ALI-ABA Course of Study Charitable Giving Techniques

Transcription

1 383 ALI-ABA Course of Study Charitable Giving Techniques Cosponsored by the ABA Section of Real Property, Trust and Estate Law and the ABA Section of Taxation June 10-11, 2010 New York, New York Charitable Giving Tax Pitfalls: Avoiding; Climbing Out; Cyanide Capsule? By Conrad Teitell Cummings & Lockwood LLC Stamford, Connecticut

2 384 CHARITABLE GIVING TAX PITFALLS: AVOIDING; CLIMBING OUT; CYANIDE CAPSULE? by Conrad Teitell* Table of Contents Page** I. CHARITABLE REMAINDER GIFTS A. Spousal Right of Election B. Gift of Donor s Remaining Life Income Interest, Accelerating Charitable Remainder C. Swap of CRUT Life Interest for Gift Annuity D. CRUT Early Termination Approved and then IRS Changed Its Mind E. NIM-CRUT Terminated Valuing the Interests F. CRT Capital Gain Avoidance Plan on IRS Radar G. Comments by ACGA to the IRS and Treasury on Early Termination of Charitable Remainder Trusts H. Gift Annuity Funded with Remainder Interest in Personal Residence I. Split Interest Gifts for Employees J. Tax-Exempt Unitrusts and Annuity Trusts K. Multiple Donor CRUT Not Qualified L. Funding CRTs with Mortgaged Property M. Tangible Personal Property to Fund CRT N. The 5% Probability Test for CRATs O. CRT s Capital Gains Generally Not Taxable to Donors But Watch out for Exceptions P. Sprinkling CRUTs and CRATs Q. Split-Interest Charitable Gifts and the CMFR R. Marital Deduction Rules CRUTs and CRATs *A principal in the Connecticut and Florida law firm of Cummings & Lockwood, based in the firm s Stamford office. He chairs the firm s National Charitable Planning Group and is an adjunct professor at the University of Miami School of Law and holds an LL.B. from Columbia University Law School and an LL.M. from New York University Law School. Cummings & Lockwood LLC, Six Landmark Square, PO Box 120, Stamford, CT Direct phone: (203) , Direct fax: (203) , cteitell@cl-law.com Conrad Teitell 2010 **Internal Pagination i

3 385 S. Q-TIP/CRUT Combo T. CRAT 5%-Minimum-Payout Requirement U. CRT 10%-Minimum-Remainder-Interest Requirement Ticking Tax Bomb V. Leona Helmsley s Charitable Bequests and CRUTs W. Divorce American Style X. H and W Sever the Knot and Their CRUT Y. Prohibited Contribution Returned CRUT Saved Z. CRUT Erroneous Transfer Patched Up AA. Charitable Remainder Trust: Scrivener s Error A Cautionary Tale BB. Defective CRT Substantial Compliance Doctrine Inapplicable CC. Statute of Limitations Bars Refund for Taxes Mistakenly Paid by CRT DD. Spousal Right of Election, Disclaimer, Reformation Charitable Gifts EE. Disclaimers A Wise Estate Planning Tool FF. Charitable Bequests: Disclaimers, Public Policy, More Seminal Tax Court Case GG. Perfectly Drawn Charitable Remainder Annuity Trust Disqualified Because Imperfectly Operated HH. Scrivener s Error Route to STAN-CRUT from NIM-CRUT or NI-CRUT II. CRT with Multiple Muck-Ups Not Reformable JJ. Charitable Remainder Trust Drafting Checklist KK. Income Redefined for CRTs, PIFs, Other Trusts Final Regulations LL. CRTs New UBTI Rules MM Patent (and Lawsuit?) Pending Gift Planners Caveat NN. To Diversify or Not to Diversity OO. Charitable Gift Annuities Are Securities PP. CRUT for Alien Spouses II. OUTRIGHT GIFTS A. Redemption Bailout B. Assignment of Income Doctrine C. When Is Gift Deemed Delivered for Determining Valuation and Year of Deduction? D. Charitable Gift vs. Business Expense E. Earmarking Gifts F. Rent-Free Use of Property by Charity G. Installment Obligation H. Maturing Endowment Policy I. Artwork Bequest Deductible Despite Restrictions J. Charitable Gift of Group-Term Insurance K. Gift of Stock Minus Voting Rights L. Specialized Small Business Investment Company (SSBIC) M. Qualifying for Special Estate Tax Benefits N. Extending the Income Tax Charitable Deduction Beyond the Grave ii

4 386 O. Gift Tax Reporting P. 1% Reduction of Itemized Deductions Q. Tax Benefits Hinge on Whether Property is Ordinary Income or Capital Gain R. Increasing the 30% Deductibility Ceiling S. Gift of Appreciated Securities Instead of Cash, with Cash Used to Buy Same Securities on Open Market T. Substantiation Receipts U. Substantiation Appraisal Requirements V. Gift of Property Having Fair Market Value Lower Than Basis W. Five-Year Charitable Deduction Carryover Tax Court Case, Rules, Strategies, Reporting iii

