Letter Ruling 9717005, December 18, 1996
Uniform Issue List Information:
UIL No. 2056.00-00
Bequests, etc., to surviving spouse
NATIONAL OFFICE TECHNICAL ADVICE MEMORANDUM
Code Sec. 2056
ISSUE:
Does a trust for the benefit of the decedent's spouse qualify for the federal estate tax marital deduction as qualified terminable interest property (QTIP) under §2056(b)(7) of the Internal Revenue Code?
FACTS:
The decedent's mother died on July 3, 1993, survived by the decedent and the decedent's two sisters (the mother's three daughters). The mother left a pour-over will and revocable trust agreement.
Article Six, paragraph D of the mother's trust agreement provides for distribution of the residue of the trust after all of the estate taxes are paid and after final audit to the decedent and her two sisters, in equal shares, if they survive the mother. The share of a daughter who predeceases the mother will be paid to that daughter's issue by right of representation.
Article Six, paragraph C, also provides that this residue "shall remain in trust until such time as all estate taxes are paid." The paragraph further provides for federal estate tax to be deferred under §6166 , if the residuary beneficiaries agree.
Article Six, paragraph C states:
Such deferred estate taxes may be paid either from the income of the assets held in trust or from the sale of all or a part of those assets. Which assets are held in trust and which assets are sold shall be in the sole discretion of my successor Trustee. If in my successor Trustee's sole discretion it is prudent to distribute income from those assets held in trust which is not used for satisfying deferred estate taxes to my residual beneficiaries, he may do so. If in my successor Trustee's sole discretion it is deemed prude to distribute portions of those assets held in trust in addition to the income from those assets, he may do so.
The primary assets in the mother's estate were closely held business interests, valued at q (after adjustment by the Service). These interests consist primarily of timberland and the timber on it. The mother's estate elected, under §6166 , to pay a substantial part of the federal estate tax over the 15-year period provided under §6166 . The amount passing to the residuary trust, net of all taxes but not of the interest owed under §6166 , was *****. The decedent's one-third share of her mother's residuary trust was approximately *****, consisting of a right to receive timberland and the timber on it. It is represented that the trustee of the residuary trust can sell timber, occasionally, as necessary to pay estate tax and interest under §6166 and need not resort to selling the underlying timberland.
The decedent died on July 6, 1994, almost exactly one year after her mother's date of death. The decedent's spouse survived her. The decedent left a pour-over will and revocable trust agreement.
Article 3, paragraph (1) of the decedent's trust agreement provides for distribution to the "Marital QTIP Trust," if the decedent's spouse survives the decedent, of "all property which [the decedent] received or is entitled to receive as a vested remainder beneficiary" of the residuary trust created under the trust agreement of the decedent's mother.
Article 4 of the decedent's trust agreement provides a marital QTIP trust for the benefit of the decedent's spouse. During his lifetime, the spouse is to receive all net income of the trust at least annually. At his death, accrued and undistributed income will be paid to his estate, and the remaining trust assets will be distributed among the decedent's then-living lineal descendants.
Article 4 states the decedent's intention that the trust qualify for the federal marital deduction but grants the trustee absolute discretion to decide whether or not to make a QTIP election to so qualify any part of the trust.
Under Article 4, the decedent's spouse may direct the trustee to convert any non-income-producing property to income-producing property, but not "real property used for the production of timber."
As of the decedent's date of death, the trustee of the mother's residuary trust had not distributed any income or principal to the decedent from her one-third interest in the residuary trust. In addition, to date, the trustee has not distributed any income or principal from the residuary trust to the marital trust for the decedent's spouse.
The decedent's estate elected QTIP treatment under §2056(b)(7) for the entire marital trust, reporting its value as the value at the decedent's date of death of her one-third interest in the residuary trust created under her mother's trust agreement.
