ESTATE TAX ON RETAINED TRUST INTERESTS – PROPOSED REGULATIONS ISSUED

Section 2036 subjects the estates of trust grantors to federal estate tax when those grantors transfer interests to a trust and retain income or other distribution interests, and then die before such interests expire. For many types of trusts, there is some uncertainty on how much of the trust property is subject to estate tax in the estate of the deceased grantor.

The Treasury Department has now issued proposed Treasury Regulations that provide a mechanism for computing how much of the trust assets are subject to estate tax under these circumstances.

The rules apply to numerous special types of trusts used by estate planners. These include charitable remainder annuity trusts (CRATs), charitable remainder unitrusts (CRUTs) grantor retained annuity trusts (GRATs), grantor retained unitrusts (GRUTs), and various other forms of grantor retained income trusts (GRITs), qualified personal residence trusts (QPRTs) and personal residence trusts (PRTs). The proposed Regulations generally adopt the methodology previously provided by Revenue Ruling that addressed such inclusion for CRATs and CRUTs. The proposed Regulations would include in the grantor's gross estate so much of the trust assets as would be needed, using applicable interest rates at the date of death, to yield the annual payment due to the grantor under the trust.

The proposed Regulations also make reversionary interests in GRATs less attractive (that is, provisions which require that if the grantor dies during the term of the GRAT the GRAT assets are paid to the grantor's estate) - since such a reversion will likely result in 100% gross estate inclusion for a death during the term of the GRAT, and a nonreversionary interest GRAT can use the Regulations to exclude a portion of the appreciation from estate tax inclusion, reversionary interests are now less favored.

Prop Reg § 20.2036-1 , Prop Reg § 20.2039-1