5 387 CHARITABLE GIVING TAX PITFALLS: AVOIDING; CLIMBING OUT; CYANIDE CAPSULE? I. CHARITABLE REMAINDER GIFTS A. SPOUSAL RIGHT OF ELECTION In Rev. Proc , CB 909, the IRS ruled that inter vivos charitable remainder unitrusts and annuity trusts were disqualified if a spousal right of election existed under state law. The IRS provided safe harbor procedures for avoiding disqualification by obtaining a waiver of the right of election. For trusts created before June 28, 2005, the Service ruled it would disregard the right of election, even without a waiver, but only if the spouse did not exercise the right of election. However, Rev. Proc created many practical problems for donors, trustees, advisers and charities. In IRS Notice , IRB 501, the Service stated that, until further notice, a spousal waiver of a right of election is no longer needed for charitable remainder unitrust and annuity trust qualification. The Service extended the June 28, 2005 grandfather date indefinitely. Therefore, a spouse s right of election, even without a waiver, will be disregarded, but only if the surviving spouse doesn t exercise that right. Rev. Proc was withdrawn as a result of letters pointing out the problems by The American Council on Gift Annuities, the ABA, ACTEC, AICPA, and bar groups. B. GIFT OF DONOR S REMAINING LIFE INCOME INTEREST, ACCELERATING CHARITABLE REMAINDER Overview. A donor who has created a charitable remainder unitrust or annuity trust gets an income tax charitable deduction if she later contributes her remaining life interest to the charitable remainder organization, thereby accelerating the charitable remainder. The interest transferred can't be less than the donor's entire interest in the contributed property. The amount of the deduction is the then value of the remaining life interest. Reg A-6(c)(3)(ii). Proceed with caution. Giving up all or part of an income interest and benefitting the charity sooner rather than later is great. And tax advantages often abound. But sometimes there are pitfalls. Reg A-7(a)(2)(i) says: If, however, the property in which such partial interest exists was divided in order to create such interest and thus avoid section 170(f)(3)(A), the deduction will not be allowed. Thus, for example, assume that a taxpayer desires to contribute to a charitable organization an income interest in property held by him... If the taxpayer transfers the remainder interest in such property to his son and immediately thereafter contributes the income interest to a charitable 1

6 388 organization, no deduction shall be allowed under section 170 for the contribution of the taxpayer's entire interest consisting of the retained income interest. In further illustration, assume that a taxpayer desires to contribute to a charitable organization the reversionary interest in certain stocks and bonds held by him... If the taxpayer grants a life estate in such property to his son and immediately thereafter contributes the reversionary interest to a charitable organization, no deduction will be allowed under section 170 for the contribution of the taxpayer's entire interest consisting of the reversionary interest. Letter Ruling Facts. A 9% NIM-CRUT funded with community property pays spouses jointly and then all to the survivor. On the survivor's death, the trust terminates with the remaining assets going to University. Husband and wife each have the power by will to revoke their spouse s community property interest in the trust. Donors propose to now give a 20% undivided interest in their unitrust payments to University. Each donor will disclaim his or her right to receive the other's unitrust interest and will irrevocably assign the interest to University. University's income and remainder interests will merge so it will then have a 20% undivided interest in the entire trust and an 80% undivided interest in the trust remainder. The parties will agree to terminate 20% of the trust and the trustee will then distribute 20% of the trust assets to University. The adjusted bases of the distributed assets will be fairly representative of all the property available. The trustee will continue to hold the balance of the trust assets. IRS reviewed an earlier published ruling. In Rev. Rul , CB 302, Alice was the sole beneficiary of a charitable remainder annuity trust that she created in Her interest wasn't created to avoid the rules prohibiting deductions for "partial interests." In 1984 Alice transferred her remaining retained income interest to the charitable remainder organization. IRS ruled that the gift of her income interest qualified for an income tax charitable deduction because she gave her entire interest in the property. Her gift also qualified for a gift tax charitable deduction because she hadn't made a prior transfer from the trust for private purposes. Thus, the income interest didn't have to be an annuity interest (or other qualified interest) described in IRC 2522 (although it was). IRS rules income tax deduction. Donors' situation is analogous to the facts in Rev. Rul except that they propose to contribute only 20% of their life interest. Donors claim that they didn't create the trust to avoid the partial interest rule. IRS agrees partly because of the six-year period between the trust's creation and the proposed gift. An income tax charitable deduction is allowable for the value of the undivided interest in the unitrust payments transferred to University. IRS rules value of income tax charitable deduction. It's the present value of the spouses' relinquished right to receive annually 9% of the net fair market value of 2