United States: Wealth Management Update - October 2015

October Interest Rates for GRATs, Sales to Defective Grantor Trusts, Intra-Family Loans and Split Interest Charitable Trusts

The October § 7520 rate for use with estate planning techniques such as CRTs, CLTs, QPRTs and GRATs is 2.0%, down 0.2% from September. The October applicable federal rate ("AFR") for use with a sale to a defective grantor trust, self-canceling installment note ("SCIN") or intra-family loan with a note having a duration of 3-9 years (the mid-term rate, compounded annually) is 1.67%, down 0.1% from September.

The relatively low § 7520 rate and AFR continue to present potentially rewarding opportunities to fund GRATs in October with depressed assets that are expected to perform better in the coming years.

Clients also should continue to consider "refinancing" existing intra-family loans. The AFRs (based on annual compounding) used in connection with intra-family loans are 0.55% for loans with a term of 3 years or less, 1.67% for loans with a term between 3 and 9 years, and 2.64% for loans with a term of longer than 9 years.

Thus, for example, if a 9-year loan is made to a child, and the child can invest the funds and obtain a return in excess of 1.67%, the child will be able to keep any returns over 1.67%. These same rates are used in connection with sales to defective grantor trusts.

State of North Carolina May Not Tax a Nonresident Trustee on the Income of a Nongrantor Trust Based on the Existence of Resident Discretionary Beneficiaries (Kimberley Rice Kaestner 1992 Family Trust v. North Carolina Department of Revenue, Docket No. 12 CVS (N.C. Super. Ct., April 23, 2015))

The Business Court Division of the Superior Court of Wake County, North Carolina ruled that North Carolina did not have the authority to tax a nonresident trustee on the ordinary income and capital gains of a nongrantor trust based on the existence of resident discretionary beneficiaries.

North Carolina's relevant statute on income tax of trusts provides that tax may be imposed on the income of a trust that is for the benefit of a resident of North Carolina. The irrevocable trust in issue had been created in New York in 1992 by a New York resident. It named a New York resident as Trustee and designated New York as the governing law. Pursuant to its terms, the trust was divided into shares for the settlor's then living children (one of whom was a North Carolina resident) in 2002. The terms of the trust provided that income and principal could be distributed to beneficiaries for their best interests.

During the period at issue in this case (2005-2008), the trust investments consisted of financial assets, which were held with a custodian in Massachusetts; tax returns and other trust records were kept in New York, and no distributions were made to North Carolina residents.

Between 2005 and 2008, North Carolina taxed the trust on income accumulated in the trust. A total of $1.3 million was paid during that time. The Trustee brought suit, seeking a refund of that amount and challenging the state's authority to impose income taxes on the trust. The Trustee challenged the constitutionality of the statute under both the Due Process Clause and Commerce Clause of the U.S. Constitution.

The court looked at the U.S. Supreme Court's ruling in Quill v. North Dakota (1992), which provided two requirements for a state to impose a tax: (1) It required some minimum connection between a state and the person, property or transaction it seeks to tax, and (2) that the income attributed to the state for tax purposes be rationally relevant to values connected with the taxing state. The court found that the trust did not have sufficient contacts with North Carolina. The beneficiaries themselves had no control over the trust and were only discretionary beneficiaries, so their presence in the state, by itself, was not enough.

The court also did a commerce clause analysis using the four prongs identified in Complete Auto Transit v. Brady (U.S. 1977). A tax will withstand scrutiny if it meets all four of the following prongs: (1) It is applied to an activity with a substantial nexus to the taxing state; (2) it is fairly apportioned so as to tax only the activities connected to the taxing state; (3) it does not discriminate against interstate commerce; and (4) it is fairly related to services provided by the state. Based on the factors reviewed during the due process analysis, the court found that it failed on the first and fourth prongs.

Several other states (including California, Michigan and Ohio) seek to tax trusts on a similar basis. It is likely that challenges to taxes in those states will include similar arguments.

Court Relied on Square Corners Doctrine to Determine That New Jersey's Collection of Tax on Income Attributable to Non-New Jersey Assets Was Improper (Residuary Trust A U/W/O Fred E. Kassner v. Division of Taxation, Department of the Treasury, State of New Jersey (2015 N.J. Tax Lexis 11 (N.J. Sup. Ct. App. Div. 2015), aff'g, 27 N.J. Tax Ct. 2013))

Fred Kassner, who was a New Jersey resident at his death, created a testamentary trust under his will. The Trustee of the trust lived in New York and all aspects of trust administration occurred outside of New Jersey. The trust had no New Jersey assets in 2006 (the year in question).

Because the trust was created by a New Jersey resident, it met the definition of a "resident trust" for New Jersey income tax purposes (see NJSA § 54A:1-2(o)(2)-(3)). For the year 2006, the Trustee filed a New Jersey income tax return and paid tax on S corporation income attributable to activity in the state, but not on other income allocated outside of New Jersey. The return was audited, and the New Jersey Division of Taxation argued that all undistributed income should be taxable because the trust held assets in New Jersey.

The New Jersey Tax Court reviewed the tax on due process grounds and determined that the trust was not taxable on interest income and income attributable to business activity conducted outside of New Jersey. Further, it ruled that the trust could not be deemed to own assets in New Jersey just because it was a shareholder in S corporations that owned New Jersey assets.

