Applicable Federal Rates - May 2017

IRS Issues Guidance Regarding Estate Tax Lien Discharge Process

When an individual dies, an estate tax lien attaches automatically to all of the property included in the gross estate. It arises prior to tax assessment, and is not recorded.

Persons inheriting property, or purchasers of property, are interested in having the lien released. As to real property that an estate seeks to sell, a discharge of the lien can be applied for with a Form 4422. A Form 792 is issued to discharge particular property.

In the past, if accepted the IRS would release the lien within a few days. Starting in 2016, the procedures changed, and all applications are now processed through Specialty Collection, Offers, Liens and Advisory. Once the IRS accepts the Form 4422, if the IRS requires it the net proceeds of the sale are deposited with the IRS or in escrow, to be held (less amounts used to pay estate taxes) until after a closing letter is issued or the IRS determines the return will not be audited.

The IRS' Small Business/Self Employed Division has issued interim guidance to its Special Advisory group regarding procedures for handling lien discharge requests. The guidance addresses:

• Consultation with and requesting assistance from other IRS departments, including Estate & Gift Tax Examinations
• What Code Sections and Regulations should be consulted for guidance;;
• The issuance of Letter 1352 when there is no estate tax return filing requirement;
• Procedures to substantiate facts when an estate tax return will be nontaxable (such as the viability of asserted deductions); and
• Circumstances when an escrow/payment will or will not be required (for example, one will not be required if an adequate estimated or actual tax payment has been made.

Practitioners who administer estates and/or are involved with lien releases should review this guidance.

IRS Small Business/Self Employed Division Memo “Interim Guidance for Responsibility to Process all Requests for Discharge of the Estate Tax Lien”

Two Important New International Tax Filings

While not the only international reporting changes that are occurring, there are two significant ones that apply for the current filing season for 2016 returns.

First is the FBAR, which reports interests in foreign accounts. This used to be due on June 30, but is now due by April 18.

Second is the expansion of Form 5472 reporting - now to nonresidents with interests in U.S. single member limited liability companies that are otherwise treated as disregarded entities and that have transactions between the LLC and related people. Such LLCs are now treated as a domestic corporation for purposes of Section 6038A and Form 5472 reporting. Treas. Regs. §1.6038A-1(c)(1)’ Treas. Regs. §301.7701-(a)(2)(vi).

De minimis transfers of assets to or from such an LLC can trigger the reporting. The safe harbor de minimis reporting exceptions applicable to Form 5472 do NOT apply to this single member LLCs. Treas. Regs. §1.6038A-1(i)(1); T.D. 9796 (January 17, 2017). Thus it is likely that single member LLCs used in a U.S. real property holding structure with foreign owners (including foreign trusts) will be subject to this reporting.

Asserting Reasonable Cause Defense to Penalties in a Pleading Does Not Automatically Waive Attorney-Client Privilege

Reliance on a tax professional can constitute reasonable cause, and thus avoid the application of an accuracy-related penalty under Code §6662 or a fraud penalty under Code §6663. When the professional is an attorney, case law indicates that this reliance waives the attorney-client privilege so that the government can determine if such reliance occurred and met the reasonable cause exception. See New Phoenix Sunrise Corp. v. C.I.R., 106 AFTR 2d 2010-7116 (CA 6 2010) and Ad Investment 2000 Fund, LLC, 142 TC 248 (2014).

So will the mere assertion of a reasonable cause defense result in waiver of the privilege? Not according to the U.S. District Court in a recent case. There, the court noted:

the “reasonable cause” defense in a pleading does not lead to the automatic disclosure of privileged documents. Ad Investment 2000, 142 T.C. at 258-59. It merely gives the Commissioner grounds to compel the production of documents subject to the attorney-client privilege. Id.; see also Tax Court Rules 70, 72. Even when such a motion to compel is well-taken, case law suggests that disclosure may not result. For example, in Ad Investment 2000, the Tax Court found that the petitioners had waived their attorney-client privilege by putting protected communications at issue, and ordered the petitioners to produce the privileged documents. Id. However, the Tax Court simultaneously indicated that the petitioners could still protect their documents from disclosure by abandoning their “reasonable cause” defense.... (stating that, if the petitioners “persist, they sacrifice the privilege to withhold the contents of the opinions”).

While the case involved the circumstance of the pleading being filed in a separate case, the reasoning should equally apply when the pleading is within the instant case.

U.S. v. Micro Cap Ky Insurance Company, Inc., 119 AFTR2d 2017-XXXX (DC Ky 3/27/17)

Discretionary Trust Beneficiary Had No Standing to Challenge Adoption [Florida]

Since many estates and trusts define beneficiaries by description (e.g., “child” or “lineal descendant”) and it is a natural propensity for persons to gift or leave property to lineal descendants, the adoption of an individual can have a major impact on who benefits under a last will or a trust. Well drafted wills and trusts will typically contain provisions regarding adopting - such as whether an adopted person should be treated as a child or lineal descendant, and perhaps excluding persons who are adopted over a certain age from coming into those classes (so as minimize the risk of adoption being intentionally used to upset a dispositive scheme).

Ryan was a beneficiary of a trust established by his great-grandparents. His interest was discretionary only - distributions to him as a descendant were to be made only at the sole discretion of the trustees.

Ryan’s father adopted Brindley in 2004. This had the effect of making Brindley a beneficiary of the trust. When he was adopted, no notice was provided to Ryan. Ryan did not learn of the adoption until later, and in 2014 sought to challenge it, alleging fraud on the court because he did not receive notice and the opportunity to challenge it. After his adoption, Brindley received thousands of dollars from the trust as a beneficiary.

Under Stefanos v. Rivera-Berrios, 673 So.2d 12 (Fla. 1996) and the Florida Adoption Act, a person must show a direct, financial, and immediate interest in an adoption to be entitled to notice, or to have legal standing to vacate an adoption order. Applying this standard, the trial court ruled in favor of Ryan in allowing him to challenge the adoption order.

The 1st DCA reversed the trial court. Because Ryan’s interest as a beneficiary was only “contingent” since subject to the discretion of the trustee, Ryan was found not to possess a direct, financial and immediate interest in the trusts and thus in the adoption. Presumably, if Ryan’s interest was based on an ascertainable standard or provided for mandatory distributions that could be diluted by the addition of a new beneficiary, the Court would have ruled differently.

The Court distinguished Rickard v. McKesson, 774 So.2d 838 (Fla. 4th DCA 2000) from this case. In that case a contingent beneficiary of a trust was entitled to notice of an adoption proceeding because the adoption would divest the beneficiary of her interest in the trust. Since the adoption here would not result in divestment, Rickard did not mandate notice under the current facts, at least according to the 1st DCA.

Edwards and Kuiper v. Maxwell, 42 Fla.L.Weekly D742a (1st DCA, March 31, 2017)