late responding to this, but the first question is - what are the terms of the trust? Does the wife have all income and principal for life, then to kid, then to kids of kids?

Second, and more important to your question - how are the Crummey powers written? Who has the right to withdrawal? This is the key to determining how much gift is allocated to which beneficiary.

Secondly, you are better off, IMO, to gift $30,000 cash to the trust and have the trust purchase the policy. This eliminates the problem with retained interests. If you do this, you must ensure that the trust qualifies as a grantor trust for income tax purposes to avoid the transfer for value rules.

No matter what, there should be no GST on this if the grandkids are merely contingent remaindermen.

I need to go back and read the trust, i believe it was discretionary p/i to wife and one child.

both have draw-down powers, limited to the annual exclusion amount.

Even if the remaindermen are contingent, there is a possibility that the gifts made to the trust will someday wind up in their hands, right? i don't think the annual exclusion will operate to shield the gift from gst.

if both have draw downs of 12,000, gift is 30,000, only 2 present individuals with drawdown rights, who do you show as getting the remaining 6,000 dollars? the software shows 15,000 going to each the spouse and the son. obviously the reconciliation page will show the 24,000 of annual exclusion, leaving 6,000 subject to tax. I think the whole 30,000 should have gst allocated to it, but i could be wrong.

[Investor]

You say they both (wife and child) have draw down powers up to the annual exclusion, but what is the language? Does it give them the right to draw a proportionate share up to the annual exclusion, does one draw the annual exclusion and the other draw the rest up to the annual exclusion? Often, when a spouse is beneficiary, he/she is given additional withdrawal rights to solve the problem you have here. If child has w/d rights up to annual exclusion, and wife has w/d rights equal to any remaining amount of current gift, that should eliminate any gift tax consequences (gifts to a spouse may be made to an unlimited extent).

The GST is much more complex than what you are contemplating here. There are very complex Regs concerning when gifts will or will not be automatically allocated against the GST exemption, you have a choice in the matter. The GST does not kick in until there is a distribution to a skip person (or the trust has only skip person beneficiaries left). The choice of whether you want to use GST exemption on that gift is completely yours - it is not mandated one way or the other. If you chose to use no GST exemption on the gifts (the wise thing, given what I know thus far) then the trust will have an inclusion ratio of 1, meaning that all distributions to skip persons will be subject to GST when made. If you allocate all gifts against the GST exemption (a waste, considering what I know thus far), the trust will have an inclusion ratio or zero, meaning that no distributions to skip persons will be subject to GST when made.

This is a tactical allocation, not a mandatory one. The reason I say that no part of the gift should be allocated to GST is that if the skip persons are merely contingent benificiaries, the odds of them ever taking is remote and use of the GST exemption for those gifts is just a waste of the exemption.

This is an area that begs for serious reading and consultation with an expert if you are not clear on the rules. This is fertile ground for professional malpractice.

* - I think that I'm supposed to say something like "this does not constitute legal advice and that Circular 230 requires me to inform you that this cannot be relied upon to avoid penalties and some other stuff that I can't remember right now. Bottom line, if you are reading this, you are not my client - go get a lawyer/CPA of your own". Does that fulfill my obligation of disclaimer?

[Florida]

You say they both (wife and child) have draw down powers up to the annual exclusion, but what is the language? Does it give them the right to draw a proportionate share up to the annual exclusion, does one draw the annual exclusion and the other draw the rest up to the annual exclusion? Often, when a spouse is beneficiary, he/she is given additional withdrawal rights to solve the problem you have here. If child has w/d rights up to annual exclusion, and wife has w/d rights equal to any remaining amount of current gift, that should eliminate any gift tax consequences (gifts to a spouse may be made to an unlimited extent).

The GST is much more complex than what you are contemplating here. There are very complex Regs concerning when gifts will or will not be automatically allocated against the GST exemption, you have a choice in the matter. The GST does not kick in until there is a distribution to a skip person (or the trust has only skip person beneficiaries left). The choice of whether you want to use GST exemption on that gift is completely yours - it is not mandated one way or the other. If you chose to use no GST exemption on the gifts (the wise thing, given what I know thus far) then the trust will have an inclusion ratio of 1, meaning that all distributions to skip persons will be subject to GST when made. If you allocate all gifts against the GST exemption (a waste, considering what I know thus far), the trust will have an inclusion ratio or zero, meaning that no distributions to skip persons will be subject to GST when made.