The Appellate Division affirmed the Tax Court's decision, but did not even review the constitutional arguments. Instead, it looked at the state's "square corners doctrine," which requires the government to deal with its citizens fairly and equitably. The Division of Taxation had published literature since 1999 that indicated that undistributed trust income would not be taxable if the trustee was not a New Jersey resident and the trust had no New Jersey assets. The Division of Taxation did not issue publications contrary to that stance until 2011, after the year at issue in this case. Thus the Appellate Division ruled that it could not seek to apply its new position retroactively.

The Appellate Division emphasized the importance of the square corners doctrine in the field of taxation, because "trusts, businesses, individuals and others must be able to reliably engage in tax planning and, to do so, must know what the laws are." The Appellate Division did not review the constitutional issues in this case, so it is not known how it would rule if this tax had been imposed after 2011, when the Division of Taxation changed its policy. However, the New Jersey Tax Court's decision, which was based on a constitutional analysis, indicates that similar constitutional challenges may be successful in the future.

The Net Income Limitation Provision in a NIMCRUT Must Be Ignored, So That for Purposes of Determining the Present Value of the Charitable Remainder Interest, It Is Assumed that the Noncharitable Beneficiary Will Always Receive the Annual Standard Unitrust Payment (Estate of Schaefer v. Commissioner (145 T.C. 4 (T.C. July 2015))

In Estate of Schaefer v. Commissioner, the Tax Court looked at IRC Section 664(e), which provides the valuation rules for charitable remainder trusts. The trusts at issue in this case were NIMCRUTs (Net Income with Makeup Charitable Remainder Trusts). The issue before the Tax Court was whether the net income limitation contained in a NIMCRUT should be considered for purposes of determining the present value of the charitable remainder interest for purposes of the 10% remainder interest requirement. The Tax Court held that the net income limitation provision must be ignored, so that it is assumed that the noncharitable beneficiary will always receive the standard unitrust payment.

Mr. Schaefer created two charitable remainder unitrusts (CRUTs) in 2006, of which he was the initial income beneficiary. After his death, one son became the income beneficiary of one trust and one son became the income beneficiary of the other. CRUT #1 provided for a payout equal to the lesser of the CRUT's annual income or 11% of the annual fair market value of the trust. CRUT #2 provided for a payout equal to the lesser of the CRUT's annual income or 10% of the annual fair market value of the trust. The Unitrust Period for each trust ended on the later of (1) the date preceding the date of death of the last income beneficiary or (2) 20 years after the trust was created. Each trust provided that if trust income exceeded the fixed percentage, then additional distributions of income were to be made to make up for previous years when income did not yield enough to satisfy a distribution of the fixed percentage amount (this is the "Net Income with Makeup" provision).

When Mr. Schaefer died in 2007, the estate did not claim a charitable contribution deduction for any portion of the trusts, but rather reduced the amounts reported on Schedule D (Transfers During Decedent's Life) by the amounts it determined to be charitable. The estate tax return was audited, and the IRS adjusted the valuation of the trusts and argued that the trusts did not meet the requirement that the value of the charitable remainder interest be at least 10% of the net fair market value of the property on the date of contribution.

The Tax Court determined that IRC 664(e) was ambiguous, but ultimately ruled that the IRS was correct, after reviewing the relevant legislative history associated with the statute and associated regulations. The legislative history indicated that, for purposes of determining the charitable contribution, the remainder interest is computed on the basis that an amount equal to the fixed percentage is to be distributed each year, even though there is a possibility that amount may be less.

The court held that where the trust payout is the lesser of the trust income or a fixed percentage, the parties must use an annual distribution amount equal to the fixed percentage stated in the trust instrument to determine whether the estate is eligible for the charitable contribution deduction. In this case, this caused the charitable remainder interest to be valued at less than 10%, so the trust failed to qualify as a charitable remainder trust under § 664 and no charitable deduction was available to the estate.

Because the valuation rules of 664(e) looks to the value as of the date of contribution, this case emphasizes how important it is to determine that a particular trust will meet the 10% remainder interest requirement before it is created and funded.

IRS Extends the Time to File Basis Statements Required by the Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 to February 29, 2016 (IRS Notice 2015-57)

The Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 (commonly referred to as the "Highway Bill"), signed by President Obama on July 31, 2015, added new "consistent basis reporting" rules to the Internal Revenue Code requiring beneficiaries of estates to use the Federal estate tax value of assets received as their basis for income tax purposes. This law is effective with respect to all estates filing estate tax returns after July 31, 2015.

The new rules require that within 30 days of filing Form 706, the executors must provide each beneficiary with a statement showing the estate tax value of all property to be received by the beneficiary and file a copy of each statement with the IRS. IRS Notice 2015-57, released on August 21, 2015, extends the deadline for providing these statements until February 29, 2016. According to Notice 2015-57, the IRS plans to issue guidance regarding these statements.

Wealth Management Update - October 2015

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Similar Articles
Relevancy Powered by MondaqAI
Fox Rothschild LLP
Proskauer Rose LLP
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
Similar Articles
Relevancy Powered by MondaqAI
Fox Rothschild LLP
Proskauer Rose LLP
Related Articles
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions