Summary of Hot Trust & Estate Topics from 2022 and Early 2023

“Summary of Hot Trusts and Estates Topics in 2022 and Early 2023,” that’s the subject of today’s ACTEC Trust and Estate Talk.

Transcript/Show Notes

This is Doug Stanley, ACTEC Fellow from St. Louis, Missouri.  ACTEC Fellows Andrea Chomakos from Charlotte, North Carolina, and Bob Kirkland of Liberty, Missouri will review recent cases including tax case holdings, IRS rulings, and other recent developments impacting estate planners, and will highlight some of the items discussed at the Hot Topics session of the recent ACTEC 2023 Annual Meeting. A separate podcast will feature Dana Fitzsimons wherein he will focus on recent developments in Fiduciary Administration and Litigation. Welcome, Andrea and Bob.

Code Section 2053 Guidance: Present Value Concepts in Estate Deductions

Andrea Chomakos:  Thank you, we really appreciate the opportunity to share with our listeners some of the highlights that Bob and I covered as to recent developments from 2022 and the early part of 2023. I’ll kick us off with some notes and highlights about the proposed regulations under Code Section 2053. Those proposed regulations cover a number of things, but I’m going to highlight two areas specifically. The first is that the new proposed regulations extend the present value computation requirements for non-contingent, non-recurring obligations of an estate.

Under the current regulations, the present value computation is required for recurring non-contingent obligations, so this would extend those concepts and apply them to any non-contingent obligation of an estate to make a payment more than three years after the anniversary of the decedent’s death. In those situations, the estate is required to compute the present value of that expense or claim and provide supporting computation of that calculation. The calculation involves using the Applicable Federal Rate for the month in which the decedent died, using either the mid-term rate for expenses or claims paid between the third and nine year anniversary of the decedent’s death, and the long-term rate for payments of expenses or claims made after the ninth anniversary of that death. So, that is certainly, a new wrinkle to the estate tax return preparation, so just be cognizant of that when these regulations go final, and that will be the effective date for using that present value computation.

The other noteworthy aspect of the proposed 2053 regulations is the additional guidance provided in the regulations regarding the deductibility of interest incurred on  a debt to pay estate taxes. What we all know is that interest incurred on a debt for the payment of estate taxes is deductible if there is a contractual loan arrangement.

The interest and the loan are bonafide in nature. And then, additionally, the regulations require that the loan terms are actually necessarily incurred in the administration of the estate, and emphasis added, essential to the proper settlement of the estate. These proposed regulations include and provide an 11-factor list to support a determination or finding that the essential to the proper settlement of the estate requirements are satisfied. And I’m not going to cover all 11 of those, but I’m going to note four of particular note and interest.

Proposed Factors That Determine “Essential” to Settlement of the Estate

• The first one is that the only practical alternative to the loan is the sale of assets at a significant discount, the forced liquidation of an entity conducting an active trader business, or “some similarly undesirable course of action.”
• The second one is that the estate does not have control of an entity with liquid assets to satisfy the liabilities. The estate has no power to compel an entity to sell liquid assets and make a distribution and the estate is expected to have sufficient cash flow to support the loan payments.
• The third is that the estate’s illiquidity does not occur as a result of a testamentary plan to create illiquidity or action or inaction of the personal representative when a reasonable alternative could’ve avoided or mitigated illiquidity.
• And the fourth is that this lender is not a substantial beneficiary or an entity over which a substantial beneficiary has control.

That last one obviously is very important to us estate planners as we structure through our estate plans and our giving advice and planning for providing liquidity to the estate in terms of making a loan from either a beneficiary or entity controlled by a beneficiary, implicating, obviously, the Graegin loan strategy that many people use. So, with that, I’m going to turn it now over to Bob. He’s going to give us some updates on the Secure Act and Secure 2.0.

Secure Act 2.0

Bob Kirkland: Well thanks, Andrea. Yes. We all know about the incredible sea change that the Secure Act brought to us in 2020. We then had proposed regulations issued by the IRS in late February of 2022. Several bodies of professionals submitted comments to those proposed regulations. The comment period ended roughly at the end of May last year. You can go to the ACTEC website and see ACTEC’s excellent comments about 16 of us worked for a couple of months to put those together.

Unfortunately, the regs remain in proposed fashion, and really no clear hint of when those regs may be finalized. Part of it, I think, is because, at the end of 2022, the Secure Act 2.0 became law on December 29th. Several interesting changes in that law, in that act, that affect estate planners.

SECURE Act 2.0 – Age Update

There’s another increase of the required beginning date to age 72 for those who attain, I’m sorry, to age 73 for those who attain 72 after 2022, and then, again, a bump up to age 75 for those who attain age 74 after 2032. Current law allows catch-up contributions for persons who are age 50 and older to retirement plans.  Beginning in 2025, the limit for those aged between 60 and 63- so a narrow sample- they can bump up their catch-up contributions to their retirement plans to an amount equal to the greater of $10,000 or 150% of the 2024 catch-up amount.

SECURE Act 2.0 – 529 Plan Update

A significant development for our clients who have beneficiaries of a 529 Plan and don’t use it all for education, the Secure Act 2.0 allows the beneficiary to roll over up to $35,000 over their lifetime from the 529 account to a Roth IRA. The rollover is subject to normal Roth IRA annual contribution limits and the 529 account must have been in effect for more than 15 years. The penalty for failing to take RMDs is reduced from the draconian rate of 50%, which has been in place for a long time, to 25%.

So, that’s a significant development. That penalty could be further reduced to 10% if the missed distribution is corrected in a timely manner. Query what a timely manner is, but I’m sure we’ll know soon.

SECURE Act 2.0 – Charitable IRA Rollover

Significant and positive changes to the Charitable IRA rollover account were made in the Secure Act 2.0. Mainly, the $100,000 annual limit is now going to be subject to cost-of-living adjustments and a special provision that allows a one-time transfer from the IRA of up to $50,000, one time during life, to either a charitable gift annuity or a charitable remainder trust. Now, practically, I’m not sure the CRT (Charitable Remainder Trust) option is really valid or viable, because not many people are going to pay a lawyer to prepare a CRT instrument for a $50,000 contribution, but the charitable gift annuity is a nice development because doesn’t take a lot of legal work; the charities offer those directly, so think about that for your clients. I think that’s it for the highlights of what Secure Act 2.0 did. Definitely, there are materials out there that fill in the nits and nats on that.

Donor Advised Funds (DAF) Caution

I’m now going to jump to another topic that we talked about recently in hot topics and that is Donor Advised Funds. And just briefly, kind of a note that for me, I love Donor Advised Funds. I don’t know why anyone would do a private foundation when you can do a Donor Advised Fund. Our providers have become more and more sophisticated and can take a variety of types of gifts, but I think we need to have our heads on a swivel as planners. And here are some stats that make me cautious now.

Bloomberg reported recently that over $4 billion flowed from private foundations into Donor Advised Funds since 2016. A study by the Council of Michigan Foundations found that the majority of DAF accounts paid out less than five percent of their assets in 2020. More than a third of the Donor Advised Fund accounts paid out nothing to charity in 2020. Meanwhile, as of 2020, Donor Advised Funds hold about 160 billion in assets. We know when something gets big or becomes “a hog”, they’re up for slaughter. And certainly, there’s a lot of noise around the need for regulation of Donor Advised Funds. Let’s keep our eyes on that. For now, I’m going to toss it back to Andrea for some more exciting news.

Charitable Remainder Trusts, Sprinkle CRUT, U.S. v. Eickhoff

Andrea Chomakos: Thanks, Bob. Let’s stay on the topic of charities and charitable giving. Earlier in this year in 2023, the IRS released Chief Counsel Advice 20233014. That’s 3-0-1-4. Reversing the position of the IRS through the publication of four – at least four prior PLRs, which previously had permitted the deduction in full for values transferred to a CRUT that provided for payment of the unitrust amount between the spouse and/or charity.