The estate tax attorney for the Service contends that the trust for the decedent's spouse does not qualify for QTIP treatment under §2056(b)(7) , because the spouse is not entitled to all of the income from the trust as required under §2056(b)(7)(B)(ii) .
LAW AND ANALYSIS:
Section 2056(a) provides that the value of a decedent's taxable estate shall be determined by deducting from the value of the gross estate an amount equal to the value of any interest in property that passes or has passed from the decedent to the surviving spouse.
Section 2056(b)(1) provides the general rule that no deduction shall be allowed for an interest passing to the surviving spouse if, on the lapse of time, on the occurrence of an event or contingency, or on the failure of an event or contingency to occur, the interest will terminate or fail.
Section 2056(b)(7)(A) provides that qualified terminable interest property shall be treated as passing to the surviving spouse and no part of such property shall be treated as passing to any person other than the surviving spouse. Accordingly, the value of such property is deductible from the value of the gross estate under §2056(a) .
Section 2056(b)(7)(B)(i) defines qualified terminable interest property as property that passes from the decedent, in which the surviving spouse has a qualifying income interest for life, and to which an election under §2056(b)(7) applies.
Section 2056(b)(7)(B)(ii) provides that the surviving spouse will be considered to have a qualifying income interest for life if the surviving spouse is entitled to all of the income from the property payable annually or at more frequent intervals, and no other person has a power to appoint any part of the property to any person other than the surviving spouse.
Section 2056(b)(7)(B)(v) provides that an election under §2056(b)(7) with respect to any property shall be made by the executor on the return of tax imposed by §2001 . Such an election, once made, shall be irrevocable.
Section 20.2056(b)-7(d)(2) provides that, in general, the principles outlined in §20.2056(b)-5(f) relating to whether the spouse is entitled for life to all the income from a trust qualifying for a marital deduction under §2056(b)(5) are applicable in determining whether the spouse is entitled to all the income from the property as required under §2056(b)(7) .
Section 20.2056(b)-5(f)(1) provides that if an interest is transferred in trust, the surviving spouse is regarded as "entitled for life to all the income" from the property only if the spouse has that degree of beneficial enjoyment of the property which is accorded to a person who is unqualifiedly designated as a life beneficiary. The requisite degree of enjoyment is given only if it was the decedent's intention, as manifested by the instrument and surrounding circumstances, that the property should produce for the surviving spouse, during life, such an income, or that the spouse should have such use of the property as is consistent with the value of the corpus and with its preservation.
Section 20.2056(b)-5(f)(4) provides that a trustee's power to retain trust assets which consist substantially of unproductive property will not disqualify the spouse's lifetime income interest if the applicable rules for the trust administration require, or permit the spouse to require, that the trustee either make the property productive or convert it into productive property within a reasonable time.
Section 20.2056(b)-5(f)(5) provides that the spouse's lifetime income interest will be disqualified if the primary purpose of the trust is to safeguard the property without providing the spouse with the required beneficial enjoyment. Such trusts include those which expressly provide for the accumulation of income and those which indirectly accomplish a similar purpose. The example is given in which the corpus of a trust consists substantially of property unlikely to be income producing during the spouse's life and the spouse cannot compel the trustee to convert or otherwise deal with the property as described in §20.2056(b)-5(f)(4) . Such a trust would not meet the requisite standards for deductibility.
Qualification of an interest for the marital deduction is determined at the time of the decedent's death, based on the facts at that time. Jackson v. United States, 376 U.S. 503 (1964) [64-1 USTC ¶12,221 ], 1964-2 C.B. 522. See also, Rev. Rul. 79-14 , 1979-1 C.B. 309.
We believe that, under §§20.2056(b)-5(f)(4) and (5) , the spouse is not entitled to all of the income from the trust provided for him under the decedent's trust agreement. Consequently, we agree that the spouse's income interest in the trust does not qualify under §2056(b)(7)(B)(ii) . Although the spouse is to receive all of the net income of the trust annually, we conclude that the trust is funded substantially with unproductive property and that the spouse cannot compel the trustee to convert these trust assets to productive property.
