Private Letter Ruling
Number: 9643013
Internal Revenue Service
July 19, 1996

Internal Revenue Service
Department of the Treasury
P.O. Box 7604
Ben Franklin Station
Washington, DC 20044

Index Nos. 2033.01-00, 2036.00-00, 2037.00-00, 2038.00-00, 2041.00-00

Dear *****:

On April 30, 1996, and in prior correspondence, you asked us to rule on the tax treatment of two proposed trusts under §§ 2033, 2036, 2037, 2038, and 2041 of the Internal Revenue Code under the facts set forth below.

A and B are husband and wife. A proposes to create an inter vivos irrevocable trust designated as M Grantor Trust for the benefit of their children and descendants. B plans to create a similar trust, designated as N Grantor trust, for the benefit of her spouse, A, and their children and descendants. Presently, the only descendants are the grantors’ three children.

Each taxpayer proposes to create the above trusts with his or her separate funds.

Each grantor will be trustee of the other grantor’s trust. However, pursuant to Article VI.I. of each trust instrument, all fiduciary powers over distributions of principal and income to or for any trust beneficiary, together with the power to select the assets for distribution is vested in a “Distribution Trustee”. C, a public accountant, is designated as the first Distribution Trustee. C is not related to A or B. Under Article II.A of both trusts, the Distribution Trustee is not, authorized to hold or acquire life insurance policies on the life of either A or B. In addition, the powers set forth in Article V.A.5 and V.A.16 relating to allocation of assets and division of the trust into separate shares are to be exercised only by the Distribution Trustee.

Paragraph I of Article VI of both trusts requires that any successor to C be an independent trustee and may not be the grantor or beneficiary of the trusts or a person related or subordinate to either of the grantors of the trusts within the meaning of § 1.672(c)-1 of the Income Tax Regulations or any person subordinate to a beneficiary of any trust established under the trust instrument; nor shall any successor be a person without the capability and competence to fulfill the responsibility of the position.

Both trusts provide at Article II.B. that during each grantor’s lifetime, each current beneficiary is to have the right to withdraw property transferred to the trust if such property is designated as withdrawable property by the donor.

The M Trust provides at Article II.B.10. that during A’s lifetime, each current beneficiary or beneficiaries shall mean A’s and B’s children, unless otherwise designated in the instrument.

The N Trust provides at Article II.B.10 that during B’s lifetime, the current beneficiary or beneficiaries shall mean A and their three children unless otherwise designated in the instrument. If A should predecease B, the term current beneficiary is to mean their children only.

Paragraph B of Article II of both trusts further provides that until the grantor’s death, the trustee is to distribute to each current beneficiary from time to time living such amounts of net income and principal of the trust as each current beneficiary may demand by written instrument delivered to the trustee, subject to the following restrictions and requirements.

1. A current beneficiary may only make a demand with respect to a contribution of gift property. Gift property is defined as such part of all or any property given to the trust as to which the donor or the donor’s spouse could claim a gift tax annual exclusion under § 2503(b) if the property is given outright to the beneficiaries.

2. The demand with respect to any contribution of gift property shall not exceed the fair market value of the contribution determined as of the time it was added to the trust divided by the number of current beneficiaries living at the time of such contribution and shall not exceed the such lesser amount, if any, specified by the grantor in writing.

3. Any demand by a current beneficiary must be made to the trustee within thirty days after the contribution of gift property to the trust. Unless the donor shall specify in writing a different date in advance of the contribution of gift property, any withdrawal right shall terminate thirty days after the date of the contribution, but only to the extent that such termination does not exceed (i) the greater of $5,000.00 or 5% of the value of the trust on the termination date, less (ii) the value of the withdrawal rights possessed by the beneficiary. If any current beneficiary possesses withdrawal powers created under this article which have not terminated and are related to more than one transfer, then the powers shall terminate in the order in which they were created.

Article II.C. of the N Trust provides that, during A’s lifetime, the Distribution Trustee may also distribute to such one or more of A, the children, grandchildren of A and B and their descendants from time to time living, so much, including all or none, of the net income and principal of the trust from time to time as the trustee deems advisable in his absolute discretion. However, no distribution of trust principal may be made under this paragraph if it would impair the right of withdrawal granted under Paragraph B of this article. Further no such distribution shall be charged as an advancement. The trustee may make unequal distributions to the above beneficiaries or may exclude one or more of them, and has no duty to equalize those distributions.The N Trust further provides that it is B’s preference but not her direction, that no distributions be made, but if made, that they be confined to A, and, if distributions are made to her descendants, that they be made to her children rather than to her grandchildren.

Article II.C of the M Trust provides that during B’s lifetime, the Distribution Trustee shall distribute to one or more of A’s children, grandchildren, or one or more of their descendants from time to time living so much, including all or none of the net income and principal of the trust, as the trustee may from time to time deem advisable in his absolute discretion. However, no distribution of trust principal may be made by the trustee under this paragraph if it would impair the right of withdrawal granted under paragraph B of this Article. Further, no distribution shall be charged as an advancement. The trustee may make unequal distributions to the above beneficiaries or may exclude one or more of them, and has no duty to equalize these distributions.The M Trust further provides that it is A’s preference, but not his direction, that no distributions be made, but if made, that they be confined to A’s children rather than grandchildren or more remote descendants.

