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August 3, 2009
Choose Battles Wisely - Not all are worth fighting.
Just because someone
knocks on our door wishing to start trouble does not mean we need to answer
it. George S. Patton, the man known for being a tough fighter reminds
us, "Don't fight a battle if you don't gain anything by
winning." Some battles are best not fought.
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Indiana Community Foundations
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August 3, 2009
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GiftLaw
eNewsletter - August 3, 2009
- WASHINGTON HOTLINE
- PLR THIS WEEK
- ARTICLE OF THE MONTH
- CASE OF THE WEEK
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WASHINGTON
HOTLINE
Hot Summer for
Healthcare Reform
Tax Quote of the Week
"No matter what anyone may say about making the
rich and the corporations pay taxes, in the end they come out of the people
who toil."
-- Calvin Coolidge
Hot Summer for Healthcare Reform
Both the House and Senate will soon adjourn for the
August recess. During the hot summer town hall meetings, healthcare reform
will be a primary topic of discussion.
Sen. Max Baucus (D-MT) is Chair of the Senate Finance
Committee. He has been developing a bipartisan plan with three Democratic
and three Republican Senators. On July 30, 2009, he indicated to the press
that the six senators have not yet come to an agreement and there will not
be a formal bill markup until fall.
Sen. Charles Grassley (R-IA) is the ranking
Republican on Senate Finance and one of the six committee members
developing the new healthcare plan. He indicated that they were
"making some progress by inches" in the committee. However, in his
view, the committee is not yet close to completing an actual bill.
The House Affordable Health Choices Act of 2009 (HR
3022) is now before the House Energy and Commerce Committee. The "Blue
Dog" Democrats threatened to revolt this week unless there were
significant changes in the bill.
Following intense negotiations between Blue Dog
leader Mike Ross (D-AR) and House Democratic leaders, a revised version of
the healthcare bill was promised. Speaker Nancy Pelosi (D-CA) indicated,
"Over August, the three House committees will work to reconcile their
versions and produce strong legislation."
Rep. Ross indicated that there were savings in the
new House bill that would reduce the cost below $1 trillion. In addition,
he believes that the controversial surtax will be replaced with another tax
to fund the bill. Rep. Ross indicated that many of the Blue Dog
representatives were not willing to support the 5.4% surtax to pay for
healthcare reform.
Sen. John Kerry (D-MA) potentially solved a major
political problem for Sen. Max Baucus. Sen. Baucus has favored a $25,000
deduction cap for expensive health insurance plans. With a deduction cap,
plans with values in excess of that amount would not be fully deductible
for employees.
The healthcare deduction cap is not favored by the
White House or by unions. However, Sen. Kerry proposed to create a very
similar tax, but to require payment of the tax by the health insurance
companies. The proposal to tax plans over $25,000 is estimated to raise $90
billion over the ten years.
Editor's Note: While the tax on plans over
$25,000 per year would be quite similar whether paid by the employees or
the health insurance companies, it is politically much more acceptable to
the colleagues of Sen. Baucus for the tax to be paid by the companies. As
the healthcare bill proceeds through town hall meetings this summer, the
probable final legislation is now likely to be reasonably close to the
Baucus plan. If Sen. Baucus is successful in building bipartisan support
for his plan, it will be the clear favorite in the fall.
Indirect Gifts through FLP Trigger $1 Million Gift
Tax
In David
E. Heckerman et ux.v.United States; No. 2:08-cv-00211 (27 Jul 2009),
the District Court determined that gifts of cash to an FLP together with
gifts of FLP interests were indirect gifts valued at fair market value.
On November 28, 2001, David and Susan Heckerman
created trusts for each of their two children, then ages five and two. They
also created the Heckerman Family LLC and two solely-owned LLCs, Heckerman
Investments LLC and Heckerman Real Estate LLC. Heckerman Investments LLC
was designed to receive liquid securities and Heckerman Real Estate LLC was
designed to hold realty.
On December 28, 2001, David and Susan Heckerman
transferred a $2.05 million beach house in Malibu, California to Family
LLC, with an immediate quitclaim deed to Real Estate LLC. On January 11,
2002, they transferred $2.85 million in mutual funds to Investments LLC and
signed gift documents "effective on January 11, 2002" to transfer
the majority of Family LLC units to the children's trusts.
Appraiser Mark Wellington of Private Valuations, Inc.
completed an appraisal of the value of Family LLC units gifted to the
children's trusts. He determined that the transfers would be subject to a
58% discount for lack of marketability. Therefore, both David and Susan had
transferred a gift value of $1,022,000. Using their four annual exclusions
(two parents times two children) and two $1 million gift exemptions, there
was no gift tax payable.
The IRS audited the return, claimed that the
securities transfer was an indirect gift and assessed gift tax of
$511,497.56 for each donor. The Heckermans paid the gift tax and filed for
a refund.
The IRS contended that under Reg. 25.2511-1(a),
"whether the gift is direct or indirect," there is a transfer.
Because the transfer to the FLP was completed on the same date as the gift
of the units and there was no clear evidence that the transfer of the FLP
units was after the funding of the FLP, the IRS claimed that this was an
indirect gift. The IRS also claimed a step transaction.
The court supported both positions by the IRS. First,
the gifts of FLP interests were apparently not signed until after January
11, 2002, but were "effective as of January 11, 2002." Therefore,
the transfer process created an indirect gift on the theory that the
children's trusts owned the FLP units when the cash was transferred.
In addition, following the rationale of Senda v.
Commissioner, 433 F.3d 1044 (8th Cir. 2006), there was a "step
transaction" that also created the indirect gift. Because the transfer
of $2.85 million in cash to Investments LLC and the gifts of the LLC units
were an "integrated transaction," the step transaction doctrine
applied.
Editor's Note: It is significant that the IRS
did not object to the FLP discounts for the transfer of the real estate on
December 28, 2001 and gift of FLP units two weeks later on Jan. 11, 2002.
With even a period of two weeks between the funding and the FLP unit gifts,
the transfer was effective in producing a substantial FLP discount.
Applicable Federal Rate of 3.4% for August -- Rev.
Rul. 2009-22; 2009-31 IRB 1 (21 Jul. 2009)
The IRS has announced the Applicable Federal Rate
(AFR) for August of 2009. The AFR under Sec. 7520 for the month of August
will be 3.4%. The rates for July of 3.4% or June of 2.8% also may be used.
The highest AFR is beneficial for charitable deductions of remainder
interests. The lowest AFR is best for lead trusts and life estate reserved
agreements. With a gift annuity, if the annuitant desires greater tax-free
payments the lowest AFR is preferable. During 2009, pooled income funds in
existence less than three tax years must use a 4.8% deemed rate of return.
Federal rates are available by clicking
here.
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PLR
THIS WEEK
PLR - 200930048
Judicially Reformation of CRT Not Self-Dealing
B and C created a charitable remainder unitrust
(CRUT) to benefit Organization. Attorney for Organization assisted B and C in
the drafting of the trust. Due to a miscommunication regarding the
liquidity of the assets used to fund the trust, Attorney drafted the trust
as a net income plus makeup charitable remainder trust. B and C believed
they were funding a fixed percentage CRUT and instructed their financial
advisor, CPA and insurance advisor to administer the trust as a fixed
percentage CRUT. Upon discovery that the trust was drafted incorrectly, B
and C petitioned the state court for authorization to amend the trust due to
the scrivener's error. B and C presented the court with affidavits from
Attorney, Organization, as well as their professional advisors. All parties
acknowledged the mistake and gave consent to amend the trust document. The
state court agreed to order the amendment retroactive to the trust's
inception, subject to a Private Letter Ruling from the Service stating that
the proposed reformation would not violate the self-dealing rules of Sec.
4941.
Sec. 4941(a)(1) imposes an excise tax on acts of
self-dealing between private foundations and disqualified persons. Sec.
4941(d)(1)(E) defines self-dealing as any direct or indirect transfer to,
or the use by or for the benefit of, a disqualified person of the income or
assets of a private foundation. Sec. 4946(a) of the Code defines the term
"disqualified person" with respect to a private foundation as
including a substantial contributor to the foundation (including the
creator of a trust). However, under Sec. 4947(a)(2) of the Code, the
self-dealing rules of Sec. 4941 do not apply to any amounts payable from a
split-interest trust to income beneficiaries as long as no deduction was
allowed for such income interest under Secs. 170(f)(2)(B), 2055(e)(2)(B),
or 2522(e)(2)(B). The Service ruled that while B and C are disqualified
persons as they are substantial contributors, they did not benefit from a
larger charitable deduction that they otherwise would have with a fixed
percentage CRUT. Furthermore, the Service was satisfied that the drafting
of the net income plus makeup provisions was the result of a scrivener's
error and did not benefit B and C to the detriment of Organization or the
IRS. Therefore, no act or acts of self-dealing were found.
To view the full PLR Click
Here.
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ARTICLE
OF THE MONTH
Current Planned Gifts
II - UT, DAF & AT
The combination of a charitable remainder unitrust
and a donor advised fund (DAF) enables a very flexible plan. This might appropriately
be called a "Personal Foundation." A donor may create a
charitable remainder trust. So long as there is no pre-arrangement, the
donor may then make annual distributions from the charitable trust to the
DAF. The trust instrument could include a statement as follows:
"If a grantor is a current income recipient,
then a grantor shall retain the right to direct the trustee to distribute
an undivided percentage of trust assets to qualified exempt charities on
the last day of any trust taxable year."
With this sentence and the right to select the
charities, a unitrust grantor may decide to distribute part or all of the
trust principal each year. It is preferable for this power to be exercised
at the end of the taxable year in order not to affect the calculation of
the unitrust payout. The trust on January 1 of the following year will then
be reduced by the amount of the transfer to the DAF.
The flexibility of this plan is very high. If the
trust increases in value, that growth may be transferred to a DAF. A donor
is able to make the decision concerning the amount of the transfer at the
end of each calendar year. The funds in the DAF may then be distributed
with the recommendation of the donor to a wide variety of qualified
charitable purposes.
Because the DAF is maintained by a public charity,
the donor receives the benefit of the public charity income tax deduction
limits of 50% for cash or 30% for appreciated property. In addition, the
donor benefits from a full fair market value charitable deduction. Each
year when the gift is made, the donor will receive a charitable deduction
for the value of the income interest. See PLR 9550026.
To view the full Article of the Month Click
Here.
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CASE
OF THE WEEK
Exit Strategies for
Real Estate Investors, Part 17 - The Double Deferral Solution
Karl Hendricks was a man with the golden touch.
Throughout his life, it seemed every investment idea that he touched turned
to gold. By far, Karl was most successful with real estate investments. It
was definitely his passion.
Amazingly, Karl continued to buy and sell real estate
at the age of 85. His most favored tax strategy for buying and selling real
estate revolved around I.R.C. Section 1031. In short, Section 1031 allows
taxpayers to exchange "like-kind" investment property without the
recognition of gain or loss. This tax code does not exclude the recognition
of gross income indefinitely but merely defers the recognition to a later
date.
Karl currently owns a $2 million building that has
significant appreciation. He acquired the building pursuant to a Section
1031 exchange. In fact, this building is his fifth Section 1031 building.
Like many real estate investors, Karl just kept "trading up" over
the years. As a result, Karl's basis in his $2 million building is
extremely low.
Karl decided he wanted to sell the building, but he
did not want to pay the "ticking tax time bomb." Around this
time, Karl learned of the benefits of a FLIP CRUT, e.g. income tax
deduction, bypass of capital gain and future income stream. He especially
liked the fact the FLIP CRUT could simply invest in stocks and bonds, which
was something a 1031 exchange would not allow. Thus, after Karl learned
about the benefits of a FLIP CRUT, he eagerly wanted to move forward.
It looked like the perfect solution. However, Karl
did have one additional goal. Karl wanted to transfer only a portion - 50%
in this case - of his building into the FLIP CRUT. The remaining 50% he
wanted to exchange for another investment property pursuant to Sec. 1031.
In addition to the FLIP CRUT benefits, can Karl
exchange an undivided 50% interest in his property for another property and
still retain the benefits of Section 1031?
To view the solution to this Case of the Week Click
Here.
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Note:Case
studies, articles, commentary and other materials in the GiftLaw system are
included solely as educational information. Articles and editorial comments
are offered as an educational service to friends of this organization, and
may not always reflect our official position on any issue. Since case
studies or articles may not always reflect the current AFR or tax law, it
may be necessary to run any illustration with a current version of
Crescendo to obtain updated information. If professional services are
required, all persons shall consult with their qualified professional
advisors. Tax Quotes are courtesy of Jeffery L. Yablon, Washington, D.C.
© Copyright 1999-2009
Crescendo Interactive, Inc.
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Indiana Community Foundations
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August 3, 2009
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Thank
you for your interest in the Community Foundation of Grant County. To
contact us, please call 765.662.0065 or check out our website at www.comfdn.org.
If you do not wish
to receive future emails, please click
here to unsubscribe.
Thank you for your
continued interest in a better quality of life in Grant County.
Yours in Philanthropy,
Elizabeth A. Wright and Dawn M. Brown...
on behalf of the entire
Community Foundation Team
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