Under the terms of her mother's residuary trust the decedent received a vested remainder in one-third of the residuary trust, to be distributed to the decedent after the payment of taxes. Because the mother's estate made the §6166 election, the decedent's remainder interest will be distributed to her after termination of the §6166 period, that is, 15 years after the due date for payment of federal estate tax for the mother's estate without the election. Under the decedent's trust agreement, the property the decedent is to receive from her mother's estate is the only asset in the trust for the decedent's spouse. Thus, at the decedent's death, the trust received a vested remainder in one-third of the mother's residuary trust, to be paid after the §6166 period (approximately 14 years after the decedent's death).
Under Jackson v. United States, supra, determining whether the asset in the trust for the decedent's spouse is unproductive property for purposes of §§20.2056(b)-5(f)(4) and (5) requires evaluating the nature of that asset at the decedent's date of death. Article Six, paragraph D of the mother's trust provides for distribution to the decedent and her sisters of the residue after all estate taxes are paid (and after final audit). Article Six, paragraph C, requires that the residue of her trust "shall remain in trust until such time as all estate taxes are paid" [emphasis added] and contemplates a §6166 election by her estate. Article Six, paragraph C, authorizes the trustee to pay the estate tax out of trust income or "from a sale of all or part of [trust] assets." The assets of the residuary trust are timberland and the timber on it. These assets were valued at q at the mother's date of death.
Although the trustee is given discretion to distribute trust assets, if the trustee deems it "prudent" to do so, this grant of authority is subordinate to the express requirement stated twice in Article Six that the trustee retain the assets in trust until all of the estate taxes are paid. From the language of Article Six, the mother clearly contemplated that the §6166 election might be made and that assets would therefore remain in the trust for approximately 15 years after her death. The trustee also has discretion, if the trustee deems it "prudent," to distribute income that is not used "for satisfying deferred estate taxes." It is represented that occasional sales of timber will be made to cover the payments required under §6166 .
Article Six clearly emphasizes the mother's intent that the timber and timberland remain in trust until the expiration of the §6166 period, except to the extent that a sale of timber is necessary to make payments under §6166 . Thus, it is unlikely that the trustee would cut and sell more timber than is necessary to make these payments. Therefore, it is unlikely that the trustee would make distributions of income (or principal) in excess of what is necessary to make these payments. Further, as of the decedent's date of death, the trustee had not distributed any income or principal to the decedent from the decedent's one-third interest in the residuary trust. Consequently, we conclude that at the decedent's death, for purposes of §§20.2056(b)-5(f)(4) and (5) , the decedent's right to receive a vested remainder in one-third of the residuary trust was unproductive property. (We note, that, to date, the trustee has not distributed any income or principal from the residuary trust to the trust for the decedent's spouse.)
Under Article 4, the decedent's spouse has the right to receive all of the net income of the trust annually. However, the trust contains an unproductive asset. Under Article 4, the decedent's spouse may direct the trustee to convert any unproductive property to productive property, except "real property used for the production of timber." The trust holds the right to receive timberland approximately 14 years after the decedent's death. Clearly the decedent intended that the timberland be in the trust for the benefit of her lineal descendants. If, under Article 4, the decedent's spouse cannot compel the sale of timberland currently, he cannot compel the sale of the right to receive the timberland in the future. Consequently, we conclude that, under §§20.2056(b)-5(f)(4) and (5) , the spouse is not entitled to all of the income from the trust and, therefore, does not qualify under §2056(b)(7)(B)(ii) .
CONCLUSION:
The trust for the benefit of the decedent's spouse does not qualify for the federal estate tax marital deduction as qualified terminable interest property (QTIP) under §2056(b)(7) .
A copy of this technical advice memorandum is to be given to the taxpayer. Section 6110(j)(3) provides that it may not be used or cited as precedent.