Under Article III. A of both trusts, upon the death of each spouse, the trustee is expressly authorized, although not required, to purchase from, sell assets to or make loans to each spouse’s probate estate or any other trusts created by either or both of them even though the trustee may be also acting as a trustee of such other trust or as a personal representative of either spouse’s probate estate. Any such transactions with either probate estate or any such trust shall be at arm’s length and upon reasonable terms consistent with the prudent management of the trust.

Both trusts provide in Article III.C. that after the deaths of each spouse, the trusts continue for the benefit of the grantor’s children and descendants of deceased children.

The dispositive provisions of the trusts are subject, however, to a special power of appointment. In Trust N, the special power is given to C, under Article III.B. In Trust M, the special power is given to the grantor’s spouse under Article III. B.

Article III.B of the N Trust provides as follows:

Special power of appointment in C. During the life of my spouse and after his death, notwithstanding the provisions of Article II, the trustee shall distribute that part or all of the principal of the trust as then constituted and any accrued or undistributed net income thereof to such one or more persons who are descendants of mine, or were at any time married to a descendant of mine as C may appoint by written instrument filed with the trustee before the later of January 1, 2022, or the deaths of my spouse and me, specifically referring to this power of appointment. If this special power of appointment is effectively exercised by written instrument, it shall be deemed irrevocably exercised, and if desired, the trustee may divide the trusts into separate shares or trusts in accordance with Article V, Paragraph A, clause 16. I empower C to at any time or times release or surrender, in whole or in part, the special power of appointment granted in this paragraph. The power of appointment shall be further subject to the provisions of Article VII.

Article III.B of the M Trust provides as follows:

Special power of appointment in my spouse. During the life of my spouse and after her death, notwithstanding the provisions of Article II, the trustee shall distribute that part or all of the principal of the trust as then constituted and any accrued or undistributed net income thereof to such one or more of persons who are descendants of mine, or who at any time were married to a descendant of mine, as my spouse may appoint by will or other written instrument filed with the trustee before the later of January 1, 2022, or the deaths of my spouse and me, specifically referring to this power of appointment. If this special power of appointment is effectively exercised by written instrument (rather by will) during her lifetime by my spouse, it shall be deemed to be irrevocably exercised, and if desired the Distribution Trustee may divide the trust into separate shares in accordance with Article V1 Paragraph A, clause 16. I empower my spouse to at any time or times release or surrender, in whole or in part, the special power of appointment granted in this paragraph.

This power of appointment shall be further subject to the provisions of Article VII below.

Article VII. A of Trust N provides that the special power of appointment is given to the independent trustee, C, (as well as any successors) to hold and exercise (or refuse to exercise) in a non-fiduciary capacity and beyond the reach or supervision of any court or beneficiary. The article further provides that the fact that the holder may have some other role or power with respect to this trust shall not alter or affect the non-fiduciary role or capacity with which this special power of appointment is held.Article VII. A of Trust M provides a similar provision with respect to the special power of appointment granted to the grantor’s spouse.

Article VII. B of each Trust provides if the holder of the special power should die or become legally incapable of exercising the special power of appointment, or should surrender the power, then a court appointed successor shall succeed the holder unless the holder appoints a successor to himself. Any successor appointed by a holder of the special power has the power to similarly appoint a successor in the same manner, failing which a court appointed successor shall assume the holder’s powers. However, any successor may not be the trustee of the trust, the grantor of the trust, a beneficiary of the trust or any person related or subordinate to the grantor within the meaning of § 1.672-(c)- 1. Article VII. C provides that the holders of the special powers respectively or any successor, shall be indemnified by the trustee for any costs, expenses and liability attributable to any litigation of any kind brought against the holder of the special power, or any successor.

The special power of appointment in both trust instruments is exercisable at any time after the creation of the trusts and, therefore, before or after the death of the grantors.

Both trusts provide at Article III. C that after the death of each grantor’s spouse, to the extent that the special power of appointment has not been effectively exercised, the assets comprising the trusts or any part thereof not effectively appointed, is to be divided into as many separate and equal shares or trusts as the grantors have children then living, the descendants of any deceased child to be allocated on a per stirpital basis (in separate shares) the share or trust to which their parent would have been entitled.

Both trusts provide at Article III. C(2)(a) for final distribution and termination of the trusts. In general, to the extent the corpus is not appointed, each trust is to be divided into separate trusts, one for each of the grantors’ then living children per stirpes. At such time after A’s or B’s spouse’s death as the beneficiary of a trust reaches the age of fifty (50) years, the trustee shall distribute the remaining principal to the beneficiary. If the beneficiary should die prior to final distribution, the remaining net income and principal of the trust is to be distributed to such persons, including the beneficiary’s estate as he shall appoint by will making specific reference to the general power of appointment created herein.

