Friday, April 26, 2024
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GiftLaw Note: Charitable remainder trusts are subject to the regulatory power of the Service. In a very controversial decision, the Service stated that a family of eight individuals would not be permitted to create a charitable remainder trust. Charitable trusts are not created for a business purpose. The joining together of eight members to create a trust would be in essence a partnership and a partnership is a business entity. Thus, the Service refused to recognize the trust as qualifying under Sec. 664 of the Code.

There have been questions as to whether or not a husband and wife could fund a trust, since the same rationale could logically be extended to apply to a couple. It appears that the Service does not intend to extend this position in attempt to cover trusts funded by a married couple. However, it would be unwise to have parents and children join together in funding the same charitable trust in view of this ruling.

This is in reply to your letter dated August 10, 1994, and subsequent correspondence, written on your behalf by your authorized representatives, concerning several ruling requests. Specifically, you requested the following rulings: (1) that the proposed trust will meet the requirements of a charitable remainder unitrust under section 664 of the Internal Revenue Code; (2) that a charitable contribution deduction will be allowed to the taxpayers under section 170, subject to percentage limitations contained therein, based upon the present value of the remainder interest payable at the death of the last grantor survivor; (3) that at the time of the creation of the proposed trust no taxable gift from any one of the grantors to any of the other grantors will occur upon each of the respective parties' contribution to the trust; (4) that at the time of the creation of the proposed trust no gain shall be recognized by any of the grantors upon the contribution of appreciated property to the trust; and (5) a statement providing the final actuarial factors to be used as of the date of the final ruling.

The facts have been represented as follows.

Husband and Wife are grandparents of A, B, C, D, E, and F. The eight taxpayers propose to establish a charitable remainder unitrust in the amount of Two Million Dollars ($2,000,000.00). The ruling request states that Husband and Wife each propose to contribute to the value of the trust principal a combination of appreciated securities and cash or cash equivalent having a fair market value on the date of transfer of One Million Six Thousand and Twenty Dollars ($1,006,020.00). Given that this combined amount would exceed the proposed trust principal of Two Million Dollars ($2,000,000.00), we presume that the ruling intended to say the contribution would be joint. A, B, C, D, E, and F propose to contribute to the value of the trust principal a combination of appreciated securities and cash or cash equivalent having a total fair market value on the date of transfer of Nine Hundred Thirty-Nine Thousand Two Hundred and Twenty Dollars ($939,220.00).

Under the terms of the proposed trust agreement (Agreement), Husband and Wife would have the right to receive the distribution authorized by the Agreement for their joint lives and for the life of the survivor of them. Upon the death of the survivor, A, B, C, D, E, and F, as a class, would thereafter have the right to receive the distribution authorized by said Agreement.

The Agreement provides that the trustees pay to the designated beneficiaries a unitrust amount equal to the lesser of: (a) the trust income for such taxable year (as defined in section 643(b) of the Code) or (b) eleven percent (11%) of the net fair market value of the trust assets valued as of the first day of each taxable year of the trust. In the event the trust income for any taxable year exceeded the fixed percentage amount, the payment to the beneficiary entitled to receive the unitrust amount would also include such excess income to the extent that the aggregate amounts paid to such beneficiary in prior years were less than eleven percent (11%) of the aggregate fair market value of the trust assets for such years.

DISCUSSION


The term "charitable remainder unitrust" is defined in section 664(d)(2) of the Code. That section provides that a charitable remainder unitrust is a trust that meets the requirements contained in section 664(d)(2)(A)-(C). In determining whether the proposed trust will qualify as a charitable remainder unitrust, we must first address whether the proposed trust will be properly classified as a trust for federal income tax purposes.

Section 301.7701-2(a)(1) of the Procedure and Administration Regulations sets forth six characteristics to be considered in determining whether an organization is properly classified as an association taxable as a corporation, a partnership, or a trust. These characteristics are: (1) associates; (2) an objective to carry on business and divide the gains therefrom; (3) continuity of life; (4) centralization of management; (5) limited liability; and (6) free transferability of interests.

Section 301.7701-2(a)(2) of the regulations provides that characteristics common to trusts and corporations are not material in attempting to distinguish between a trust and an association. Centralization of management, continuity of life, free transferability of interests, and limited liability are generally common to trusts and corporations. Therefore, the determination of whether a trust which has such characteristics is to be treated for tax purposes as a trust or as an association depends on whether there are associates and an objective to carry on business and divide the gains therefrom.

If an entity has both associates and a business purpose, it cannot be classified as a trust for federal income tax purposes. In the present situation, eight individuals will each contribute his or her own funds to the proposed trust. The proposed trust will last until the death of the last survivor of the eight grantors. Throughout the term of the trust, the trustee will have the power to vary the investment of the grantors by investing and reinvesting the assets in the trust. As the recipients of the unitrust amount, the grantors will share in the profits derived from the joint investment of their assets held by the proposed trust. Under these circumstances, the grantors are associates and have pooled their assets with an object to carry on business and divide the gains therefrom. Thus, the proposed trust cannot be classified as a trust for federal income tax purposes.

Because the proposed trust cannot be classified as a trust for federal income tax purpose, the proposed trust cannot meet the definition to be charitable remainder unitrust under section 664(d)(2) of the Code. As a result of the conclusion on this first issue, we are unable to respond to the four remaining issues in your request.

No opinion is expressed or implied as to any other provisions of the agreement or as to the federal tax consequences of the formation and operation of the Unitrust under any other provisions of the Code.

In accordance with the power of attorney on file with this office, we are sending a copy of this letter to both of your attorneys, and your accountant.

This ruling is directed only to the taxpayer who requested it. According to section 6110(j)(3) of the Code, this ruling may not be cited or used as precedent.

Sincerely,
____
Frances D. Schafer
Senior Technician Reviewer,
Branch 4
Office of Assistant Chief Counsel
(Passthroughs and Special Industries)

Related Topics On No Partnership Unitrusts Allowed

3.10.9  Income, Gift, Estate and Generation-Skipping Transfer Taxes:    The donor to a charitable remainder unitrust will receive an income tax deduction equal to the present value of the remainder interest. It is calculated using the applicable federal rate for the current month or one of the prior two months, as permitted under Sec. 7520.



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