This is a tactical allocation, not a mandatory one. The reason I say that no part of the gift should be allocated to GST is that if the skip persons are merely contingent benificiaries, the odds of them ever taking is remote and use of the GST exemption for those gifts is just a waste of the exemption.

This is an area that begs for serious reading and consultation with an expert if you are not clear on the rules. This is fertile ground for professional malpractice.

* - I think that I'm supposed to say something like "this does not constitute legal advice and that Circular 230 requires me to inform you that this cannot be relied upon to avoid penalties and some other stuff that I can't remember right now. Bottom line, if you are reading this, you are not my client - go get a lawyer/CPA of your own". Does that fulfill my obligation of disclaimer?

Yes, I am aware of the deemed allocation rules. And you are correct, I am trying to make sure there isn't a GST tax on distribution (or termination). You don't have to worry about IRS penalties, because I think I noted that this return is completely covered by the donor's lifetime gift tax credit. There is no special clause giving the spouse extra withdrawal rights over extra amounts. I'm saying full GST allocation because there are some "complex" rules about when the GST allcoation is necessary in present interest gift situations that fall under the annual gift tax exclusion amount. I believe I've correctly identified this situation as such.

The main issue is one of reporting - how do you report the excess gift amount on the Form 709? I'm talking about the form that people use to report gift taxes. I was hoping someone actually filed one and was familiar with instances like this, where no tax is due, but you want to report accurately. I've heard some professionals say create an entry for "remaindermen" and I've heard some say "just split it down the middle as a gift to both in equal amounts."


I appreciate your commentary on the deemed allocation rules, however, in addition to your recognition of their complexity. Thank you.

[Investor]

Florida, I again say you are making a BIG mistake to allocate any of this gift to GST exemption. This is an indirect skip. There is no reason to allocate GST exemption unless there is a very good chance that a skip person will one day receive a distribution from the trust. 99% of ILIT's I've seen in my life (and I've seen a lot) give the children the right to take the corpus by a certain age (typically no older than 35). As there is a very high likelihood that the children will live to 35 (given my example) the any allocation of the gift againt the GST exemption was a complete waste of exemption - and certainly not required by law.

And I apologize if I missed the real question in all of this. I have prepared more 709's in my life than I care to say. I will re-read the original post and see what the original questin was re: allocating gift above and beyond the gift tax annual exclusion amount.

[Florida]

Florida, I again say you are making a BIG mistake to allocate any of this gift to GST exemption. This is an indirect skip. There is no reason to allocate GST exemption unless there is a very good chance that a skip person will one day receive a distribution from the trust. 99% of ILIT's I've seen in my life (and I've seen a lot) give the children the right to take the corpus by a certain age (typically no older than 35). As there is a very high likelihood that the children will live to 35 (given my example) the any allocation of the gift againt the GST exemption was a complete waste of exemption - and certainly not required by law.

And I apologize if I missed the real question in all of this. I have prepared more 709's in my life than I care to say. I will re-read the original post and see what the original questin was re: allocating gift above and beyond the gift tax annual exclusion amount.

Investor, even if you've seen every single ILIT ever made, it wouldn't matter, because the dispositive provisions of this particular trust is what is at issue.

So I appreciate that you've seen a lot, but in this particular trust, upon Settlor's death, the property is held for the benefit of the surviving spouse for her life, then the property goes to Settlor's child at her death*. If Settlor's child is not alive, the property goes to the child's issue, per stirpes.

We are dealing with a second marriage, and a child from one of the prior marriages, and that child has been provided for in other ways which I have not divulged because it has absolutely nothing to do with the reporting of the 709 that I'm asking about.

*But before the property goes to the child, the spouse has a power of appointment. She can appoint the trust property to a certain class of persons, what we call a "special" or "limited" power of appointment. This class of persons does not include her estate, her creditors or the creditors of her estate. The class of persons for which she may choose to exercise this power of appointment does include skip persons. There are other descendants of the Settlor out there, who are most certainly skip persons, for whom the spouse may choose to provide.

So, as long as the trust property is not included in Settlors gross estate (and there is also language establishing a spousal trust as a savings clause just in case that were to occur, since I noticed someone wanted to discuss the 3 year rule), there is a chance that it will go to skip persons. But even if it does fall into the decedent's estate, for any reason, call it 2036 or 2035, the spouse, by the terms of the trust, becomes the transferor via a GPOA. In that situation, SHE may use her own GST exemption.

Do I really have to stay up at night worrying about allocating GST in the amount of 30,000 on a transfer given these facts? What are the odds the surviving spouse will exercise her special power of appointment? Will the husband die first, then the wife, but without her exercising her LPOA? I have no idea. Nor do I wish to engage in a lengthy discussion of whether she will or she will not.

This is why I asked the specific qustion that I did, namely, how do you report the excess gift on the 709. I appreciate that people want to troubleshoot other issues not raised but they are not issues in my mind. Don't get me wrong, I do enjoy reading about the 3 year rule and the deemed allocation rules. I certainly would prefer people speak up as to any issue as opposed to no issue.

But when it starts going down the lines of passive accusations of legal malpractice, I feel the need to at least address the issues not raised. I see your disclaimer, but its my ass on the line. I wouldn't dare tell someone I relied on an anonymous poster from an internet forum for legal advice with which i later provided to the client...without first backing the advice up on my own. So you don't have to worry about that on your end. Its my ass on the line, not yours.

[Investor]

But when it starts going down the lines of passive accusations of legal malpractice, I feel the need to at least address the issues not raised. I see your disclaimer, but its my ass on the line. I wouldn't dare tell someone I relied on an anonymous poster from an internet forum for legal advice with which i later provided to the client...without first backing the advice up on my own. So you don't have to worry about that on your end. Its my ass on the line, not yours.

Florida, my apologies if you felt I was making a passive accusation of malpractice, I certainly was not. I was merely pointing out that this is an area in which there are many such claims made and that any professional should be extremely careful in these waters.

As for the disclaimer, it was directed at you, it was my way of poking fun at what I feel are silly requirements under Circ. 230. I am certainly not here attempting to say "I know more than you", and I hope I have not come off that way. I merely see a situation in which (and I prefaced my earlier response on this) based on the facts given, it appears that there is a remote likelihood of remaindermen taking and therefore no need to allocate GST. I agree with you that the dispositive provisions of the specific trust is the only thing of significance - and I hate blanket statements made without knowledge of such provisions (I've dealt with many a CPA who has prepared 709, 706 and 1041 without even reading the document). If you think there is a likely chance that a skip person will take under these circumstances, then that does change things. Obviously your role as the professional is to attempt to explain all of this to the trustee (good luck) and ask them for the final call. Good luck, allocations are a tricky thing when the ultimate benficiaries are not known with any degree of certainty.

Again, I hope you don't think I was make accusations of malpractice or of lack of expertise. My comment was merely a warning that this is an area where many professionals get themselves into trouble.

[Florida]

But when it starts going down the lines of passive accusations of legal malpractice, I feel the need to at least address the issues not raised. I see your disclaimer, but its my ass on the line. I wouldn't dare tell someone I relied on an anonymous poster from an internet forum for legal advice with which i later provided to the client...without first backing the advice up on my own. So you don't have to worry about that on your end. Its my ass on the line, not yours.

Florida, my apologies if you felt I was making a passive accusation of malpractice, I certainly was not. I was merely pointing out that this is an area in which there are many such claims made and that any professional should be extremely careful in these waters.

As for the disclaimer, it was directed at you, it was my way of poking fun at what I feel are silly requirements under Circ. 230. I am certainly not here attempting to say "I know more than you", and I hope I have not come off that way. I merely see a situation in which (and I prefaced my earlier response on this) based on the facts given, it appears that there is a remote likelihood of remaindermen taking and therefore no need to allocate GST. I agree with you that the dispositive provisions of the specific trust is the only thing of significance - and I hate blanket statements made without knowledge of such provisions (I've dealt with many a CPA who has prepared 709, 706 and 1041 without even reading the document). If you think there is a likely chance that a skip person will take under these circumstances, then that does change things. Obviously your role as the professional is to attempt to explain all of this to the trustee (good luck) and ask them for the final call. Good luck, allocations are a tricky thing when the ultimate benficiaries are not known with any degree of certainty.

Again, I hope you don't think I was make accusations of malpractice or of lack of expertise. My comment was merely a warning that this is an area where many professionals get themselves into trouble.

I especially look forward to reading your posts because they are often times the most accurate and provide the most analysis. Like I said, I would rather someone take the time to post something than nothing, especially you since I value your opinions. I just wanted to make it clear that a thorough review of the governing documents at hand is our polestar in preparing their related transfer tax returns.

[Investor]

I just wanted to make it clear that a thorough review of the governing documents at hand is our polestar in preparing their related transfer tax returns.

And that alone makes you better than 90% of the preparers out there, IMO. Thanks for the kind words.