The taxpayers have requested the following rulings:

1) In Trust M, A’s grant to his spouse of the special power of appointment will not cause the trust principal, including any accumulated income, to be includible in his gross estate for federal estate tax purposes. Similarly, B’s grant of the special power of appointment to C will not cause the trust principal or any accumulated income to be includible in her gross estate for federal estate tax purposes;

2) The naming of A’s or B’s children, or grandchildren as life beneficiaries in the M and N trusts, respectively, where an independent trustee (within the meaning of § 674(c) and § 1.672(c)-(1)) has absolute discretion whether and to whom to distribute income and principal, will not cause the trust principal, including any accumulated income, to be includible in either grantor’s gross estate for federal estate tax purposes, particularly under § 2036 and § 20.2036-1(b)(2) of the Estate Tax Regulations; and

3) The two trusts are not reciprocal trusts within the meaning of the United States v. Estate of Grace , 395 U.S. 316 (1969).

Section 2033 provides that the value of the gross estate shall include the value of all property to the extent of the decedent’s interest therein at the time of his death.

Section 20.2033-1(a) provides, in general, that the gross estate of a decedent who was a citizen or resident of the United States at the time of his death includes the value of all property, whether real or personal, tangible or intangible, and wherever situated, beneficially owned by the decedent at the time of his death.

Section 2036(a) requires the inclusion in the gross estate of property to the extent of any interest of which the decedent has made a lifetime transfer under which he has retained for his life, or for any period not ascertainable without reference to his death or for any period that does not in fact end before his death:

1) the possession or enjoyment of, or the right to the income from, the property, or

2) the right either alone or in conjunction with any other person, to designate the person or persons who shall possess or enjoy the property or the income therefrom.

Section 20.2036-1(a) provides that an interest or right is treated as having been retained, if at the time of the transfer there is an understanding, express or implied that the interest or right would later be conferred.

Section 20.2036-1(b)(2) provides that the use, possession, right to income, or other enjoyment of the transferred property is considered as having been retained by or reserved to the decedent to the extent that the use, possession right to income, or other enjoyment is to be applied toward the discharge of a legal obligation of the decedent, or otherwise for his pecuniary benefit. The term “legal obligation” includes a legal obligation to support a dependent during the decedent’s lifetime.

Section 2037(a) provides that the value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time after September 7, 1916, made a transfer (except in the case of a bona fide sale for an adequate and full consideration in money and money’s worth) by trust or otherwise, if-

1) possession or enjoyment of the property can, through ownership of such interest, be obtained only by surviving the decedent, and

2) the decedent has retained a reversionary interest in the property (but in the case of a transfer made before October 8, 1949, only if such reversionary interest arose by the express terms of the instrument of transfer), and the value of such reversionary interest immediately before the death of the decedent exceeds 5 percent of the value of such property.

Section 2037(b) provides that for the purposes of this section, the term “reversionary interest” includes a possibility that property transferred by the decedent-

1) may return to him or his estate, or

2) may be subject to a power of disposition, but such term does not include a possibility that the income alone from such property may return to him or become subject to a power of disposition by him. The value of the reversionary interest immediately before the death of the decedent shall be determined (without regard to the fact of the decedent’s death) by the usual methods of valuation including the use of tables of mortality and actuarial principles, under regulations prescribed by the Secretary. In determining the value of a possibility that the property may be subject to a power of disposition by the decedent, such possibility shall be valued as if it were a possibility that such property may return to the decedent or his estate. Notwithstanding the foregoing, an interest so transferred shall not be included in the decedent’s gross estate under this section if possession or enjoyment of the property could have been obtained by any beneficiary during the decedent’s life through the exercise of a general power of appointment (as defined in § 2041) which in fact was exercisable immediately before the decedent’s death.

Section 2038(a)(1) provides that the value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money’s worth), by trust or otherwise, where the enjoyment thereof was subject at the date of his death to any change through the exercise of a power, (in whatever capacity exercisable) either by the decedent alone or by the decedent in conjunction with any other person, (without regard to when or from what source the decedent acquired the power) to alter, amend, revoke, or terminate, or where the decedent relinquished any such power during the three-year period ending on the date of the decedent’s death.

Section 20.2038-1 provides that § 2038 does not apply to a power held solely by a person other than the decedent.

Section 2041(a)(2) includes in the decedent’s gross estate property with respect to which the decedent has at the time of his death a general power of appointment created after October 21, 1942.

Section 2041(b) provides that the term “general power of appointment” means a power exercisable in favor of the decedent, his estate, his creditors or the creditors of his estate.

Ruling Request No.1 (§§ 2033, 2036, 2037, 2038, 2041)

The trust principal (and accumulated income) of the M and N Trusts will not be includible in either A’s or B’s gross estate under § 2033, because at their deaths neither A nor B will own or possess any interest in the trust or the trust property.See Helvering v. Deposit and Trust Co. of Baltimore , 316 U.S 65, rev’g on other grounds 121 F.2d 307 (4th Cir. 1941), in which the court held that a life estate coupled with a limited power of appointment was not property’ owned by the decedent under § 2033.

