A "SURPRISE," AND A "NOT A SURPRISE"

A taxpayer who submitted a private letter ruling request received back both a "surprise," and a "not a surprise." A private letter ruling request is a submission to the IRS to rule on the tax consequences of a certain set of facts. Taxpayers generally ask specific questions of the IRS, and the IRS answers them (or at times, may decline to answer).

Let's talk about the "not a surprise" ruling first. The taxpayer here transferred an insurance policy with a certain gift tax value to an irrevocable trust. As you may know, if set up properly (including with applicable Crummey withdrawal powers), transfers of property or cash to an irrevocable trust can qualify for the $12,000 (formerly $11,000) annual exclusion gift tax exemption. That is, such transfers up to the amount of the $12,000 exclusion, are not subject to gift tax.

In the ruling, the transferred policy had a gift tax value in excess of the available exclusions. To try and get the transfers in under the exclusions, the taxpayer had the trust issue him a promissory note, so that the net value of the transfer (the value of the policy, less the value of the note) and thus the value of the gift, was under the annual exclusion amount. Then, in the following year, without any payments on the note being made, the taxpayer forgave the note, in effect making another gift that was under the annual exclusion amount. However, since it occurred in the following year, the taxpayer had a new annual exclusion amount to work with. The taxpayer thus took a gift that would have exceeded the annual exclusion amount in year one, and by using the note device, split it into two gifts over two years that were small enough to come within the two annual exclusions even though the policy was all transferred in year one.

So what was "not a surprise?" That the IRS said the note devise would not be effective to split the gift over two years, since it was never intended that the note would be paid. Thus, the IRS found a taxable gift in year one to the extent that the total value of the transferred policy exceeded the available annual exclusion amount.

What was the "surprise?" The surprise here was confined to the taxpayer - the taxpayer had requested other rulings from the IRS, and did not ask about the annual exclusion gifts. The IRS took it upon itself to provide the additional ruling described above and clearly not desired by the taxpayer, that the transfer of the policy created a taxable gift.

PLR 200603002