Jeffrey N. Pennell is the Richard H. Clark Professor of Law at Emory University School of Law.

Jeff is the author of WEALTH TRANSFER PLANNING AND DRAFTING (West 2005), FEDERAL WEALTH TRANSFER TAXATION (West 2004), successor author of ESTATE PLANNING, the incredible three volume treatise on estate planning originally written by the legendary Harvard Professor A. James Casner.

Jeff alerts LISI members to a proposed reg on Generation-Skipping.

EXECUTIVE SUMMARY:

Newly proposed generation-skipping transfer tax exemption allocation regulations will make Notice 2001-50, 2001-2 C.B. 189, obsolete. It will also override the relief provisions of Treas. Reg. §301.9100-3.

FACTS:

APPLICABILITY:

Prop. Treas. Reg. §26.2642-7 applies to taxpayers seeking to:

• make an affirmative allocation,
• elect out of the automatic (default) allocation, or
• elect to treat a trust as a §2632(c) GST trust

in each case after the deadline for a timely allocation/election.

HOW TO OBTAIN RELIEF:

The mechanism to obtain relief remains by private letter ruling, with a filing fee. That cost may be palatable, however, if exemption allocation is permitted at the value that would have applied had the action been timely, rather than the (typically, inflated) value when the late allocation actually occurs.

To qualify for relief the "taxpayer" (shorthand here for either the transferor or the transferor's personal representative — which reflects that failure often is discovered after the transferor's incapacity or death) must establish reasonable, good faith action that does not prejudice the government.

Prop. Treas. Reg. §26.2642-7(d)(2)(i) through (v) contain a nonexclusive list of elements speaking to the reasonable and good faith elements; -7(d)(3) speaks to prejudice to the government; -7(e) identifies several circumstances in which relief absolutely will not be granted.

SUMMARY OF REGS:

A full study of these provisions is advisable but, in summary fashion, here are highlights gleaned from them:

• Taxpayer intent to timely allocate/elect may be found in transfer documents, tax returns, and correspondence. For example, a trust instrument may refer to a "GST Exempt Grandchild Trust" — a pretty good illustration of original intent to allocate exemption. As would be a GST tax return that shows zero tax for a direct skip transfer. Conversely, payment of tax on a nondirect skip taxable transfer would indicate that the taxpayer thought that election out of automatic allocation had been accomplished. Common correspondence is among a taxpayer, an attorney, and an accountant, all referring to an allocation/election that everyone anticipated would be made on a gift tax return that would be filed by one of them but that fell into a crack.
• Events beyond the taxpayer's control that caused the allocation/election to fail. For example, perhaps the taxpayer, or a professional who was involved in the transaction, became ill, incompetent, or died before anticipated action was taken and there was no follow up to protect against a missed timely allocation/election.
• Lack of taxpayer awareness of the need to allocate/elect, despite reasonable diligence, given the complexity of the allocation/election and the taxpayer's experience. For example, a sophisticated taxpayer who has engaged in similar transfers and who regularly deals with wealth transfer tax advisors has less credibility in alleging lack of awareness than a taxpayer with no history of prior transfers.
• Consistency in allocating/electing, which normally bespeaks an intent to do the same thing (unless a change in circumstances or beneficiaries makes a change in intent appear likely). Imagine a series of annual transfers to a GST trust with the requisite allocation/election to all but one, and whether it would matter if that one was the first, the last, or somewhere in the middle of the series, and what this indicates, considered alone or in conjunction with other factors.
• Reasonable reliance on the advice of a qualified tax professional, which requires a showing that the professional was competent and was made aware of all relevant facts. An affidavit must list every advisor (agent, representative, or tax professional) who consulted in the transfer or return preparation, along with a description of the scope of their engagement and responsibilities, and an attestation by those advisors to the taxpayer's representations (or an explanation of an advisor's refusal to attest) — basically making advisors fall on their swords if they were the source of a failure to properly allocate/elect.
• Whether hindsight informs a late allocation/election. For example, the taxpayer is strategically choosing among multiple transfers to which allocation/election might apply, retroactively considering investment performance since the time a proper allocation/election was required. Or if an economic factor changed, arose, or was discovered after the time for a proper allocation/election.
• Indications that delay strategically deprived the government of time to evaluate aspects of the transaction (such as valuation, or the transferor's identity). Exceedingly helpful is Prop. Treas. Reg. §26.2642-7(d)(3)(ii), stating: "the combination of the expiration of any . . . period of limitations with the fact that the asset or interest was valued for transfer tax purposes with the use of a valuation discount will not by itself prohibit a grant of relief." This should quash previous governmental misbehavior in evaluating relief requests.
• Whether a taxable transfer occurred between the time when allocation/election was due and the requested relief, and whether relief would require difficult adjustments of GST tax consequences in the interim.

LIMITS TO RELIEF:

• Relief will not permit a taxpayer to subsequently decrease an allocation or revoke an election; an affirmative allocation/election is irrevocable once made.
• Relief also will not allow alteration of an allocation/election decision that follows accurate advice of an adequately informed and competent advisor.
• Increased exemption cannot be allocated retroactively to transfers occurring before the increase.
• Relief does not extend any statute of limitation that bars a refund/credit. But the government may request an extension of a gift or GST (but not estate) tax statute of limitation that relates to the transfers involved in the request for relief.

Two final matters:

Treas. Reg. §301.9100-2(b) continues to permit the automatic six-month extension, and to provide "a simplified alternate method for obtaining an extension to make an allocation of . . . exemption under §2642(b)(1)" if its somewhat rigid requirements are met:

• the transfer occurred before 2001 (after 2000 the automatic allocation rule in §2632(c) likely applies),
• no taxable transfers have been made yet from the trust involved,
• the gift involved did not exceed the gift tax annual exclusion amount (in combination with all other gifts to the same donee in that year),
• no exemption was allocated to the transfer, and
• the taxpayer has exemption remaining available to allocate.

A detailed process avoids the need to file a ruling request or pay the normal fee. The most important requirement is that the application is required "on or before the date prescribed for filing the federal estate tax return for the transferor's estate (determined with regard to any extensions actually obtained), regardless of whether an estate tax return is required to be filed."

This is a function of §2632(a)(1), requiring affirmative allocations before that time, and Treas. Reg. §26.2632-1(d)(2), which automatically allocates any remaining exemption at that same time. As illustrated by Private Letter Ruling 200710001, after that time these irrevocable exemption allocations will have exhausted any exemption remaining at death.

HOPE THIS HELPS YOU HELP OTHERS MAKE A POSITIVE DIFFERENCE!

Jeff Pennell

CITE AS:

LISI Estate Planning Newsletter # 1291 (May 6 , 2008) at http://www.leimbergservices.com/ Copyright 2008 Leimberg Information Services, Inc. (LISI). Reproduction in Any Form or Forwarding to Any Person Prohibited – Without Express Permission.

CITES:

Prop. Treas. Reg. 26.2642-7 ; Notice 2001-50, 2001-2 C.B. 189 ; Treas. Reg. §301.9100-3; Rev. Proc. 2004-46, 2004-2 C.B. 142