Saturday April 20, 2024

3.1.8 Charitable Remainder Annuity Trust Reformations

Percent Deduction Limits

Sec. 2055(e) 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 "Fixed Payout" Trust:   If a trust specifies a percent payout or a fixed dollar payout to a noncharitable beneficiary and distribution of the remainder to a qualified exempt charity, then it qualifies for reformation under the "intent to comply" provisions.

The "Little or No Compliance" Trust:   Many trusts, particularly testamentary trusts in wills drafted by counsel who are not estate planning experts, that pay all income to a noncharitable beneficiary, with a remainder to charity.

Sec. 2055(e) 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.

The "Fixed Payout" Trust

If a trust specifies a percent payout or a fixed dollar payout to a noncharitable beneficiary and distribution of the remainder to a qualified exempt charity, then it qualifies for reformation under the "intent to comply" provisions. Sec. 2055(e)(3). A trust that includes the basic annuity trust language, has no time limit on reformation. Therefore, counsel who draft annuity trusts that include the basic fixed payment language may be confident that they could at any future time amend as required to comply with existing or future Treasury requirements.

The "Little or No Compliance" Trust

Many trusts, particularly testamentary trusts in wills drafted by counsel who are not estate planning experts, pay all income to a non-charitable beneficiary, with a remainder to charity. These trusts may be reformed within 90 days of the date the estate tax return is due (with extensions). Since a six-month extension is now permissible in addition to the normal nine-month period, there normally is a period of 18 months after the date of death to reform non-complying testamentary annuity trusts.

The reformation must be qualified under local law. Normally, the reformation will be approved by the probate court in the appropriate jurisdiction. The agreement must be reformed into a charitable remainder trust with the appropriate language. In addition, the charitable interest must not vary more than 5% from the actuarial value of the charitable interest under the non-reformed trust.

After the trust has been reformed, the estate will qualify for a charitable deduction in the amount of the remainder interest determined under Sec. 7520. Sec. 2055(e)(3).

Private Letter Rulings

PLR 199935041 Qualified Reformation of Annuity Trust:   Testator's will created Trust A with payments to two individuals for life, an association and four charities. Prior to the date 90 days after the estate tax return due date, the executor initiated a judicial proceeding for reformation under Sec. 2055(e). Under the proposed reformation, Trust A is to be divided into Trust B with payments to the association, which does not qualify for a charitable deduction under Sec. 2055(a), and Trust C, which is a qualified charitable remainder annuity trust.

PLR 200010035 Current Distributions of CRAT Income and Principal to Charity Permitted:   Ariana and Bruce Fila established a charitable remainder annuity trust (CRAT) to pay a 7% annuity interest to them for their lifetimes and then distribute the remainder to their private foundation (Foundation).

PLR 200020034 Handwritten Annuity Trust Saved by Reformation:   Decedent wrote his own holographic will, complete with a testamentary trust. Under the will, the residue of the estate was to be transferred to a trust with payments of $S per month to beneficiary one and $T per month to beneficiary two for life. The remainder was then to be distributed to a purely charitable trust. No specific charities were listed as recipients of the trust remainder.

PLR 200027014 Reformation to Triple Annuity Remainder Trust:   The decedent in this ruling passed away on date two. The residue of his estate was to be transferred to a trust with income payable to three siblings for their respective lives. After the three pass away, the trust income is to be distributed to 10 charities.

PLR 200422005 Scrivener's Error Defense Saves CRAT:   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.

PLR 200425027 Scrivener's Error Defense Saves Estate Tax Charitable Deduction:   Dominic Donor created Dominic's Trust to receive his retirement assets and the residue of his estate at his death. Dominic's Trust was designed to make distributions to Foundation, a Sec. 501(c)(3) organization, to fund Dominic's Memorial Fund at Foundation. Foundation will then distribute amounts from Dominic's Memorial Fund to other educational and charitable institutions. Dominic's attorney stated by affidavit that due to a drafting error, he failed to include the language necessary so that the assets transferred to Dominic's Trust would qualify for the federal estate tax charitable deduction. On this basis, state court granted a petition to reform Dominic's Trust to include the required language. The executor of Dominic's estate sought a ruling that an estate tax charitable deduction would be allowed for the value of assets transferred to the reformed trust.

PLR 200622005 Qualified CRT Reformation:   D died on Date 1. D's will created a testamentary charitable remainder unitrust with a payout of only 4% to B for life, remainder to Charity. Sec. 2055(e) provides an estate tax deduction for remainder interests in charitable remainder trusts.

PLR 200624003 Division of Trust into Successor Trusts Permitted Without Tax:   Father died on date 1 and Mother died on date 2. Father's will created Trust for the benefit of Son and Son's issue. The trustees of Trust were given the power to accumulate or spend Trust income for the reasonable care, support, maintenance, education, enjoyment, advancement, or comfort of Mother, Son and Son's spouse and issue.

PLR 201442046 Trust Reformed Due to Scrivener’s Error:   In Year 1, Attorney 1 drafted and Grantor funded GRAT 1 and GRAT 2. GRATs 1 and 2 were established to pay out to Grantor for a term of years with the remainder going to Children’s Trust.

PLR 9845001 Unitrust Amendment Requirements:   A unitrust may be amended for federal tax compliance purposes under Sec. 2055(e). After the first Trustee resigned, the Successor Trustee desired to amend the trust to add (1) a "No Estate Tax" clause, (2) a "Testamentary Transfer" clause and (3) an "Additional Contributions" clause. The Service allowed the amendments, but noted that the excess payments of the first Trustee could be self-dealing under Sec. 4941 and the investment in a limited partnership could produce UBI under Sec. 512.

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