The M and N Trust principal (and accumulated income) is not includible in A’s or B’s gross estate, respectively under § 2036 because neither A nor B has retained or reserved the right to the enjoyment or use of the property, or the right to the income from their respective trusts. A and B have no right to have the principal of their respective trusts invaded for their benefit, either under an ascertainable standard relating to health, support, maintenance, education, or otherwise. Additionally, A and B have no power to appoint their respective trusts. The trust income and principal will pass to persons other than A or B (either as takers in default of the exercise of a power of appointment, or as other persons within the class of possible appointees under a power of appointment.) See Estate of Muhl , 867 (7th Cir. 1957), rev’g 25 T.C. 22 (1955); Estate of Mitchell v. Commissioner , 55 T.C. 576 (1976).

The M and N Trusts are not includible in the cross estate of A or B respectively under § 2037 because they have retained no reversion in the trusts.

Additionally, § 2038 will not cause inclusion of the trust principal and income in the gross estate of A or B respectively because neither A nor B has a retained power over their trusts.

Furthermore, except as noted below, the trust property and accumulated income will not be includible in A’s or B’s gross estate because neither A nor B has a general power of appointment under § 2041, over the trusts. However, A possesses a withdrawal right with respect to the N Trust, which right does not terminate to the extent that the power can be exercised with respect to amounts in excess of the greater of 5 percent or $5,000 of trust corpus. Thus, the N Trust will be includible in A’s gross estate under § 2041 to the extent of A’s power to withdraw corpus immediately before his death.

Ruling Request No. 2

In view of the differences between the trusts created by A and B, we conclude that the M and N trusts are not reciprocal within the meaning of United States v. Estate of Grace , 305 U.S. 316 (1969). Therefore, the trusts will not be included in the gross estate of either A or B.

This ruling is based on the facts and applicable law in effect on the date of this letter. If there is a change in a material fact or law (local or federal) before the transactions considered in this ruling take effect, the billing will have no force or effect. If the taxpayer is in doubt whether there has been a change in material fact or law, a request for reconsideration of the ruling should be submitted to this office.

This ruling is directed to the taxpayer who requested it. Section 6110(j)(3) provides that it may not be used or cited as precedent.

Sincerely yours,

Assistant Chief Counsel (Passthroughs and Special Industries)

George Masnik
Chief, Branch 4

Private Letter Ruling
Number: 9748029
Internal Revenue Service
August 29, 1997

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Index No.: 2042.00-00

Dear *****:

This is in response to your letter dated July 15, 1997, and prior correspondence submitted by your authorized representatives in which you requested rulings on whether a trust would be included in your gross estate for federal estate tax purposes.

On May 7, 1990, A , established an irrevocable trust, Trust, for the benefit of his spouse, B , and his children. The Trust was funded with a second to die life insurance policy on the lives of A and B . The trustees of Trust are A ‘s two children. Under the terms of the Trust, any contribution to the Trust may be withdrawn by B , provided the amount of withdrawal can not exceed $5,000 for any calendar year. A ‘s children have the right to withdraw a proportionate amount of any contribution not withdrawn by B , not to exceed $5,000. Each withdrawal right lapses on the earlier of (a) the last of the year in which the contribution was made, or (b) 60 days after the contribution. During A ‘s lifetime, the trustee is authorized to use some or all of the trust income to pay premiums on policies of life insurance on the lives of A and B . After paying any insurance premium, the trustees may distribute to or for the benefit of B and the children so much of the trust income and principal as the trustees deem appropriate.

After A ‘s death, the trustees are to pay to or for the benefit of B and the children so much of the Trust’s income and principal, as the trustees deem appropriate for the comfort and general welfare of those beneficiaries. Upon B ‘s death, the trustees have discretion to pay B ‘s burial expenses, expenses of her last illness, and death and succession taxes. Any remaining corpus is to be divided into separate shares with a separate share to be distributed to each living child and a share to be distributed per stripes to the living descendants of a deceased child.

A transferred property to Trust, and Trust applied for a second to die life insurance policy on the lives of A and B . Trust has owned the policy at all times. The trustees possess all incidents of ownership in the policy. A died on January 26, 1996, survived by B . B has made no transfers to Trust. The trustees have continued to pay the premiums on the insurance policy from trust funds.

Although a bank is named successor trustee, the trustees have the ability to name additional co-trustees. The trust instrument does not prohibit B from being added as an additional co-trustee.

You have requested a ruling that the Trust and insurance policy will not be included in B ‘s gross estate under §§ 2036, 2038, and 2042 of the Internal Revenue Code.

Section 2001(a) of the Code imposes a tax on the transfer of the taxable estate of every decedent who is a citizen or resident of the United States.

Section 2033 provides that the value of the gross estate shall include the value of all property to the extent of the interest therein of the decedent at the time of the decedent’s death.

Section 2036(a) provides that the value of the decedent’s gross estate includes the value of all property to the extent of any interest transferred by the decedent with respect to which the decedent has retained for life either an income interest in the property or the right to designate the persons who will possess or enjoy the property or have an interest in the income of the property.

Section 2038(a)(1) provides that, in the case of transfers after June 22, 1936, the value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money’s worth), by trust or otherwise, where the enjoyment thereof was subject at the date of death to any change through the exercise of a power (in whatever capacity exercisable) by the decedent alone or by the decedent in conjunction with any other person (without regard to when or from what source the decedent acquired such power) to alter, amend, revoke, or terminate, or when any such power is relinquished during the 3- year period ending on the date of the decedent’s death.

Section 2042(1) provides that the value of the gross estate shall include the value of all property to the extent of the amount receivable by the executor as insurance on the life of the decedent.

Section 2042(2) provides that the value of the gross estate shall include the value of all property to the extent of the amount receivable by all other beneficiaries as insurance under policies on the life of the decedent with respect to which the decedent possessed at his death any of the incidents of ownership, exercisable either alone or in conjunction with any other person.

Section 20.2042-1(b) of the Estate Tax Regulations provides as follows, regarding the application of § 2042(1):

Section 2042 requires the inclusion in the gross estate of the proceeds of insurance on the decedent’s life receivable by the executor or administrator, or payable to the decedent’s estate. It makes no difference whether or not the estate is specifically named as the beneficiary under the terms of the policy. Thus, if under the terms of an insurance policy the proceeds are receivable by another beneficiary but are subject to an obligation, legally binding upon the other beneficiary, to pay taxes, debts, or other charges enforceable against the estate, then the amount of such proceeds required for the payment in full (to the extent of the beneficiary’s obligation) of such taxes, debts, or other charges is includible in the gross estate.

Section 20.2042-1(c)(2) provides that the term “incidents of ownership” is not limited in its meaning to ownership of a policy in the technical legal sense. Generally speaking, the term has reference to the right of the insured or his estate to the economic benefits of the policy. Thus, it includes the power to change the beneficiary, to surrender or cancel the policy, to assign the policy, to revoke an assignment, to pledge the policy for a loan, or to obtain from the insurer a loan against the surrender value of the policy.

Section 20.2042-1(c)(4) provides that a decedent is considered to have an incident of ownership in an insurance policy on his life held in trust if, under the terms of the policy, the decedent, either alone or in conjunction with another person or persons, has the power, as trustee or otherwise, to change the beneficial ownership of the policy or its proceeds or the time or manner of enjoyment thereof, even though the decedent has no beneficial interest in the trust.

In the present case, A created and funded the Trust in 1990 and made all transfers to the Trust. B has made no direct contributions nor indirect contributions by reason of the lapse of the $5,000 withdrawal right. See § 2514(e). Under the terms of the Trust, B does not possess any rights within the meaning of §§ 2036 or 2038. Assuming B is not named as an additional trustee, B will not have any incidents of ownership in the policy by reason of § 20.2042-1(c)(4). Assuming B does not make any contributions to the Trust (either directly or indirectly) we conclude that the Trust and insurance policy will not be included under §§ 2036, 2038, and 2042(2) in B ‘s gross estate upon her death.

However, we express no opinion regarding the application of § 2042(1) which is dependent on facts presented at the spouse’s death; for example, whether the trustee will be legally bound to pay B ‘s burial expenses, expenses of her last illness, and death and succession taxes at that time. See Rev. Rul. 77-157, 1977-1 C.B. 279.

Except as we have specifically ruled herein, we express no opinion concerning the federal tax consequences of the above described transaction under the cited provisions or under any other provision of the Code.

In accordance with the power of attorney on file with this office, we are sending a copy of this letter to your authorized representative.

This ruling is directed only to the taxpayers who requested it. Section 6110(j)(3) provides that it may not be used or cited as precedent.

Sincerely,

Assistant Chief Counsel
(Passthroughs and Special Industries)

George Masnik
Chief, Branch 4

Private Letter Ruling
Number: 200426008
Internal Revenue Service
March 10, 2004

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 200426008
Release Date: 6/25/04
Index Number: 2033.00-00; 2036.00-00; 2038.00-00
In Re:
Person To Contact:
ID No.
Telephone Number:
Refer Reply To:
CC:PSI:B04 – PLR-125317- 03
Date: MARCH 10, 2004

Dear **********:

This is in response to your letter dated April 9, 2003, and subsequent submissions, in which you request a ruling regarding the federal estate tax treatment of two trusts.

Facts

The facts submitted and representations made are as follows:

Husband and Wife each propose to execute an irrevocable trust agreement which will create Husband’s Trust and Wife’s Trust, respectively. Each trust will be the initial owner of a life insurance policy on the life of the respective settlor. Each settlor will contribute cash to the trust that the settlor executed. Wife is named as the trustee of Husband’s trust and Husband is named as the trustee of Husband’s Trust.

The terms of the trusts are identical in the following respects:

Under Article I, specified beneficiaries have the right to withdraw specified portions of each transfer to the trust for a limited time.

Under Article III, for purposes of the trust agreement, the Settlor’s spouse will be deemed to be deceased and the Settlor’s spouse and heirs of the Settlor’s spouse, other’s than the Settlor’s issue, will be ineligible to be a beneficiary or trustee or to exercise any powers, if the Settlor and the Settlor’s spouse are divorced, legally separated, or while a legal action for their divorce or separation is pending.

Article VII, Section 1. contains provisions that apply “[w]ith respect to the entire trust during the joint lifetimes of Settlor and Settlor’s spouse, and for so long as Settlor’s spouse is not deemed to be deceased pursuant to Article III.” Under Article VII, Section 1., during the joint lives of the Settlor and the Settlor’s spouse, the trustee must distribute to or for the benefit of the spouse and/or Son1 any amounts of income or principal as is necessary or advisable for their health, support, maintenance, and education. Son1’s needs must be satisfied before any distribution may be made to the Settlor’s spouse.

Under Article VII, Section 2., if the Settlor survives the spouse’s actual or deemed death, during the Settlor’s remaining life, the trustee must distribute to or for the benefit of Son1, or if Son1 is deceased, to the Settlor’s issue, any amounts of income or principal as is necessary or advisable for their health, support, maintenance, and education.

Under Article VII, Section 3., if Son1 predeceases the Settlor but the spouse survives and is not deemed to be deceased under Article III, then to the extent that any trust property is included in the Settlor’s gross estate for federal estate tax purposes, that property will be held as a separate Marital Trust as of the Settlor’s death. During the remaining life of the Settlor’s spouse, the Settlor’s spouse will receive all of the net income of the Marital Trust at least quarter annually and any principal the trustee deems necessary or advisable to supplement that income to provide for the spouse’s health, support, maintenance, and education.

Under Article VII, Section 4., if the Settlor’s spouse survives the Settlor, with respect to trust assets not in a Marital Trust, the trustee must distribute to or for the benefit of the Settlor’s spouse and/or Son1 any amounts of income or principal as is necessary or advisable for their health, support, maintenance, and education. Son1’s needs must be satisfied before any distribution may be made to any other beneficiary.

Under Article VII, Section 5., if Son1 survives the Settlor and the actual or deemed death of the Settlor’s spouse, the trust assets will be held for Son1 for his life. In general, the trustee must pay to or for the benefit of Son1 any amount of income or principal as is necessary or advisable for Son1’s health, support, maintenance, and education. Upon the death of the survivor of Son1, the Settlor, and the Settlor’s spouse (including the deemed death of Settlor’s spouse), the trust will be divided among and held for the Settlor’s then living issue and deceased children with then living issue.

Under Article VIII, Section 4., a trustee cannot participate in any decision that would discharge the trustee’s obligations as an individual, including a support obligation, or that would amend or terminate the trust, if doing so would cause inclusion of the trust assets in the trustee’s gross estate.

The terms of the two trusts differ in several respects. Husband’s Trust contains the following provisions that are not in Wife’s Trust: “With respect to the entire trust during the joint lifetimes of Settlor and Settlor’s spouse, and for so long as Settlor’s spouse is not deemed to be deceased pursuant to Article III,” Husband’s Trust provides as follows under Article VII, Section 1.:

b. After [Son1’s] death, Settlor’s spouse shall have the noncumulative personal right in any calendar year, within the period beginning December 1 and ending December 31 of each such calendar year, to withdraw from principal by written request amounts not exceeding five thousand dollars ($5,000) in the aggregate and, in addition, if Settlor’s spouse shall be living on the last day of such year to withdraw an amount, if any, by which five percent (5%) of the then market value of the principal exceeds the amounts previously withdrawn during such calendar year. The amounts which Settlor’s spouse is entitled to withdraw under this Section 2.b. are in addition to any other amounts distributed from this trust.

c. Settlor’s spouse may, during Settlor’s spouse’s lifetime, dictate how the trust principal shall be distributed subsequent to [Son1’s] death. The exercise of this power shall be made by specific reference to it, in a written document delivered to the Trustee. This power may only be
exercised in favor of (i) any one or more of those persons who are the issue of Settlor, (ii) any person who is a spouse of an issue of Settlor, and/or (iii) any trust which is created primarily for the benefit of one or more of those persons who are objects of this power. In no event shall this power be exercised in favor of Settlor’s spouse, the creditors of Settlor’s spouse, the estate of Settlor’s spouse or the creditors of Settlor’s spouse’s estate.

Article VII, Section 1. of Husband’s Trust provides that the trust assets will be held and administered under Article VII, Sections 2. or 3. and 4., to the extent that, upon the death of the first to die of Settlor or Settlor’s spouse, Settlor’s spouse does not exercise the power of appointment provided under Article VII, Section 1.c.

With respect to the Marital Trust, Husband’s Trust provides, under Article VII, Section 3.:

c. The Trustee shall pay to Settlor’s spouse such sums from the principal of the Marital Trust as Settlor’s spouse may request in writing from time to time. The amount so paid in any calendar year shall in no event exceed five percent (5%) of the value of the Marital Trust on the first day of the calendar year during which payment is made. The amounts which Settlor’s spouse is entitled to withdraw under this Section 3.c. are in addition to any amounts distributed from this trust under Sections 3.a. and 3.b. of this Article.

e. On the death of Settlor’s spouse, . . . [t]he remaining principal of the Marital Trust. . . shall be paid as Settlor’s spouse may appoint by Settlor’s spouse’s Will, specifically referring to this power of appointment. Any exercise of this power shall not take effect until after [Son1’s] death. This power may only be exercised in favor of (i) any one or more of those persons who are the issue of Settlor, (ii) any one or more of those organizations, gifts to which qualify as deductible, charitable contributions under either Section 170 or Section 2055 of the Internal Revenue Code of 1986, as amended, and/or (iii) any trust which is created primarily for the benefit of any one or more of those persons or entities who are objects of this power. In no event shall this power be exercised in favor of Settlor’s spouse, the creditors of Settlor’s spouse, the estate of Settlor’s spouse or the creditors of Settlor’s spouse’s estate.

To the extent Settlor’s spouse does not exercise her power over the assets remaining in the Marital Trust at her death, those assets will be subject to the provisions of Article VII of that follow Article VII. Section 3.

With respect to any assets not placed in a Marital Trust if his spouse survives Husband, Husband’s Trust provides under Article VII, Section 4.:

b. After [Son1’s] death, Settlor’s spouse shall have the noncumulative personal right in any calendar year, within the period beginning December 1 and ending December 31 of each such calendar year, to withdraw from principal by written request amounts not exceeding five thousand dollars ($5,000) in the aggregate and, in addition, if Settlor’s spouse shall be living on the last day of such year to withdraw an amount, if any, by which five percent (5%) of the then market value of the principal exceeds the amounts previously withdrawn during such calendar year. The amounts which Settlor’s spouse is entitled to withdraw under this subsection are in addition to any other amounts distributed from this trust.

c. Settlor’s spouse may, by Will or during Settlor’s spouse’s lifetime, dictate how the trust principal shall be distributed. The exercise of this power shall be made by specific reference to it in a written document delivered to the Trustee. . . . Any exercise of this power shall not take effect until after [Son1’s] death. This power may only be exercised in favor of (i) any one or more of those persons who are the issue of Settlor, (ii) any one or more of those organizations, gifts to which qualify as deductible, charitable contributions under either Section 170 or Section 2055 of the Internal Revenue Code of 1986, as amended, and/or (iii) any trust which is created primarily for the benefit of one or more of those persons who are objects of this power. In no event shall this power be exercised in favor of Settlor’s spouse, the creditors of Settlor’s spouse, the estate of Settlor’s spouse or the creditors of Settlor’s spouse’s estate.

Wife’s Trust contains the following provisions that are not in Husband’s Trust:

Under Article III, Section 3., Wife’s trust provides:

Except with respect to the Marital Trust under Article VII, Section 3., Settlor’s spouse shall be a Beneficiary under this Agreement only during such time or times (“Relevant Date”) as:

a. the net worth of Settlor’s spouse is less than [$a] (the “Net Worth Threshold”);

b. Settlor’s spouse’s income from personal services for the calendar year is less than [$a] (the “Compensation Limit”); and

c. the Relevant Date is at least three (3) years after the death of Settlor.

Furthermore, any distributions to Settlor’s spouse under this Agreement at the Relevant Date(s) shall be limited to an amount equal to [$b] (“Maximum Amount”) reduced by Settlor’s spouse’s income from personal services during such calendar year.

Article III, Section 3. of Wife’s Trust contains specific guidelines for determining if the net worth and income from personal services of Settlor’s spouse meet the Net Worth Threshold and the Compensation Limit.

You have asked us to rule as follows:

1. Neither the Husband’s Trust nor the Wife’s Trust will be includible in the Husband’s gross estate for federal estate tax purposes by application of the reciprocal trust doctrine.

2. Neither the Husband’s Trust nor the Wife’s Trust will be includible in the Wife’s gross estate for federal estate tax purposes by application of the reciprocal trust doctrine.

Law and Analysis

Section 2033 provides that the value of the gross estate shall include the value of all property to the extent of the decedent’s interest therein at the time of his death.

Section 20.2033-1(a) of the Estate Tax Regulations provides, in general, that the gross estate of a decedent who was a citizen or resident of the United States at the time of his death includes the value of all property, whether real or personal, tangible or intangible, and wherever situated, beneficially owned by the decedent at the time of his death.

Section 2036(a) requires the inclusion in the gross estate of property to the extent of any interest of which the decedent has made a lifetime transfer under which he has retained for his life, or for any period not ascertainable without reference to his death or for any period that does not in fact end before his death the possession or enjoyment of, or the right to the income from, the property, or the right either alone or in conjunction with any other person, to designate the person or persons who shall possess or enjoy the property or the income therefrom.

Section 20.2036-1(b)(2) provides that the use, possession, right to income, or other enjoyment of the transferred property is considered as having been retained by or reserved to the decedent to the extent that the use, possession, right to income, or other enjoyment is to be applied toward the discharge of a legal obligation of the decedent, or otherwise for his pecuniary benefit. The term “legal obligation” includes a legal obligation to support a dependent during the decedent’s lifetime.

Section 2038(a)(1) provides that the value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money’s worth), by trust or otherwise, where the enjoyment thereof was subject at the date of his death to any change through the exercise of a power (in whatever capacity exercisable) either by the decedent alone or by the decedent in conjunction with any other person (without regard to when or from what source the decedent acquired the power) to alter, amend, revoke, or terminate, or where the decedent relinquished any such power during the three-year period ending on the date of the decedent’s death Section 20.2038-1 provides that § 2038 does not apply to a power held solely by a person other than the decedent.

In United States v. Estate of Grace , 395 U.S. 316, 324 (1969), the Supreme Court held that where donors create reciprocal trusts which do not change the economic position of each donor with respect to the property while avoiding the literal terms of the predecessor to § 2036(a)(1), the trust will be includible in that donor’s gross estate at death. In Grace , the donor created a trust providing for payment of income to his spouse for her life and payment of principal at the discretion of the trustees. The spouse was granted a testamentary special power to appoint the property to the donor and their children. Shortly thereafter, the spouse created a virtually identical trust naming the donor as life beneficiary. The Court held that the trusts were interrelated since they were substantially identical and were part of a single transaction designed by the donor. The transfers left each party in the same effective economic position as if they had created trusts naming themselves as life beneficiaries. The Court stated that, “application of the reciprocal trust doctrine is not dependent on a finding that each trust was created as a quid pro quo for the other.” Estate of Grace , supra at 324. See also Lehman v. Commissioner , 109 F.2d 99 (2d Cir. 1940), cert . denied , 310 U.S. 637 (1940).

In Estate of Levy v. Commissioner , 52 T.C.M (P-H) P 83,453 (1983), a donor and his spouse created irrevocable trusts on the same date. Each spouse was named as trustee of the trust created by the other spouse. Each spouse transferred to the trust that spouse created 12.5 shares of stock in a closely-held corporation that the spouses controlled. The donor’s trust granted his spouse the power to appoint the income or the corpus of the donor’s trust at any time during the spouses’ joint lives to any person or persons other than the spouse, her creditors, her estate, or the creditors of her estate. The spouse’s trust did not contain a similar provision but was substantially identical to the donor’s trust in all other respects. The Tax Court stated that Grace created two tests for determining whether or not the reciprocal trust doctrine applies, “the first being whether or not the trusts are interrelated; and the second being whether or not the economic positions of the grantors have been altered by the creation of the trusts.” Estate of Levy , supra at 1838-83. The Tax Court found that the spouse’s special power was valid under state law. The court concluded that the trusts were not interrelated and, consequently, not reciprocal. After finding that the trusts in Levy were interrelated, the Tax Court did not reach the second test.

In the present case, Husband’s Trust differs from Wife’s Trust in several respects. Husband’s Trust grants Wife the right to withdraw specified amounts of trust principal after Son1’s death. Husband’s Trust also grants Wife an inter vivos special power, effective at Son1’s death, to appoint trust principal among any of Husband’s issue and their spouses or any trust created primarily for the benefit of one or more of those persons. Further, to the extent Wife does not exercise her inter vivos special power, Husband’s Trust grants Wife an inter vivos or testamentary special power, effective at Son1’s death, to appoint trust principal among any of Husband’s issue and any charities Wife designates or any trust created primarily for the benefit of one or more of those persons. Finally, if a Marital Trust is established, Husband’s Trust grants Wife a testamentary special power to appoint the assets remaining in the Marital Trust among any of Husband’s issue and any charities Wife designates or any trust created primarily for the benefit of one or more of those persons.

Under Wife’s Trust, with respect to any trust established under Wife’s Trust except a Marital Trust, Husband cannot be a beneficiary until three years after Wife’s death and then will only be a beneficiary at any time when his net worth is under $a and his income from personal services is under $a. Distributions to Husband under this provision are limited to an amount equal to $b reduced by Husband’s income from personal services during the calendar year of the distribution.

Thus, we conclude that Husband’s Trust and Wife’s Trust are not interrelated. As in Levy, there is no need to consider the second test. Accordingly, based on the facts submitted and the representations made, we rule as follows:

1. Neither the Husband’s Trust nor the Wife’s Trust will be includible in the Husband’s gross estate for federal estate tax purposes by application of the reciprocal trust doctrine.

2. Neither the Husband’s Trust nor the Wife’s Trust will be includible in the Wife’s gross estate for federal estate tax purposes by application of the reciprocal trust doctrine.

Except as specifically ruled herein, we express no opinion on the federal tax consequences of the modification under the cited provisions or under any other provisions of the Code.

This ruling is directed only to the taxpayer who requested it. Section 6110(k)(3) provides that it may not be used or cited as precedent.

Sincerely yours,

Lorraine E. Gardner
Senior Counsel, Branch 4
Office of Associate Chief Counsel
(Passthroughs and Special Industries)