Now, if you kind of step back and think intuitively, if a CRUT is established, we know the remainder interest is going to charity and if the unitrust interest is required to be paid either to the spouse or charity, intuitively, you would think, gosh, clearly, all of this is going to a spouse or charity. We should get a full deduction. Right? Makes sense. The devil’s always in the details. Right?

So, in this CCA, the IRS reversed its position, taking a methodical look through the requirements of the code and found that, in this instance, the CRUT required that 25% of the unitrust amount be paid to the surviving, to the spouse, and that the balance could be paid, in the trustee’s discretion, to either the spouse or charity. The IRS  in the CCA held that the 25% amount of the unitrust payment going to the spouse qualifies for the marital deduction, but that the 75% does not qualify for either the marital or the charitable deduction; noting, specifically, that the charity’s interest in the unitrust payment is not a qualified fixed unitrust amount under the code, and therefore, is not eligible for a deduction under the split-interest trust rules.

Further, the 75% that could be paid to either the spouse or the charity also doesn’t qualify under Code Section 2056 as an amount ascertainable, and therefore, is not eligible for the marital deduction under 2056. So again, the devil’s in the details here. Strictly speaking, that 75% of the unitrust payment did not qualify under the code for either the marital or the charitable deduction. Just a good reminder here to take a look at any testamentary plans that you may have drafted that fund a CRUT that has this type of provision in it, which was drafted in reliance on the prior PLRs that we now have this CCA that would deny that deduction for that 75% sprinkle amount of the unitrust payment.

The next one I want to cover is one that I think is just fascinating because I think that as estate planners, we always try to do the right thing for our clients. You know, closely look at strategies, but also, recognize that there are a lot of people out there who are promoting transactions that may not pass muster, and this is really one in which that occurred and both the IRS and the Department of Justice got wind of it. So, it starts off with a case, which is referred to as U.S. v. Eickhoff. E-I-C-K-H-O-F-F. In which the promoters of a CRAT transaction were able to get more than 70 taxpayers to participate.

This type of CRAT involved a transaction where the promoters and the CPAs and attorneys involved in it provided guidance that the contribution of assets to a Charitable Remainder Annuity Trust received a step up in basis, such that when they were sold, the assets were sold by the trust, no gain was realized on that sale transaction. The proceeds were then used to purchase a single premium annuity product that would fund the annuity payment, and because the basis in that annuity product was so high, there was very little, if any, income that was passing out to the annuity recipient.

The IRS, again, got wind of this. The Justice Department actually brought suit against Mr. Eickhoff and the others who were involved in the promotion of this transaction. Based on the pleadings and the complaint filed in this case, the Justice Department noted that as a result of this transaction, more than $17 million in taxable income was unreported and there were over 70 Charitable Remainder Trusts utilized and 19 audits conducted, and concluded. The corollary on the IRS side is Notice 2022-13, which actually identifies this transaction in the IRS’s dirty dozen as a potentially abusive arrangement.

So, just beware that these types of transactions are out there and if a client comes to you and wants to participate in it, show them the complaint and the IRS notice, and hopefully they’ll run for cover. I’m going to hit one more case for us before I turn it back to Bob, and this case is just really fascinating to me and others I’ve talked with about it.

It’s the Estate of Fulton. This case, the background of it is that the decedent and his wife were married and divorced way back in the day, 1977. At that time, they were younger, they had some young kids and they agreed in their divorce settlement that each of them, the decedent and his wife, would leave at least two-thirds of their respective estates to the children of their marriage.

The wife died a few years ago and her estate plan complied with the provisions of their divorce settlement agreement. Husband died just a few years ago and his estate plan bequeathed stock and a specific company, Sunland Race – or Sunland Park Racetrack and Casino, which was like a video gaming type of company, to his children, but then, left the vast majority, well over two-thirds of his estate, to charity. His children filed suit against his estate. They also filed a creditor claim against his estate for the amounts that they were owed to receive under that divorce settlement agreement.

The estate and his children settled and the estate filed an estate tax return taking a deduction as a claim for the amounts paid to the children pursuant to that settlement and enforcement of the divorce agreement. Query how this one ends up. The IRS did assess a deficiency and has assessed approximately 215 – that’s 2-1-5, million dollars of federal state taxes and penalties of nearly $43 million. The case was set for trial on January 23rd and I have not yet heard an update. So, we’ll keep our fingers crossed on how that one turns out. Bob, back to you.

Future of Donor Advised Funds

Spousal Rollover and PLR 202227005

Bob Kirkland: Thank you, Andrea. So, back to the retirement plan area; an interesting Private Letter Ruling 202227005 issued in July of last year. Here, the IRA’s beneficiary on the owner’s death was the owner’s revocable trust. The trust provided that the entire IRA proceeds would be held for the benefit of the decedent’s spouse. The spouse was the sole trustee and the sole beneficiary. The trust instrument directs the trustee to distribute as much of the principal and income of that trust share to the spouse as the spouse directs in writing. The taxpayer’s representative requests a ruling that this qualified for a spousal rollover and the IRS said yes.

That’s really not news in the sense that it’s the most recent of these private letter rulings. Literally, hundreds, maybe thousands by now over the last couple of decades, of similarly favorable results in these situations. So, this opens the door for postmortem planning if you inherit such a situation. You can either ask for your own private letter ruling or we’ve had some success going to providers and showing them all these private letter rulings and saying, “Look, this has been held dozens of times to qualify for a spousal rollover,” and some of those providers have treated it as such.

And you should know that since 2009, a committee of the American College of Trust and Estate Counsel has requested a published revenue ruling on this very issue. We’re still awaiting acknowledgment of our request, despite sending that in every year since.

Valuation of Closely-Held Entities

Moving to a different area that is the valuation of closely-held entities. On February 28th, just roughly three weeks ago as I’m recording this, the tax court finally issued its valuation opinion in the Cecil case, and that’s the Estate of Cecil v. Commissioner T.C. Memo 2023-24. This is significant because the tax court allowed for the income tax affecting of earnings of an S-corporation in the discounted cash flow analysis. Here, the court did so only because both the IRS expert and the taxpayers’ expert applied tax affecting in their valuation opinions.

Indeed, Judge Ashford of the tax court issues his ruling very grudgingly. I quote, “We emphasize, however, that while we are applying tax affecting here, given the unique setting at hand, we are not necessarily holding that tax affecting is always, or even more often than not, a proper consideration for valuation of an S-corporation.” Yet, it’s significant. It’s yet another case. Two tax court decisions now where the tax affecting S-corp earnings has been allowed in valuing the S-corp stock. So, keep that by your phone when you’re talking to your next IRS auditor.

Marital and Other Deductions

Finally, I just want to point out and defer to your reading an interesting case that is pending. No decision yet in the State of Texas. It’s a same-sex couple case where one member of the couple passed away in 2012. The estate paid over $1 million in estate tax for things left to the other member of the couple. A few years later, Obergfell  decision came down saying under the equal protection clause and the due process clause, state governments must – and federal governments must, recognize marriages between same-sex partners, so here, they filed a claim for a refund indicating that under the principles that were applied later Obergfell, they were, indeed, a common-law married couple and should be eligible for the marital deduction. I’ll leave the rest of that for your reading.

The name of the case is Kucerak v. United States. It’s pending in the Western District of Texas. It was filed on January seventh of 2022. No decision yet the last time I checked but watch that case. It’ll be interesting law made in that case one way or the other. With that, Andrea and I thank you very much for listening and happy estate planning.

Thank you, Andrea and Bob, for sharing hot estate tax topics with us.

You may also be interested in:

• ACTEC’s Comments on Section 2053 – Proposed Estate Tax Regulations (Nov. 2022)
• Paying and Reducing Estate Tax with a Graegin Loan (Aug. 2022)
• Top 10 Recommendations for Planning Retirement Benefits under the SECURE Act (Nov. 2022)
• ACTEC Submits Comments on proposed regulations IRS REG-105954-20.  (May 2022)

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