Friday, April 26, 2024
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GiftLaw Note: Alice and Barney wanted to create a charitable remainder annuity trust (CRAT). They instructed an attorney to draft a CRAT for them. The attorney drafted a trust and Alice and Barney signed and funded it. The attorney later told Alice and Barney that due to a drafting or scrivener's error, the trust did not qualify as a CRAT. Alice and Barney's trust, like many irrevocable charitable trusts, included a clause permitting amendment solely for the purpose of qualifying the trust as a CRAT. Pursuant to this clause, the Trustee sought and obtained a court order permitting reformation of the trust under state law so that it would qualify as a CRAT. The Trustee then requested a ruling that Alice and Barney's reformed CRAT would not violate Sec. 664.

Sec. 664(d)(1) sets forth the requirements of a CRAT. Reg. 1.664-3(a)(4) provides that a CRAT may not be subject to a power to invade, alter, amend or revoke for the beneficial use of a person other than an organization described in Sec. 170(c).

Assuming that all other Sec. 664 requirements were met following the reformation of Alice and Barney's CRAT, the IRS ruled that the CRAT would not violate Sec. 664. This is because the clause allowing the trust to be amended limited amendments to those necessary for qualification under Sec. 664 and did not permit reformation for the beneficial use of any individual. The IRS further ruled that the reformation would be effective as of the date Alice and Barney's trust was initially created.

Editor's Note: The mandatory and optional provisions for charitable remainder trusts are complex and attorneys have had difficulty drafting trusts with all required provisions. For this reason, reformations are allowed in limited circumstances so that a trust will meet the requirements of Sec. 664. There are two main categories of trusts that may be reformed - the "intended to comply" trust and the trust with a charitable remainder but little or no other language in compliance with the Code and Regulations. Alice and Barney's trust in this letter ruling is an "intended to comply" trust where the trust did not comply because of a drafting error.

While trusts may be reformed, they will qualify as charitable remainder trusts only if the reformations occur within the applicable time period for reformation - generally unlimited for an inter-vivos trust and up to 18 months after the date of death in the case of a testamentary trust. In addition, the requirements of Sec. 2055(e) must be satisfied. Notably, the charitable interest must not vary more than 5% from the actuarial value of the charitable interest under the non-reformed trust. As the IRS did not discuss Sec. 2055 in this private letter ruling, it is assumed that all Sec. 2055 requirements were satisfied.
Dear * * *:

This letter responds to a letter dated December 13, 2002, and subsequent information, submitted by Trust's authorized representative on behalf of Trustee and Trust, requesting a ruling under section 664 of the Internal Revenue Code on the qualification of Trust as a charitable remainder annuity trust (CRAT).

The information submitted states that on D1, A and B created Trust with the intention that Trust qualify as a CRAT under section 664(d)(1). Trustee is the trustee of Trust. Trust was funded on D2.

A and B established Trust with the assistance of Attorney. Following discussions with Attorney in which A and B expressed their intent to have Trust qualify as a CRAT, Attorney drafted Trust. In D3, Attorney advised A and B that as written, the trust agreement did not conform to A and B's instructions and did not qualify as a CRAT.

Because of the error, and because Trust is irrevocable, Trustee sought an order from Court, with notice to all beneficiaries and the State attorney general, authorizing an amendment ab initio of Trust. State law permits reformation of trusts, upon the approval of the court, to correct mistakes and accord with the creator's intent. No parties objected to the proposed reformation. On D4, Court issued an order that due to several scrivener's errors, Trust be reformed, ab initio.

Article 10 of Trust provides that Trust is irrevocable. However, Trustee shall have the power, acting alone, to amend Trust in any manner required for the sole purpose of ensuring that Trust qualifies and continues to qualify as a CRAT within the meaning of section 664(d)(1).

Section 664(d)(1) provides that for purposes of section 664, a charitable remainder annuity trust is a trust (A) from which a sum certain (which is not less than 5 percent nor more than 50 percent of the initial net fair market value of all property placed in trust) is to be paid, not less often than annually, to one or more persons (at least one of which is not an organization described in section 170(c) and, in the case of individuals, only to an individual who is living at the time of the creation of the trust) for a term of years (not in excess of 20 years) or for the life of or lives of such individual or individuals, (B) from which no amount other than the payments described in section 664(d)(1)(A) and other than qualified gratuitous transfers described in section 664(d)(1)(C) may be paid to or for the use of any person other than an organization described in section 170(c), (C) following the termination of the payments described in section 664(d)(1)(A), the remainder interest in the trust is to be transferred to, or for the use of, an organization described in section 170(c) or is to be retained by the trust for such a use or, to the extent the remainder interest is in qualified employer securities (as defined in section 664(g)(4)), all or part of such securities are to be transferred to an employee stock ownership plan (as defined in section 4975(e)(7)) in a qualified gratuitous transfer (as defined by section 664(g)), and (D) the value (determined under section 7520) of such remainder interest is at least 10 percent of the initial net value of all property placed in the trust.

Section 1.664-3(a)(4) of the Income Tax Regulations provides that the trust may not be subject to a power to invade, alter, amend, or revoke for the beneficial use of a person other than an organization described in section 170(c).

Based solely on the representations submitted, we conclude that the judicial reformation of Trust, ab initio, does not violate section 664. Furthermore, assuming that the terms of the reformed Trust are otherwise valid under section 664, the reformed Trust will be treated as a valid CRAT under 664(d)(1), ab initio.

Except as specifically set forth above, no opinion is expressed as to the federal tax consequences of the above described facts under any other provision of the Code. Specifically, no opinion is expressed concerning whether Trust is or was a charitable remainder annuity trust within the meaning of section 664(d)(1).

This ruling is directed only to the taxpayer on whose behalf it was requested. Section 6110(k)(3) provides that it may not be used or cited as precedent.

Pursuant to a power of attorney on file with this office, a copy of this letter is being sent to Trust's authorized representative.

Sincerely,

J. Thomas Hines
Chief, Branch 2
Office of Associate Chief Counsel
(Passthroughs & Special Industries)

Related Topics On Scrivener's Error Defense Saves CRAT

3.1.7  CRAT Document Requirements:    Very specific document requirements and applicable regulations for charitable remainder annuity trusts are set forth in Sec. 664. The document must specify an annuity amount for a life, lives or a term of up to 20 years.


3.1.8  Charitable Remainder Annuity Trust Reformations:    Due to the complexity of the mandatory and optional provisions and the difficulty counsel have had in drafting charitable remainder trusts with all of the required provisions, Congress created a provision for reformation of charitable remainder trusts. The reformation provision is intended to facilitate the proper creation and operation of charitable remainder trusts. There are two main categories of trusts that may be reformed - the "intended to comply" trust and the trust with a charitable remainder but little or no other language in compliance with the Code and Regulations.


3.10.7  Unitrust Document Requirements:    Very specific document requirements and applicable regulations for charitable remainder unitrusts are set forth in Sec. 664. The document must specify a unitrust percentage for a life, lives or a term of up to 20 years.


6.2.2  Annuity Trust for a Term of Years:    A charitable remainder annuity trust (CRAT) may be created for a term of years not exceeding 20. Reg. 1.664-2(a)(5)(i). The term of years must be ascertainable at the trust creation and will pay out for the entire term of years selected.



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