FALL 2021
FEDERAL ESTATE AND GIFT TAXATION
PROFESSOR VICTORIA HANEMAN
CREIGHTON UNIVERSITY SCHOOL OF LAW
ABIGAIL CHAPMAN
ESTATE AND GIFT TAXATION
Table of Contents
I.
GENERALLY ...................................................................................................................................... 3
A.
WEALTH TAXATION................................................................................................................................ 3
1.
4.
Why have a tax? .........................................................................................................................................................3
Income tax consequences of transfers of property ......................................................................................................3
II. GIFTS/GIFT TAXATION .................................................................................................................. 4
A.
GENERALLY ............................................................................................................................................... 4
1.
2.
3.
B.
What is the Gift Tax?..................................................................................................................................................4
Gift Tax Return: Reporting and Payment of Gift Tax ................................................................................................4
Computation of Gift Tax ............................................................................................................................................4
DEFINITION OF GIFTS ............................................................................................................................ 5
1.
General Principles.......................................................................................................................................................5
2.
Business Transactions.................................................................................................................................................6
1. Is consideration adequate? ...............................................................................................................................................7
3.
Adequate and Full Consideration (also see “what a gift is not,” above) .....................................................................8
4.
Discharge of Support of Obligations, §§2503, 2512, 2516 ........................................................................................9
5.
Taxable Transfers (see, “Transfer,” under the essential questions of gift tax, above) ................................................9
6.
Disclaimer §2518........................................................................................................................................................9
C.
COMPLETION .......................................................................................................................................... 11
1.
2.
3.
4.
D.
General Principles..................................................................................................................................................... 11
Deposits, Promises, Checks, and Notes .................................................................................................................... 13
Revocable Trusts and Retained Interests .................................................................................................................. 14
Installment Sales and Loans §2503(b) ...................................................................................................................... 14
ANNUAL EXCLUSION(S) ....................................................................................................................... 15
1.
2.
3.
4.
5.
6.
7.
Overview of §2503 Exclusions ................................................................................................................................. 15
General Principles..................................................................................................................................................... 15
Gift Splitting §2513 .................................................................................................................................................. 16
Who is the Donee? .................................................................................................................................................... 16
Present Interest Requirement: “Immediate Use and Enjoyment” ............................................................................. 16
Gifts to Minors §2503(b) and (c) .............................................................................................................................. 18
Crummey Trusts §§ 2503(b), 2514 ........................................................................................................................... 19
VALUATION §2512 ................................................................................................................................... 20
E.
1.
2.
3.
III.
Generally .................................................................................................................................................................. 21
Gift Tax Issues .......................................................................................................................................................... 21
Valuation Date .......................................................................................................................................................... 21
ESTATE TAX ................................................................................................................................ 21
A.
GENERALLY ............................................................................................................................................. 21
1.
2.
3.
4.
Rule of Construction: go with the highest yielding code provision .......................................................................... 21
Definitions ................................................................................................................................................................ 21
Estate Tax Base (Code Sections) .............................................................................................................................. 22
Computation ............................................................................................................................................................. 22
VALUATION §2031 ................................................................................................................................... 22
B.
1.
2.
3.
4.
5.
6.
7.
Generally .................................................................................................................................................................. 22
Method ...................................................................................................................................................................... 22
Valuation Date .......................................................................................................................................................... 23
Valuation of a future interest .................................................................................................................................... 23
Valuation of Real Property ....................................................................................................................................... 23
Valuation of Securities ............................................................................................................................................. 24
Valuation of Interests in Close Corps (discounting vs. control premiums) .............................................................. 24
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ESTATE AND GIFT TAXATION
C.
PROPERTY OWNED AT DEATH .......................................................................................................... 24
1.
2.
D.
JOINT INTERESTS .................................................................................................................................. 26
1.
2.
3.
4.
5.
E.
Generally .................................................................................................................................................................. 26
Creation and Termination of Joint Interests During Life (GIFT TAX) .................................................................... 26
Termination of Joint Interests at Death: Introduction ............................................................................................... 27
Spousal Joint Interests §2040(b) ............................................................................................................................... 27
Income Tax Consequences ....................................................................................................................................... 27
RETAINED INTERESTS .......................................................................................................................... 27
1.
2.
3.
Generally .................................................................................................................................................................. 27
Right to Income §2036(a)(1) .................................................................................................................................... 27
Right to Enjoyment of Property §2036(a)(2) and §2038 .......................................................................................... 32
TRANSFERS WITHIN THREE YEARS OF DEATH §2035................................................................ 37
F.
1.
2.
3.
4.
2
IRC §2033 ................................................................................................................................................................ 24
Marital Interests in Property: IRC §2034 ................................................................................................................. 26
General Rule ............................................................................................................................................................. 37
Purpose ..................................................................................................................................................................... 38
Tax Inclusivity/Exclusivity ....................................................................................................................................... 38
Value ........................................................................................................................................................................ 38
ESTATE AND GIFT TAXATION
I. GENERALLY
A. WEALTH TAXATION
1. Why have a tax?
 Raise revenue
 Promote economic policies (stimulate economy)
 Promote social policies (redistribution of wealth)
 The estate tax compensates for the failure of federal income tax to unrealized appreciation at
death
2. Tax Policy Considerations
 Neutrality: economic neutrality vs. positive economic impact
 Equity (appearance of equity is important)
o Horizontal Equity
o Vertical Equity
 Administrative Feasibility: tax should not impose significant costs for enforcement, compliance, or
planning
 Simplicity: how complicated is the tax?
 Stability: an “old tax is a good tax”
 Directness: how visible is the tax to those who pay it?
3. How do the Estate and Gift Taxes Fit Together?
 The taxes don’t fit together perfectly and therefore some lifetime transfers that were subject to
gift tax are nevertheless includible in GE
o For gifts made before 1977, a credit for gift taxes paid attempts to eliminate any actual
double tax §2012
o For post-1976 gifts, this credit is inapplicable since the fit taxes imposed on lifetime gifts
are automatically taken into account in the unified estate computation §2001(b)(2)
4. Income tax consequences of transfers of property
 Transfer taxes focus on donor/decedent’s estate and recipient is ignored
 Transferred Basis Rule provides that if donor’s basis is greater than the FMV on the date of
gift, then the donee’s basis for determining loss will be that FMV
B. FORMS OF WEALTH TAXATION
1. Taxing Property During Life (which don’t happen as of right now, but both focus on recipient)
a. Accessions Tax
b. Treating all gifts and bequests as income
2. Taxing Property at Death
a. Methods focusing on decedent
(i) Assess a tax based on the value of all property owned at death
(ii) Transfer tax (i.e., an excise tax on the privilege of transferring property at death)
(iii)An income tax based on the realization of gains at death (i.e., treat death as a realization
event)
b. Methods focusing on heirs and beneficiaries
(i) Inheritance taxation, focusing on the receipt of property at death (makes beneficiary
liable for tax instead of estate of decedent)
 This is imposed by many states
(ii) Accessions tax
 Unlike inheritance tax, it would not be limited to receipt of property on death from a
specific decedent but rather would accumulate all receipts of wealth from all sources
in the tax base
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ESTATE AND GIFT TAXATION
(iii)Treating all gifts and bequests as income
 This is not mandated by constitution
 Advantage would be not needing a separate tax system but disadvantage would be the
unfairness of taxing large receipts at progressively higher rates
(iv) Requiring beneficiaries to maintain the former owner’s basis in the property
 Beneficiary would incur tax only when he/she disposes of the property, at which point
the tax would be based on the gain arising during both the donor’s/decedent’s
ownership of the property and the beneficiary’s ownership of the property
 This transferred basis system currently only applies to lifetime gifts; transfers at death
receive a stepped-up or stepped-down basis equal to the FMV of the property on the
date of the decedent’s death
II. GIFTS/GIFT TAXATION
A. GENERALLY
1. What is the Gift Tax?
a. Gift Tax Definition §2523
 A tax, computed as provided in IRC § 2502, is hereby imposed on the transfer of
property by gift by any individual.
 The definition of gift for gift tax purposes focuses on VALUE, whereas the definition of
gift for income tax purposes focuses on intent (see Duberstein standard)
b. Application
 The gift tax applies to all gratuitous transfers of property made during life, since such
transfers serve to reduce the estate subject to the estate tax at death
c. Enforcement
 Gift tax is imposed and reported on a calendar-year basis and the appropriate tax rate is
applied to the total taxable gifts made during each year
 Each year’s taxable gifts are cumulated with taxable gifts made in prior years and are taxed
at a progressively higher marginal rates under graduated schedule
d. Gift Tax Base
 For a given year, the gift tax base consists of gross transfers (known as aggregate gifts)
minus allowable exclusions and deductions to arrive at taxable gifts, against which tax
rates are applied
 Result is the current year’s gift tax liability, which is reduced by any remaining portion of
donor’s unified credit to arrive at the tax actually payable
 Step up basis §1014, gift tax basis §1015
2. Gift Tax Return: Reporting and Payment of Gift Tax
a. Rule §6019(a)
(i) A gift tax return must be filed by any U.S. citizen or resident who, in any calendar year,
makes a gift of property that is not fully covered by the exclusions of §2503, the charitable
deduction of §2522, or the marital deduction of §2523
(ii) Return must be filed if donor makes any taxable gifts, even if no gift tax is actually
payable as a result of unified credit
b. Considerations
(i) Even if there are no taxable gifts, the donor may have to file return in order to elect giftsplitting treatment (see below) or to claim marital deduction
(ii) From a tax controversy perspective, you may want to file a return even when fully
sheltered from exclusion if there is a valuation problem
3. Computation of Gift Tax
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ESTATE AND GIFT TAXATION
a. Gift Tax is Tax Exclusive (tax paid on gifts is free from estate tax)
b. Steps
(i) Calculate Aggregate Taxable Gifts
 Add together taxable gifts from June 6, 1932 to present end of year, and calculate
tentative tax on total amount
(ii) Calculate tentative tax on this year’s taxable gifts
(iii)Subtract the tentative tax from the applicable unified credit; this will give you net estate
tax due
(iv) Find due date
c. Calculation
(i) Aggregate taxable gifts = taxable gift (§2503) + prior taxable gifts
(ii) Tentative tax on current taxable gift = tentative tax on aggregate taxable gifts (§2502) –
tentative tax on prior taxable gifts
(iii)Gift tax payable = tentative tax on current taxable gifts – credit amount available
B. DEFINITION OF GIFTS
1. General Principles
a. IRC §2501: Imposition of tax on “the transfer of property by gift”
 While IRC §2501 imposes a tax on the “transfer of property by gift,” it does not officially
define the term gift
 Only limits the imposition of the tax to “transfers” of “property”
 DONOR pays gift tax; if donor fails to pay, donee is liable
 Donative intent (on the part of the transferor) is NOT an essential element in the
application of gift tax; application of tax is based on objective facts of transfer and the
circumstances under which it was made rather than the subjective intent or motives of
donor § 25.2511-1(g)(1)
b. What is a gift?
(i) Definition (elements of a gift; structure created by combination of §2501 and §2512(b))
A gift is…
01. a transfer
02. of property
03. without adequate and full consideration
04. in money or money’s worth
IRC §2512(b): “where property is transferred for less than adequate and full
consideration in money or money’s worth, then the amount by which the value of the
property exceeded the value of the consideration shall be deemed a gift.”
(ii) What a gift is not (see, adequate consideration, below)
 Donative intent not relevant § 25.2511-1(g)(1)
01. Common law test of donative intent plus delivery is insufficient; would allow
similar transactions to be taxed differently
 Colloquial of gift definition is too both too narrow and too broad for gift tax purposes
 A gift under for income tax purposes under the Duberstein standard is not gift for gift
tax purposes
 Rendering services for someone without compensation will not be taxed as a gift, even
if those services provide definite, ascertainable financial gain for recipient (see
Commissioner v. Hogle, 165 F.2d 352 (10th Cir. 1947))
 Things that are specifically not a gift:
01. Personal consumption and economic waste
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ESTATE AND GIFT TAXATION
02. Arm’s length transactions
03. Political contributions
04. Transfers mandated by law
05. Divorce-related matters
06. Direct payments for education and medical care
c. The Five Questions of Gift Tax (elements of a gift: breakdown)
(i) Transfer (is There a Transfer?)
01. a transfer is any transaction in which interest in property is gratuitously passed or
conferred upon another, regardless of means or device employed § 2511-1(c)(1)
~ Under this definition, a transfer may be a gift not only if the transfer is outright
from one person to another, but also by other techniques, such as, e.g., the
gratuitous discharge of donee’s obligation by the creditor or a third-party
~ Note that a transfer that is not complete for FIT purposes, such that the donor
remains taxable on the income of the property as its constructive owner, may
nevertheless constitute a completed gift for gift tax purposes
(ii) Gift (is the Transfer a Gift: Consideration)
01. A transfer can be…
~ direct or indirect gifts (GT applies to transfers whether indirect or direct, in trust or
otherwise § 2511)
~ Examples of indirect gifts include: transfers in trust, indirect gifts through a
strawman, below market rate loans, gifts by corporations, discharge of
indebtedness
~ below market rate loans §7872
~ two imputed transfers:
(1) lender: gift = difference between stated interest & applicable federal rate (AFR)
(2) borrower: discharge of indebtedness income
~ Interest-free demand loans give rise to taxable gifts of value of the use of the money lent
o Dickman v. Commissioner, 465 U.S. 330 (1984): use of money without interest is a
gift, where the use is the gift itself; an interest free demand loan gives rise to annual
gifts of uncharged interest to the borrower, much as if lender charged and collected
interest each year and then immediately gave the interest back to borrower
o Interest-free demand loan has two components: (1) arm’s-length loan from lender to
borrower, with “constructive” interest, and (2) a “constructive” gift from the lender
to the borrower in the amount of the forgone interest
o In the event of any below-market-rate (or interest-free) loan, the foregone interest is
treated as a gift from lender to borrower
o The return of interest is a gift subject to GT
o RR 173-61 held that the right to use money is a transfer
~ Does not apply to loans below $10k, but this exception does not apply if borrower
invests loan proceeds in income producing assets
02. Need to consider if the transfer was made for adequate and full consideration (see below)
~ Many common transfers are not subject to GT because they are not included within the
meaning of “taxable gifts”
(iii)Completion (Is the Gift Complete?)
(iv) Value (What is the Value of the Property Transferred?)
(v) Exclusions/Deductions (Any exclusions or deductions available?)
2. Business Transactions
a. Genuine Business Transactions
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ESTATE AND GIFT TAXATION
(i) Genuine Business Transactions are those that are made in the ordinary course of
business, bona fide, at arm’s length, and free from donative intent
 Ordinary Course of Business (OCOB) Transactions § 25.2511-1(g)(1)
01. Nonfamilial commercial transactions
02. Donative intent is not necessary for the transfer to be subject to gift tax
~ What we look at for gift tax is whether or not there has been adequate
consideration for a transfer
~ NOT looking at subjective motives of donor like we do with FIT (i.e.,
Duberstein standard– charitable impulses, moral obligation, etc.); subjective
intent does NOT matter
(ii) Factors in determining whether it is a business transaction or a gift:
1. Is consideration adequate?
2. The presence or absence of donative intent
Example: A is in her 70s and lives in a large house in a rural area; she asks B, the granddaughter
of a close friend, to live in the house with her for companionship and to help with housework
and repairs; A promises to transfer house to B if she will live with A for five years; B does so,
and continues to work FT in a nearby town; A transfers title in the house to B; in considering GT
consequences to A, need to figure out (1) if consideration is adequate by finding out what the
FMV of the services performed by B, and if that FMV equals the value of the house; and (2)
whether there was or was not donative intent.
b. Treasury Regulation §25.2512-8
(i) Sale or exchange that occurs in the OCOB is treated as made for adequate and full
consideration for money or money’s worth
 Reg. states that a transfer made in OCOB is defined as a transaction which is “bona
fide, at arm’s length, and free from any donative intent”
(ii) this standard allows the space for market bargains
(iii)States that certain business transactions are defined as NOT gifts
(iv) Regulations provide a safe harbor for genuine business transactions
c. Estate of Anderson v. Commissioner, 8 T.C. 706 (1947)
 Demonstrates the principle that a transaction made in OCOB and at arm’s length will not
be taxed under GT even though the transferor does not receive consideration in money or
money’s worth equal to FMV of property transferred
 This case involved some senior executives who transferred some of their common stock in
a corporation to junior execs at a bargain price; the IRS conceded that the transaction was
bona fide and at arm’s length and was part of a business plan to adjust the proportionate
share ownership among the management group as responsibilities were shifted from senior
execs to junior execs
d. Buy-Sell Agreements §2703
(i) Generally
 General rule is that the value of any property will be determined without regard to any
option, agreement, or other right to acquire or use the property at a price less than FMV
or any restriction on the right to sell or use such property
 Valuation of assets that are subject to a buy-sell agreement is governed by this section,
which essentially provides that the buy-sell agreement will be ignored unless it falls
under an exception
 In order to avoid this rule so that they may claim valuation discounts, families can take
family assets and put them into an entity then put restrictions (which change the
valuation of the asset) on the use or transfer of the assets (because of exception)
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ESTATE AND GIFT TAXATION
(ii) Exception: only in regard to gift or estate tax do we ignore the reduced value given by
buy-sell agreements at less than FMV unless the agreement is…
 A bona fide business arrangement (i.e., an arrangement for legitimate business
reasons);
 Not a device to transfer to members of decedent’s family for less than full and adequate
consideration in money or money’s worth (i.e., not a device to gratuitously transfer
property); and
 Terms are comparable to arrangements made by parties in an arm’s length transaction
(i.e., normative or typical in an arm’s length transaction
3. Adequate and Full Consideration (also see “what a gift is not,” above)
a. Generally
(i) By implication, a transfer of property that is made for adequate and full consideration in
money or money’s worth does not constitute a gift for GT purposes; no gift tax needed
here because such a transfer would not deplete the individual’s future transfer tax base
but would instead preserve it in a different form
(ii) While it’s easy to determine if any monetary consideration received by transferor is equal
to value of transferred property once the value has been determined, the issue comes
when the transferor receives something other than money
(iii)Only where the value of the transferred property exceeds the value of the consideration
will a gift arise, and the values of both items are FMV
(iv) There are potential consideration issues with buy-sell agreements (see above)
b. IRC §2512(b)
 Where property is transferred for less than adequate and full consideration in money or
money’s worth, the amount by which the value of the property exceeded the value of the
consideration shall be deemed a gift
 §2512-1: the value of the property is (1) the price at which such property would change
between a willing buyer and a willing seller, (2) neither being under any compulsion to
buy or sell, and (3) both having reasonable knowledge of relevant facts
c. Commissioner v. Wemyss, 324 U.S. 303 (1945): marriage IS consideration
“Gifts," for gift tax purposes, do not require a showing of donative intent, but included any
property transfer for less than an adequate and full consideration in money or money's
worth; the inducement for the transfer was marriage, which was not made at arm's length in
the ordinary course of business, and the value of the stock greatly exceeded the value of the
income from the trust; money consideration had to benefit a donor in order to relieve a
transfer by him from being a gift.
d. Merrill v. Fahs, 324 U.S. 308 (1945): prenuptial agreements constitute full and adequate
consideration
 Issue: whether transfer is considered sufficient consideration for a prenup to be valid
where relinquishment of marital rights is full and adequate consideration
 Rule: in accordance with §2043(b)’s definition of consideration in money or money’s
worth, if a husband transfers property pursuant to a prenup in exchange for wife’s release
of dower or other marital rights in husband’s estate, the amount of husband’s gift cannot
be offset to any extent by the value of the rights relinquished by his wife
 NOTE: this holding was before marital deduction
 For purposes of gift tax, a relinquishment of support rights is regarded as consideration in
money or money’s worth RR 68-379
e. Reg. §2512-8
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ESTATE AND GIFT TAXATION
(i) The rule that “eonsideration in money or money’s worth” excludes a relinquishment of
dower, curtesy, or similar marital rights in a spouse’s property or estate applies for
purposes of gift tax
f. Part-Gift, Part-Sale
4. Discharge of Support of Obligations, §§2503, 2512, 2516
a. General Rule
(i) If taxpayer is legally obligated to make the transfer, it is not a gift
 Spouses must support their children (ends at 18)
 Spouses must support each other
(ii) Any amount in excess of the support obligation will be treated as a gift (i.e., duty to
support ≠ gift; excess of duty = gift)
b. Examples of Support Obligations
(i) Settlement of Marital or Property Rights (or child support decree) §2616
 Some property settlements made in connection with divorce are not treated as taxable
gifts because they are considered fulfillment of support obligations
 excludes transfers made in settlement of marital or property rights to provide a
reasonable allowance for child support
 To qualify under § 2516, (1) there must be a written agreement between parties, and (2)
divorce must occur within the year before agreement is signed or two years afterwards
 Any transfers made pursuant to the qualifying agreement to either spouse in settlement
of his or her marital or property rights or to provide a reasonable allowance for the
support of children of the marriage during minority are deemed to be made for a full and
adequate consideration in money or money’s worth (e.g., if H transfers property to W
and otherwise complies with the terms of §2516, it’s not necessary for him to show that
he received a discharge of support obligations equal in value to what he transferred in
order to escape GT)
(ii) Aside from the obvious support obligations, the following are also “support obligations”
and thus are excluded under §2503
 Direct payment for tuition expenses (c), §2503-6(b)(2)
 Direct payment of medical expenses (c), §2503-6(b)(3)
c. Spruance v. Commissioner, 60 T.C. 141 (1973)
 RULE: any transfer in excess of an amount to provide for a reasonable allowance of
support for children is considered taxable
 Reasonableness depends on the child’s status in life
5. Taxable Transfers (see, “Transfer,” under the essential questions of gift tax, above)
6. Disclaimer §2518
a. Generally: What is a Disclaimer?
(i) Definition
 a disclaimer is an unqualified refusal to accept transfer of property
 Occurs when recipient of property refuses to accept it or relinquishes his right to it
 If effective, it is not a transfer of property for EGT purposes
 Treatment of Disclaimer Under State Law
01. state law provides that disclaimed property will pass as if recipient has predeceased
donor
02. If requisite formalities are observed, a disclaimer may escape being treated as
transfer for purposes of state property law: the disclaimed interest will be deemed to
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ESTATE AND GIFT TAXATION
pass directly from the owner to the ultimate recipient, without ever passing through
the hands of the disclaimant
03. If you have to execute a deed to transfer property under local/state law, you are not
“knocked out” of disclaimer §2518(b)(4) and §2518(c)(3)
 A disclaimer of an interest in property may constitute an indirect transfer, as when a
beneficiary refuses to accept his or her share in an estate or trust and thus enlarges the
share of other beneficiaries
(ii) Effects of Disclaimer
 Generally
01. Shifts the ownership of property from intended donee to a substituted taker
02. A person who makes a “qualified” transfer does not become the transferor for gift
tax purposes
 On creditors’ rights
01. If an individual disclaims an interest, the individual’s creditors may not reach the
disclaimed gift—this is because of the relation back doctrine (see below), which
makes it so that the person never owned any interest that creditors could reach
b. Requirements §2518(b)
without meeting these requirements and satisfying state law requirements, the person disclaiming
will be considered/deemed the owner of the property
(i) must be an irrevocable and unqualified refusal to accept property (4);
disclaimer must be clear and unequivocal
(ii) must be written/in writing (1);
(iii) the written disclaimer must be received by transferor/legal representative in a timely
fashion, which is no later than nine months after the creation of the interest OR the date on
which the date the disclaimant turns 21 (whichever is later) (2);
(iv) no benefit(s) may be accepted by the person disclaiming the property (3); AND
(v) the disclaimed property must pass to someone else without direction by disclaimant (3).
c. Relation Back Doctrine
(i) Doctrine states that the act of refusal (whenever performed) relates back to the instant
when the transfer was initiated (if transferred by a decedent, the transfer will be re-dated
to date of death)
(ii) When an heir disclaims, it is as if the interest had never been offered to disclaimant
01. If a person makes a “qualified disclaimer” (see requirements, below) of an interest in
property, the gift tax applies “as if the interest had never been transferred to such
person” §2518(a)
(iii)In most states, this redating is going to defeat any creditor claim
d. Interests and Powers
(i) Separable Interests
 If interest(s) are separable, transferee need not accept entire interest; transferee can
accept one part of separable interest/can disclaim an individual portion of interest
 Requires vertical division of property §2518-3(d)
 Example: inheritance of 1,000 shares of stock for Son, who may disclaim his undivided
interest in 42 shares, in 942 of shares, or all shares
 Works if you want the benefits of the property but does not actually want to keep the
property
 You can disclaim a present interest while keeping a future interest, except if state law
merges the two automatically when beneficiary receives both present and future interests
§2518-3(d), ex. 8
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ESTATE AND GIFT TAXATION
(ii) Limitations on Separable Interests
 Property must be severable property, which is property that can be divided into separate
parts, each of which, after severance, maintains a complete and independent existence
§2518-3(d)
 Cannot disclaim an interest in stock in a trust that holds multiple different stocks but
rather can only disclaim the entire income of the trust or the corpus §2518-3(d), ex. 5
and 8
 While any type of property interest may be disclaimed, you CANNOT carve out a
lesser estate (i.e., can’t turn a fee simple into life estate, for example)
01. Need to look at state law to figure out how state defines a property interest
02. Example: X inherits 1,000 shares of stock X can disclaim it under a divided interest
(i.e., disclaim 400 shares and keep 600 shares) or disclaim a quantity, but you
cannot carve out lesser estate)
e. Reasons/Rationales for Disclaimer
(i) Disclaimant may not need the money and doesn’t want to get taxed on it or want it to go
to someone else
Abbey’s Example: if Izzey, Blake, or I die, it would be a good idea for mom and dad to
disclaim any assets because they don’t need the money but Blake/Izzey/I do
(ii) Simultaneous death
f. Other Considerations for Disclaimer
(i) Cannot accept any benefits, whether expressly or impliedly §2518-2(d)
 Acceptance is manifested by an affirmative act which is consistent with ownership of
the interest in property
 Taking delivery of an instrument of title—without more—does NOT constitute
acceptance
(ii) Actions taken to preserve or maintain the disclaimed property shall not be treated as an
acceptance of such property or any of its benefits §2518-2(d)(2)
 Advising others how to act with respect to the property in order to preserve it is
acceptable as maintenance and preservation of property and thus will not be considered
as accepting a benefit
 e.g., if you are going to disclaim a house and roof gets destroyed, you can direct
someone to put a tarp on it to preserve it and prevent further damage because doing so is
reasonable
(iii)Merely paying property taxes does not constitute an acceptance even if personal funds
were used to pay the taxes §2518-2(d), ex. 3
(iv) Under 21 §2518-2(d)(3)
 If under 21, beneficiary has nine months after 21st birthday in which to make a qualified
disclaimer
 Any actions by a custodian on behalf of a beneficiary prior to beneficiary’s 21st birthday
will not be an acceptance by the beneficiary of the interest
(v) Cannot direct where property goes after it is disclaimed
C. COMPLETION
1. General Principles
a. General Rule §2511-2(b)
(i) A transfer of property that qualifies as a gift (i.e., without adequate and full consideration
in money or money’s worth) will not be subject to the git tax until the transfer is
complete
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ESTATE AND GIFT TAXATION
(ii) Gift is complete when donor/TP has so parted with dominion and control as to leave in
him no power to change its disposition, whether for his own benefit or the benefit of
another
(iii)If donor makes a completed transfer of property during life, the GT will apply pursuant to
its own rules,
(iv) Transfer must be complete to be subject to GT RR 779-384
(v) Rule focuses on donor and his/her loss of control over property
 This is because the GT is imposed on donor with respect to the act of transferring the
property and is measured by the value of the property passing from the donor
 GT attaches regardless of the fact that the identity of donee may not be known or
ascertainable at the time §2511-2(a)
 Prior to delivery, donor has ability to retract gift
b. Issues with Completion
The issue with completion is either…
(i) When does donor relinquish dominion and control? OR
(ii) What degree of dominion and control retained by donor defers completion for GT
purposes?
c. Dominion and Control §2511-2(c)
(i) A gift is incomplete in every instance in which a donor reserves the power to revest the
beneficial title to the property in himself
(ii) Donor does not relinquish dominion and control (and thus gift is incomplete) when donor
reserves the power to:
 to revoke
 to revest title in the property back to himself
 to change beneficiaries
 to change the interests of the beneficiaries (as between themselves), unless fixed by an
ascertainable standard
(iii)Donor may reserve the power to alter the manner or time of enjoyment §2511-2(d)
 Usually seen in trusts, which are an example of “not necessarily incomplete” gifts
 when donor establishes a trust, each interest must be examined to determine whether
the donor has the ability to change the beneficial ownership of that interest;
 The THREE situations to look for:
01. Where D has retained power to revoke/change benefits
02. Where trustee other than grantor holds powers which may be exercised for benefit
of grantor
03. Where grantor has retained powers that may be exercisable only with the consent
of another person who may or may not have a substantial adverse economic
interest (see below)
 Example: D transfers property to a trust; income to A for 10 years, then remainder to A
but D reserves the right that the income be accumulated and distributed with the
remainder rather than annually; this is a completed gift
(iv) Power Exercisable Only with a Third Person: Substantial Adverse Interest
 Donor does not have power to exercise dominion and control if he shares that power in
conjunction with a person having a substantial adverse economic interest
 Trustee does NOT have a substantial adverse economic interest but beneficiaries of the
trust do have a substantial adverse economic interest
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ESTATE AND GIFT TAXATION
 RULE: a gift of corpus is complete if grantor transfers property to trust and gives
broad administrative powers to distribute income and principal to grantor in trustee’s
sole discretion RR 77-378
01. EXCEPTION: but, if the exercise in favor of grantor is governed by a fixed or
ascertainable standard, which is enforceable by grantor, gift of corpus is
incomplete to the extent of the enforceable right to such distributions §2511-2(b)
2. Deposits, Promises, Checks, and Notes
a. Deposits in an Account/Joint Bank Account
 A deposit into an account or a deposit account itself is not necessarily a gift
 The creation of a deposit account is only a gift when donee withdraws from the account;
this withdrawal is analogous to common law concept of a gift
 Not a gift when money deposited but becomes a completed gift when money is withdrawn
by the person who did not deposit the funds
b. Promissory Notes
 Promissory notes and contracts as gifts are complete on the date the promissory
note/contract is enforceable
 Assignment of an interest in promissory note is a gift
o If only a promise to pay, not complete until some value is transferred
o If it creates a legally enforceable agreement, then note is completed on date it was signed
 Example: A holds B’s promissory note, gives it to C. This is a gift and it is completed
when the note becomes enforceable.
c. Contracts/Promises
(i) The gift is complete when contract becomes legally enforceable
(ii) RR 19-77: when someone promises to pay for college after they graduate from college,
the gift is complete when the executory contract is completed by graduating from college
(iii)Guaranteeing a loan is not a gift
d. Checks
(i) Generally
 Gift of a check is complete when deposited, or if it clears before January 1st
 Checks are like promissory notes because they are negotiable instruments
 The delivery of a check to a noncharitable donee will be deemed to be a completed gift
for EGT purposes on the earlier of (1) the date which donor has so parted with
dominion and control so as to leave in the donor no power to change its disposition, or
(2) the date on which the donee deposits the check (or cashes it against the available
funds of donee) if all five Metzger prongs are established
(ii) Relation Back Doctrine and Checks
 Comes in if check doesn’t clear by January 1st
 As long as the Metzger prongs are met, the relation back doctrine will apply
 Metzger v. Commissioner, RR 96-56
RULE: If check is delivered to a non-charitable donee, completion of the gift “relates
back” to date the check was deposited by donee, provided that:
(1) Donor is alive when check paid; AND
(2) Donor intended to make a gift;
(3) Check paid by bank when first presented;
(4) Donee presented check for payment the year for which completed gift treatment is
sought and within a reasonable time of issuance;
(5) Check was unconditionally delivered by donor to donee.
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ESTATE AND GIFT TAXATION
 In other words, for checks unconditionally delivered, promptly presented for payment, and
duly paid upon presentment, the payment of the checks relates back to date of delivery
e. Employee Death Benefits
 Completion issues with employee death benefits sometimes arise; most such benefits
qualify for special income and estate tax treatment under specific statutory provisions
3. Revocable Trusts and Retained Interests
a. Revocable Trusts
(i) Mandatory vs. Discretionary Trusts
 Mandatory Trusts: trustee must distribute all of the income of the trust
 Discretionary Trusts: trustee has discretion to choose either
a) persons who receive the income, OR
b) the amount to be distributed, OR
c) both.
(ii) Power to Revoke
 People generally want to hold the power to revoke and reinvest property in themselves
because they want to maintain control
 Retaining power to revoke makes gift incomplete; complete only when power is released
ET Note: grantor creates a trust in one year, retaining the power to revoke it, and then
releases the power to revoke in a subsequent year, the trust property will not be in the
grantor’s gross estate because she has not retained a power over the trust property for
her lifetime nor does she have a power over it at time of her death
(iii)Power to alter time/manner (see above)
4. Installment Sales and Loans §2503(b)
(i) Overview/Generally
 Definition: an installment sale is an arrangement where more than one payment is received
for the purchase of an item outside the tax year in which the transaction is closed
 Works by treating the original transaction as a bona fide sale, despite the avowed intent of
the “seller” to forgive each installment as it comes due, and thus, over time, to forgive the
entire debt
 Installment sales may be considered gifts and have potential tax advantages
01. Gift = spread between consideration received and FMV of asset
 Most often seen in familial context
 RR 77-299: IRS will challenge transactions involving the forgiveness of promissory notes,
and courts will closely scrutinize intra-family transfers
(ii) Issues with installment sales
01. Gift or Sale?
~ Whether it is a gift or a sale depends on whether grantor intended to forgive the notes
that were received when grantor transferred the property RR 77-299
02. Is it a legitimate transaction?
~ RR 77-299: if you don’t tell your kids the notes were never in existence, it suggests an
illegitimate transaction
~ Estate of Berkman v. Commissioner, 38 T.C.M. (CCH) 183 (1979): to determine
whether it is a bona fide sale, look at whether notes are (1) properly executed, (2)
accruing interest, and (3) collected upon
03. Forgiveness of Notes
~ Intent to forgive notes is different from donor donative intent
(iii)Estate of Kelley v. Commissioner, 63 T.C. 321 (1974)
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ESTATE AND GIFT TAXATION
 RULE:
01. Usually, a court will respect form of transaction if there is evidence of an agreement
or other egregious facts, a court may hold the substance of transaction prevails over
form
02. no GT when property is transferred in exchange for a valid, enforceable, and secured
legal obligation
03. forgiveness of notes as they become due not sufficient, alone to support inference that
notes were without legal substance
 If parent sells property worth $100k to child in exchange for $10k down and $90k
mortgage note payable in $10k annual installments over next nine years, the sale is
deemed to be for adequate consideration (i.e., the down payment plus the note) and
parent’s forgiveness of each annual installment as it comes due constitutes a gift of $10k
to child, but the gifts are excludable under §2503, with result that entire transaction
escapes gift tax
D. ANNUAL EXCLUSION(S)
1. Overview of §2503 Exclusions
a. Annual Exclusion (b)
(i) In computing taxable gifts, every donor is entitled to an annual, per-donee exclusion of
$15k
(ii) §2503(b): in computing taxable gifts for the calendar year, in the case of all gifts (other
than gifts of future interests in property) made to any person by donor, the first $15,000
of such gifts to such person shall not be included in the total amount of gifts made during
that year
 Because a gift of a future interest does not qualify for AE, the entire value of a future
interest in property must be included in total amount of gifts for the calendar year in
which it was made
b. Tuition and medical expenses (e)
c. Gifts to minors (c)
d. Crummey Powers (Judicially created)
e. Family Obligations
2. General Principles
a. Overview
(i) Not every gift is taxable
(ii) Remember that §2503 defines “taxable gifts” as the total amount of gifts made during the
calendar year, less the deductions provided in §2522 and §2523
(iii)Policy reason for the AE is that if we didn’t have it, non-compliance would be rampant
because our tax system is self-enforced
 Removes need to keep records of and report small incidental gifts and most ordinary
family or holiday transfers
b. Annual Cash Transfers to Kids: 3 ways to report
(i) Subtract all prior gifts for that year
(ii) Estimate prior amounts and write checks for $1k less than AE
(iii)Write an end-of-year check equal to AE, knowing that the IRS is likely to discover prior
gifts
c. Requirements to Receive Annual Exclusion/Three-Part Test to Receive AE
(i) Donee must receive immediate use, enjoyment, or possession of the property (i.e., present
interest) §2503-3(b)
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ESTATE AND GIFT TAXATION
 Don’t confuse this with completion—issue is not whether the property interest is vested
but whether the donee has immediate use of property
 See, present interest requirement, below
(ii) Donee’s identity must be ascertainable
(iii)Value of the gift must be ascertainable at the time of the gift
d. Steps for Exclusion Analysis (from very beginning of gift analysis)
(i) Has there been a transfer?
(ii) Was there consideration?
(iii)Was the gift complete (i.e., relinquishment of dominion and control)?
(iv) What is the valuation and is it ascertainable at time of gift?
(v) Does donee have right to immediate use and enjoyment?
(vi) Is the identity of donee ascertainable?
3. Gift Splitting §2513
a. Generally
(i) Married TP can double the benefit of AE
(ii) §2513 allows TP to treat gifts as if made one-half by TP’s spouse, so long as TP’s spouse
consents
(iii)Amount of split gift will not be included in spouse’s GE but it will be considered in
determining EG tax liability
(iv) In practice, because of unlimited marital deduction and the tax return requirement, spouses
rarely elect to gift split
b. Requirements
(i) both spouses must be citizens/residents of United States;
(ii) donor must not give spouse a general power of appointment over property;
(iii)donor must be married to the spouse at time of gift, and not remarry during calendar year; AND
(iv) gift splitting must be elected by filing a GT return signed by both spouses (once return is
filed, both spouses become J&S liable, as opposed to the donor being primarily liable for
GT tax imposes on his/her own gifts)—need to file a new return each year to elect this
4. Who is the Donee?
a. Generally
(i) This is an important question because of the requirement that donee be ascertainable in
order to receive AE and because of the per-donee rule
(ii) Although imposition of GT doesn’t depend on ability to identify the specific donee of a
transfer of property, the application of the AE on a per-donee basis requires donee
identification §2511-2(a)
(iii)Donee can be an entity or individual (if gift is made in trust, the beneficiary of trust, rather
than the trust itself, is treated as donee §2503-2(a)
(iv) Not even a single exclusion will be allowed if identity of donee is unascertained, even if it
is quite clear that at least one person will receive full financial ownership
b. Substance over form doctrine: Strawman transactions
(i) Heyen v. United States, 945 F.2d 359 (10th Cir. 1991)
 Donor transferred separate blocks of stock, each valued at less than $10,000, to more than
25 intermediate recipients, who promptly endorsed the stock certificates in black so that
the stock could be reissued to members of donor’s family
 Court held that donor “merely used those recipients to create gift tax exclusions to avoid
paying GT on indirect gifts to the actual family member beneficiaries”
(ii) Can’t use strawman to transfer gifts to family
5. Present Interest Requirement: “Immediate Use and Enjoyment”
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ESTATE AND GIFT TAXATION
a. Generally (“where the money is” on exams)
(i) Regulations suggest that a present interest in property is an unrestricted right for donee’s
immediate use, possession or enjoyment of property or the income from property (such as
a life estate or term certain) §2503-3(b)
(ii) GT AE under §2503(b) is not available to all transfers that would otherwise constitute
gifts under §2503(b)—statute provides parenthetical exception for “gifts of future interests
in property”
 a future interest for GT purposes is a legal concept grounded in state property law: a
“future interest” is a legal term, and includes reversions, remainders, and other interests
or estates, whether vested or contingent, and whether or not supported by a particular
interest or estate, which are limited to commence in use, possession, or enjoyment at
some future date or time” §2503-3(a)
 Accordingly, the transfer of a vested remainder in property is not entitled to be
excluded from total amount of gifts
01. If something is certain to come into possession, then it is vested
 No part of the value of a gift of a future interest may be excluded in determining the
total amount of gifts made during the taxable year
 NOTE that the term “future interest” does not refer to the contractual rights that exist in
a bond, promissory note (even if it bears no interest until maturity), or in a policy of life
insurance the obligations of which are to be discharged in the future
(iii)Hackl v. Commissioner, 355 F.3d 664 (7th Cir. 2003): for an income interest in trust to
qualify as present interest for purposes of §2503(b), there must be mandatory payments
of income on a periodic (or at least annual) basis, trust property must produce income and
interest of each income beneficiary must be ascertainable and capable of being valued
b. Facts and Circumstances Approach: for an interest to be present, there must be a
substantial present economic benefit
note: it is the nature of the property itself that delays the use or enjoyment, not any
restriction placed on the property of the donor §2503-3(a)
(i) Limits on transferability may make it not present
~ one such limit may be a spendthrift clause
o general rule: a beneficiary’s interest in a trust is ordinarily freely transferrable, but
voluntarily (by sale) and involuntarily (by court order, to satisfy a judgment)
o exception: a beneficiary of a spendthrift trust cannot voluntarily alienate his trust
interest, and his creditors cannot touch his interest in the trust
o created by a disabling restraint
(ii) Limits on distribution may make it not present
(iii)If there is a right to income, but the asset is sterile, it is not present—needs to pay out at
least once a year
~ to qualify for AE, must be a present interest paid out at least annually
(iv) If discretionary power to accumulate income, then it is never present §2503-3, ex. 3
~ if trustee can accumulate income (i.e., there is a provision in trust that allows for trustee
to accumulate income), then there is not a present interest and it does not qualify for AE
~ this is because with an income interest, trustee must pay out income at least annually
(see iii)
~ if you see the word “accumulate/d/s/ing,” that it means it does not qualify for AE
(v) If discretionary power to determine share of distribution to beneficiaries, then not present
§2503-3, ex. 3
c. Analysis: Is an interest a present interest?
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ESTATE AND GIFT TAXATION
(i) Overall analysis
 identify the number of interests that exist (e.g., future interests, income interests, etc.)
 identify the tax consequences for each interest (in the trust)
 determine whether the present interests, if any, qualify for the AE
(ii) To see if an income interest is present…
 assets must produce income
 distribution occurs at least annually
 trustee is not able to alter the proportional share or streams of income
 must be capable of being valued at time of transfer
(iii)To see if a trust has a present interest…
 trust will receive income
 some portion of that income will flow steadily to beneficiary
 portion of income flowing out to beneficiary can be ascertained
(iv) to see if LLC or partnership has a present interest…
 no right to transfer
 distributions subject to a manager
 no rights to use assets
6. Gifts to Minors §2503(b) and (c)
a. Generally
(i) Under §2303(c), a donor can make a present interest gift (qualifying for AE) to a trust that
benefits a minor
 This section allows a gift to be made to a minor, subject to certain restrictions, and yet
still qualify for AE
 This section contemplates that the trustee will have the discretion to use the interest for
the minor’s benefit from the time of the transfer to the trust until the time minor reaches
majority
(ii) Outright gifts to minors qualify for AE, but the issue with minors is the potential of it
being a future interest, as well as the issue of minors not being able to own property;
future interest rule raises special problems when a gift to minor is involved because of
legal disabilities imposed by state law making it so minor cannot personally exercise all
the rights of property and ownership in the same way an adult donee can
b. §2503(c) Trusts
(i) §2503(c) is a “safe harbor” (i.e., establishing a trust under this section is one way to give
property to minors where you can still qualify for AE); provides that, for purposes of
future interest rule of §2503(b), no part of a gift to an individual who has not reached age
of 21 years on date of transfer shall be considered to be a gift of future interest in property
if requirements are met
(ii) Requirements (note: only the interest given to the child must meet these requirements;
these are very strict requirements—need precise language to satisfy)
No part of a gift to an individual under 21 on the date of such transfer is considered a
future interest for the purposes of the AE if:
1) The donated interest and income therefrom MAY be expended by, or for the benefit
of the donee before he attains the age of 21;
~ RR 69-345: if trustee has to consider beneficiary’s other resources, it violates
§2503(c) because it destroys ability to receive trust income
2) Any unexpended balance will pass to donee when he attains age of 21; AND
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ESTATE AND GIFT TAXATION
3) If donee dies before age 21, any unexpended balance will be payable to estate of
donee (or as the donee may appoint, under a general POA)
(iii)ET Note: if parent is custodian and dies, money will be included in parent’s GE under §2041
(iv) Example: a gift in trust for a minor child will be eligible for AE, even though the child is
immediately entitled to any distributions of income or corpus, if requirements are met
c. Mandatory Spray Trusts
(i) Definition: a trust in which the trustee has discretion to distribute, divide, sprinkle or spray
the trust funds among beneficiaries in any way he sees fit
(ii) Example: X places money in irrevocable trust; terms of the trust read as follows “net
income to be distributed to X’s 3 kids, in such shares as X (in his uncontrolled discretion)
deems advisable”; the terms of the trust require that all of the net income be distributed;
thus, the amount of income that any 1 of the 3 beneficiaries will receive rests entirely
upon trustee’s discretion and cannot presently be ascertained, so does NOT qualify for AE
(iii)These trusts are “non-starters” for IRS
7. Crummey Trusts §§ 2503(b), 2514
a. Generally
(i) a judicially created tool for transfer
(ii) IRS will allow transfer of property with a lapsing demand right to qualify for AE; use
substance over form approach, but just granting that lapsing demand is insufficient—need
to make sure that the lapsing demand power is not illusory
(iii)Need to look at whether there is any collusive agreement implicitly or explicitly
 Examples
01. Implicit agreement: if they take out money, minor knows that donor will not put in
any more money
02. Explicit agreement: donor sends email to donee telling them not take out any money
 Can’t be explicit; explicit is a problem with contingent remainder
(iv) Difference between Crummey Trusts and §2503(c) trusts
 Crummey trust can exist past age of 21, §2503(c) trusts cannot
 Crummey trust can have multiple beneficiaries whereas there must be separate
§2503(c) trusts for each child/beneficiary
b. Definition
(i) A “device” that qualifies as a transfer of present interest* (and thus qualifies for the
annual exclusion) while also permitting deferral of distribution to the intended
beneficiary allows for transfer without
*present interest: means kids need to have access to it for a period of time, usually 30
days
(ii) From Quimbee: a trust allowing settlor to make gifts for the benefit of beneficiaries into
the trust that will qualify for the annual gift tax exclusion; there must be a period time
during which the beneficiaries may demand a distribution of their gift
(iii)Created when grantor contributes property to a trust and grants the beneficiary a lapsing
power to withdraw a specific amount; this right of withdrawal provides beneficiary with
power to obtain immediate use or possession—converts transfer to a present interest that
qualifies for AE
(iv) If a kid or guardian has a right to demand the money over a period time, that right to
withdraw makes it a present interest so qualifies for AE
c. Elements (need to meet to ensure that trust qualifies as Crummey Trust)
(i) Trustee discretion limitation/is limited
 Cannot subject withdrawal to discretion of trustee
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ESTATE AND GIFT TAXATION
 RR 54-400
(ii) Notice and Opportunity Requirements
 Requirements
01. Need notice that they have a right to demand, RR 81-7
02. Just need to show it is bona fide (need at least 15 days’ notice)
03. Must give notice every year
04. Beneficiaries cannot waive notice
 A power is determined to be illusory if it does not meet notice and opportunity
requirements
01. Anything that is viewed as prearranged is not treated as bona fide
02. Something is illusory either because of beneficiary’s lack of knowledge or because
of unreasonable time to execute power
 Written notice is not required, but practically it is a good idea for evidentiary reasons
01. Holland v. Commissioner: TC held that failure to provide beneficiaries with
written notice of withdrawal rights was not fatal to availability of AE
(iii)Beneficiary should respond in writing (Safe Harbor Requirement)
 TAM 9809008 (1997) states that AE is allowed where trustee is:
01. required to give beneficiary immediate written notice of Crummey contribution, AND
02. beneficiary has 30 days to exercise withdrawal power
(iv) Requirement of availability of LIQUID assets
 There should be liquid assets available in the trust; this is because of need to be able to
pay withdrawal amount
01. While any type of property can be put in the trust, in a Crummey trust, there has to
be sufficient liquidity to be able to pay out the $15k (or whatever the current
amount is) for AE to apply
 Convertible assets are okay
 Not convertible is not liquid: assets like artwork and real estate are not suitable
because they are not immediately accessible to pay them out, which creates a problem
with present interest because in some states, it can take up to 30 days for money to
come in hand from land sale
(v) Substantial Economic Interest in Trust
 Estate of Cristofani v. Commissioner, 97 T.C. 74 (1991): an unrestricted right to
immediate use, possession, or enjoyment of property or the income from property (e.g.,
LE or term certain) is a present interest; an exclusion is allowable with respect to a gift
of such an interest but not in excess of the value of the interest
01. Trust gave withdrawal right to grandchildren but it was contingent on parents being
alive; held: grandchildren with contingent remainder is sufficient to fit in Crummey
Test AE
02. When a trust instrument gives a minor beneficiary the right to demand immediate possession
of trust income or corpus, that power qualifies as a present interest under §2503(c)
03. Test: whether the beneficiary has the right to withdrawal or whether the trust could resist the
withdrawal amount
d. Crummey v. Commissioner, 397 F.2d 82 (9th Cir. 1968)
(i) Rule: gifts to Crummey trusts qualify for AE GT exclusion
(ii) Result of this case is that we now can put a future interest in a trust and have it treated as a
present interest for purposes of qualifying for AE
E. VALUATION §2512
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ESTATE AND GIFT TAXATION
1. Generally
a. Definition
(i) IRC does not define valuation; Regulations define valuation
(ii) Reg §25.2512-1: Valuation is defined as the fair market value at the time of the
decedent’s death, i.e., the price at which the property would change hands between a
willing buyer and a willing seller, neither being under any compulsion to buy or to sell
and both having reasonable knowledge of relevant facts and is not determined by a forced
sale price
(iii)This definition applies to gifts, estate items, and generation skipping transfers (GST)
b. Fair Market Value
(i) Value for transfer tax purposes is fair market value, not the value of an item to a
particular individual, nor the intrinsic or inherent value hidden in an object
(ii) Value is determined by the market in which the item is commonly bought and sold
 Reg. § 20.2031-1(b): if property is typically sold to general public, the retail market
determines the value, but if there is a specialized market, that market establishes the
value
c. Methods of Determining Value different methods are used to determine value, depending on the nature of the asset
(i) Market Approach
(ii) Capitalization of Income Approach (aka, Net Asset Value Approach)
(iii) Cost Approach
d. American National Bank and Trust Co. v. United States
there are two possible conceptions of value: (1) the theoretical, underlying value which is
made apparent by subsequent events; (2) valuing it at FMV, which is always changing
2. Gift Tax Issues
There are two main issues with GIFT TAX valuation:
a. Timing: at what point in time should the property be valued?
b. Method: what method should be applied to determine valuation?
3. Valuation Date
III. ESTATE TAX
A. GENERALLY
1. Rule of Construction: go with the highest yielding code provision
2. Definitions
a. The Estate Tax
(i) The estate tax is an excise tax on the transfer of property at death
(ii) Neither a wealth tax (imposed on the value of property owned by decedent at the moment
of his/her death) nor an inheritance tax (imposed on the value of property received by the
heirs or beneficiaries)
(iii)Tax is imposed on the “taxable estate” §2001
 Taxable estate = value of the gross estate less certain deductions §2501
(iv) The estate tax is a tax inclusive tax, which is a tax where you are paying taxes on the
dollars that you are paying the tax with
(v) Estate tax is imposed
b. Gross Estate §2031
(i) The gross estate includes/equals the value of all property, real or personal, tangible or
intangible, wherever situated
 Property located in foreign jurisdiction may be taxed
(ii) GE includes those property interests transferred by decedent to another at or as a result of
D’s death
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ESTATE AND GIFT TAXATION
c. RULE:
As long as D…
(i) Owns an interest in property at death
(ii) Which is transferred to another on account of D’s death
The property is includible in the gross estate
3. Estate Tax Base (Code Sections)
a. the estate tax base must include property owned by the decedent at death that passes as part
of the decedent's probate estate
b. The following code sections were enacted to bring powers of appointment, retained
interests, and other such property interests into GE
(i) §2031 states to include the value of all property in GE, to extent provided by §§ 20332046
(ii) §2033 and §2034 includes value of all property owned by D at death
(iii)§2035-§2038 states that property given away during life by D and not “owned” at death
may be included in GE
(iv) §2039-§2042 states that certain property interests, rights, powers give rise to taxation
4. Computation
a. Steps
(i) Calculate your tax base (see below) by adding everything in your estate (§2001) to
your adjusted taxable gifts (§2501)
(ii) Calculate the tentative tax on your tax base
(iii)Subtract the tentative tax from the applicable credit; this will give you the net estate
tax due
(iv) Due date
b. Calculations
(i) Tax Base = taxable estate + adjusted taxable gifts
(ii) Estate tax payable = tax base – tentative tax on tax base – applicable credit
B. VALUATION §2031
1. Generally
a. See definitions above under Gift Tax Valuation
b. §2031 is estate tax valuation section
c. Note that unless property is described in §2033 through §2046, it is NOT part of the gross
estate, however, almost everything is included in these sections
d. Estate Tax Valuation Issues: IRS is willing to apply simple valuation to a group of items,
such as knickknacks in a home
e. Generally, cannot include post-death events that affect valuation
f. D’s death itself can affect valuation of property
2. Method
(i) Open transaction method (GIFTS)
 Used when gift is complete but incapable of valuation
 Wait until subject property is capable of valuation, RR 69-346
 Open transaction method is NOT applicable to estate/gift tax
(ii) Valuation Approaches: Blockage Discount
 Blockage discount doctrine is explicitly recognized in §2031-2(e)
01. Allows a discount in valuing an unusually large block of stock held by D to reflect the
effect on the market price that could be expected if all of the shares were released for
sale at one time
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ESTATE AND GIFT TAXATION
 TP has burden of proving existence of facts that justify blockage discount; TP must show
that:
01. MARKET is too thin to absorb the shares at the market price
02. TIME within a reasonable time
03. BROKERS by skilled brokers, following prudent liquidation practices
3. Valuation Date
a. Value is fixed at date of death unless the estate elects alternate valuation date
b. Alternate Valuation Date (AVD) §2032
(i) Generally
 If AVD is elected, the estate is valued at 6 months after date of death
 If election is made to use AVD, the alternate valuation method applies to all property
included in D’s GE §2032-1(b)(1)
01. Property which decreases in value will reduce overall gross estate and thus reduce
estate tax liability
02. D’s estate may not “cherry pick” by electing the AVD as to some assets and not
others
03. IOW, while it would be nice if the election only applied to those assets which
decreased in value, the election in fact applies to value all assets as of the AVD,
including those which increased in value
 Taxable estates which do not exceed the amount of the exemption equivalent could
make an AVD election where value of GE increases within alternative valuation period;
under these circumstances, the estate would get a “free” step-up in basis without
incurring any additional taces
(ii) Rule §2032(c)
An estate may only elect AVD if it reduces BOTH: (1) value of the GE AND (2) the
amount of ET and GST payable
§2032-1(b)(1) provides that the election may be made only if it will decrease both the value of the
GE and the sum of the estate tax and the GST tax payable by reason by D’s death; thus, where the
sum value of all assets increases, the Code does not allow the executor to make an election to use
the AVD
This ensures that the election is not used to obtain a step up in income tax basis at no
additional estate tax cost
(iii)Exceptions to Valuing “Included” Property on AVD (because once AVD is elected, can’t
“cherry pick”—see above):
 Property distributed, sold, exchanged, or otherwise disposed of within 6 months
following D’s death is valued on the date of disposition §2032(a)(1)
 Property interests which are affected by mere lapse of time (such as annuity k’s) are
valued as of the date of death—but may be adjusted as of the AVD for any difference in
value not caused by the mere lapse of time §2032(a)(3)
01. Increase in value post-death due to mere lapse of time is included in AVD
4. Valuation of a future interest
(i) To determine valuation of a future interest, look at actuarial tables
5. Valuation of Real Property
(i) Real property valuation is done through appraisal
(ii) Valued at its highest and best uses, §2032(a)
(iii)Ignorance of facts affecting valuation is not enough to overcome appraisal valuation, unless
TP shows actual change in circumstances since date of appraisal (Estate of Pillsbury)
(iv) Factors that will be considered:
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ESTATE AND GIFT TAXATION
 Recent attempts to sell property, including any offers on property
 Sales of similar property in area
 Condition, location, and income production of property
 Any potential zoning changes
 If there are any easements of the property
6. Valuation of Securities
(i) The FMV of stocks/bonds is the mean between the highest and lowest quoted selling prices
on the valuation date §2032-1(b)(1)
7. Valuation of Interests in Close Corps (discounting vs. control premiums)
(i) Factors to consider, according to RR 59-60:
 Book value of stock
 Financial condition of corporation
 Earning capacity of corporation
 Dividend paying capacity
 Whether enterprise has goodwill
 Outlook of specific industry
 Market price of stocks in same line of business that are listed in open market
(ii) Minority discount rule: who the shareholders are irrelevant for discount
(iii)Burden is on donor to establish valuation
C. PROPERTY OWNED AT DEATH
1. IRC §2033
a. Generally
(i) The value of the gross estate shall include the value of all property to the extent of the
interest therein of the D at the time of his death
 This includes property that will be subject to probate in state court (i.e., those property
interests that are subject to the payment of the claims and expenses that are subject to
distribution as part of D’s estate
 Also goes beyond probate estate to include property interest that D had before death
and that pass to another as a result of D’s death (e.g., vested remainder in trust
property)
b. Test
Property is includible in GE as long as D
1) owns an in the interest in property at death; AND
~ The interest must be a “beneficial interest” as defined by state law §2033-1
~ Once state law determines the extent of the interest, federal law may tax the interest
2) The interest is transferred to another on account of D’s death
c. Transfer by Decedent: Interests Terminating at Death
(i) Life Estate
 Generally
01. The life estate are interests terminating at death/things that are not taxed
02. Life estate terminates at death, thus, under §2033, the LE is NOT taxed (LE for life
of D is not included because interest is extinguished at death
 §2033 only applies to inheritable interests which are transferred at death
(ii) Future Interests
 Taxed just like present interests
 The present value of the future interest is going to be included
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ESTATE AND GIFT TAXATION
 To determine present value/valuation of a future interest, you look at actuarial tables—
the valuation of that future interest is going to be taxed just like a present interest
(iii)Contingent Interests
 Just because an interest is contingent, it does not mean it is not included
 Contingency affects valuation
 When an interest is contingent, it does NOT impact inclusion under §2033, but it DOES
impact valuation
 NOTE: if a contingent interest hinges on D’s survival and then D dies (as opposed to
the interest hinging on someone other than D’s survival) the interest is extinguished and
NOT taxed under §2033
 Example: Life estate to A in farm property, remainder to B if B survives A; if B dies
before A, B has no interest in farm property
(iv) Wrongful Death Claims (proceeds from)
 Proceeds of wrongful death claims are not taxable RR 75-127
 Unlike other claims such as medical malpractice claims, which are treated as owned by
D prior to date of death, wrongful death proceeds are NOT treated as owned by D
 Wrongful death benefits paid directly to D’s heirs or next of kin are excludible because
D did not have an interest in that benefit before D’s death
d. Types of Property Subject to Tax Under §2033 (see list in §25.2033-1)
(i) Personal tangible property
 Furniture, clothing, art, and jewelry §25.2031-6
 Any item that is worth less than $100 can be grouped together
 If any item is worth more than $3k, and/or any items of like kind are worth more than
$10k as a collection must be appraised
 No value is assigned to animals
(ii) Right to (Future) Income
 If the right to income arises before death, then it is includible (like a right to a dividend)
 Must be declared before date of death for it to be included
 Income rights are included in the FMV producing the income PLUS any income that
has accrued prior to death
01. With income producing property, the value of the income stream is going to be used
to value the property
02. Note that commercial real estate is going to be valued differently than residential
real estate
 Any income accruing AFTER date of death is NOT included
 This includes rights to FUTURE income, which is valued by the present value of the
future income streams if you have undisputed rights to future income
(iii)Checking and savings accounts
 Balances are included unless it is a pay on death account
(iv) Dividends (depending on whether or not they’ve been declared)
(v) Employee Benefits
 Whether or not employee benefits are included is tied to whether or not D has a legally
vested right
 Voluntary payments (by employer to deceased employee to deceased employee’s
surviving family) are NOT included
 Benefits pursuant to contract ARE included
(vi) Debts (two categories)
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ESTATE AND GIFT TAXATION
 Debts cancelled by a will
01. If debts are cancelled by a will, you will treat that money/debt that’s cancelled as if
it has been bequeathed to the debtor
02. Example: you hold a promissory note for $1 million and you cancel that promissory
note through the will, you treat it as $1 million that has been bequeathed to that
beneficiary
 Tax Exempt Bonds
(vii) Life Insurance
 §2042, not §2033 covers proceeds of a life insurance policy on life of decedent
 However, §2033 does cover contract of insurance if D owns the policy on the life of
another
(viii) Cemetery lot/Funeral Plots §25.2033-1
 Value of plot(s) is/are included under §2033, but you get a deduction for use of plot(s)
 Value is based on typical present value in the area, not behavior and wishes of D (i.e.,
D may be super spendy person but doesn’t matter for valuation purposes)
 Value limited to salable value of the part of the lot which is not designed for internment
of D and members of D’s family
(ix) Safety Deposit Boxes
 Value of contents of box are included, unless they can be shown NOT to be D’s
(x) Interests and Rents Accrued as of DOD are included under §25.2033-1
 Income producing property
01. Value of property = included
02. Income before death = included
03. Income after death = not included
(xi) Property Obtained Illegally
 When D does not have legal title to property at time of death (stolen or converted
goods), the value of the property is included in GE under §2033 if:
01. D has possessed the used and economic benefits of the property AND
02. D has transferred the use and economic benefits to another for an indefinite period
after his death
2. Marital Interests in Property: IRC §2034
D. JOINT INTERESTS
1. Generally
a.
2. Creation and Termination of Joint Interests During Life (GIFT TAX)
a. Joint Interest Issues:
(i) Is it a gift?
 Consideration: it is a gift to the extent that the joint tenants don’t provide consideration
for the joint tenancy
 In most instances, it is going to be treated as a present interest
 Joint tenancy interest created by gift is considered a present interest for purposes of
§2503(b) gift tax annual exclusion
b. When is it complete?
 Complete at the point in time where there is actually a transfer of the present interest
because D has given the power to retract §25.2511-2(b)
 Exception to this is a joint bank account because D can still withdraw from account so
gift is not complete
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ESTATE AND GIFT TAXATION
c. What is the value of the gift?
 Value depends on whether the joint tenancy can be SEVERED, which is a question of
state law (i.e., whether the joint tenancy with consent or without consent)
01. Some states allow a joint tenancy to be severed without consent
~ Severing without consent is called stealth severance
~ When consent is not required, either cotenant can sever without the other one
knowing
~ This means that one person can die without knowing the other has severed the
co-tenancy with right of survivorship
~ If both stealth severances, they both just own 50%
~ Gift will be treated as ½ of the value of the property
02. When consent is required, one co-tenant must obtain the consent of the other to
sever so they become tenants in common
~ If joint tenancy is severable with consent only, the value of each tenant’s
interest depends on his/her age in relation to the other joint tenants
~ Thus, in jurisdiction that does not require consent, you have a computation
to do
~ Only worried about this in joint tenancies where people are not married
because in the case of spousal joint tenancy, there is a marital deduction
~ The creation of joint tenancy by one spouse with another qualifies for the
unlimited marital deduction of §2523
(ii) Spousal joint tenants
3. Termination of Joint Interests at Death: Introduction
a. Types of co-tenancies to which §2040 applies
b. General rule of inclusion
4. Spousal Joint Interests §2040(b)
5. Income Tax Consequences
E. RETAINED INTERESTS
1. Generally
a. §2035 to §2038 includes property in the GE of the decedent that D transferred during his/her
life if he/she retained some power/string to the property (meaning D did not transfer the
property entirely)
b. §2036(a) provides general rule: GE includes all property D made a life transfer of but
retained an interest not ending before his death or is not ascertainable without reference to his
death, in
01. possession or enjoyment, or right to income from (i.e., life estate), or
 Historically, it was always assumed that LE retained by D were included in D’s estate
 This changed with May v. Hayner, which held that LE were NOT subject to estate tax
 Thus §2036 was brought into code to distinguish the SCOTUS decision on this
02. the right, along or in conjunction with third party, to designate persons who will enjoy
income therefrom
c. Differences between (1) and (2): (1) triggers inclusion if settlor is beneficiary with
ascertainable HEMS standard whereas (2) prevents inclusion if settlor is beneficiary with
ascertainable HEMS standard
2. Right to Income §2036(a)(1)
a. Generally
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ESTATE AND GIFT TAXATION
(i) If D transfers property during his lifetime and retains the right to the possession or
enjoyment of it or the right to the income from it, §2036(a)(1) will bring that property into
D’s gross estate
 In these situations, D is only transferring a remainder interest in the property and that
interest is a future interest (i.e., one that will not take effect in possession or enjoyment
until at or after D’s death)
 D will continue to enjoy the economic benefits from the property until his death even
though he cannot alter the identity of the ultimate beneficiaries
 This type of transfer serves as a substitute for a will and is testamentary in nature
(ii) Elements (required in order for §2036(a)(1) to apply)
1. D made some type of inter vivos transfer of property
2. over which D retained an interest or a power over upon transfer
3. this retained interest or power is a taxable interest or power
these include the possession, enjoyment of, or the right to income from the property, and/or the right to
designate who may possess or enjoy the property or its income
4. and it is retained for a specified/specific time period
for life, OR for a period other than life if the period cannot be determined without reference to D’s death OR
for a period other than life in fact D dies before the end of that period
 Transfer
01. Must be transfer before death
02. Not enough that D possesses a life estate or power at time of death—D must have
actually transferred the property during life
03. Subsequent Reconveyance of an Interest
~ §2036 will NOT apply where D reacquires an interest in the property subsequent
to the transfer
~ Example: D makes an outright gift of property during his lifetime; later, without
any prearrangement, the recipient (i.e., donee) re-conveyed a life estate in the
property to D—this is NOT a retained life estate and transfer would NOT be
taxable
 Time Periods
01. Example of #3: period of 10 years; if D dies in year 8, value is included, but if D
dies in year 12, it is not included
 Retained Interest
01. The interest or power does not need to be expressly retained in an instrument of
transfer
~ It can be argued that D retained the interest/power indirectly or impliedly; it is
enough that D arranged to keep using/enjoying property, whether this was
arranged directly or indirectly, even if it is not expressly in writing; collateral
documents can show this or through implied means with no documents at all
~ Examples: Retention of a Power or Interest
~ H transfers a house to C and H continues to live in house
IRS has taken position that the mere fact of continued occupancy evidences
implied understanding
~ H transfers to a house to W and H continues to live in house
Courts have consistently held that H’s continued occupancy of residence is
NOT a §2036 retained interest if H and W are married on the grounds that
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ESTATE AND GIFT TAXATION
H continues to occupy the residence “as a natural incident to the marital
relationship” and not as an implied understanding
~ H transfers a house to C (H’s son) and continues to live in the house
Because transfer is a family member other than a spouse, there is mixed
authority on whether or not there is an implied understanding that each is
going to continue to occupy the residence rent free; if C does not continue
to live there with H, courts have generally concluded that H has a retained
interest and that there is an implied agreement; if C does co-occupy the
house with H, the courts are split and will look at surrounding facts
02. An interest is retained when there are no enforceable property rights so long as D
has retained a right to use/enjoyment, economic benefits, or income; mere fact of
continued occupancy implicated a complicit understanding
03. Reservation of right/interest must be in the actual property transferred for §2036
to apply
~ Example: X transfers property to D; in exchange, D agrees to pay an annuity to
X for life—this is treated as a purchase of an annuity and NOT within §2036
04. Discretion
~ Could argue that D retained enjoyment so falls under 2036 but it is a weak
argument because D can’t have money whenever he wants; whether D retained
right to income is a facts and circumstances
~ Ultimately, if there is a discretionary right to distribute income, it is not
included in the estate
~ Example: D transfers property in trust; there’s a provision of for the payment
and of income to others but trustee has discretion to make income payments to
(iii)Who is the transferor?
 Substance over form approach
01. Example: D purchases property from A. Directs A to transfer LE in property to D,
with remainder to X
~ While A is the actual transferor of the property, D will be treated as transferor
of property for tax law purposes
 Grandfather Trust
01. Example: Transfer by D providing for payment of income to child C for life, then
remainder to Grandchild
~ The LE C receives terminates at death and nothing is included in C’s estate
under 2036 because C was not transferor
 Reciprocal Trust Doctrine
01. Substantially identical trusts are treated as being created in consideration of each
other (must be substantially identical or courts will not apply doctrine)
02. In circumstance where the trusts are of different value, the amount to be included
in either grantor’s GE is going to be NO MORE than the value of the smaller trust
03. Application of this doctrine no longer relies on need for consideration
04. Example: A and B are brothers. They transfer equal amounts to two separate
irrevocable trusts; A’s trust establishes that B has income for life with remainder to
his issue and B’s trust establishes the very same for A (they’re identical)
~ A will be treated as the actual settlor of the trust established by B and vice
versa; thus, upon A’s death, the value of B’s trust, which A was deemed to
have, was included in A’s GE because of the retained LE which A had in the
trust
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ESTATE AND GIFT TAXATION
 Indirect transfers
01. Another transfer of an interest may be imputed to D (like in reciprocal trust)
02. Example: Husband owes Wife money. Instead of repaying W, he transfers funds
into a trust in which she has a LE.
~ Husband will be held to be acting as wife’s agent by transferring funds to the
trust
~ As to amount of loan, W is treated as transferor
b. Retained possession and enjoyment/Interest or Power that must be retained
(i) Qualifying Requirement
 It is insufficient for D to simply possess power at death (i.e., mere possession is not
enough); D must retain the power in connection with an inter vivos transfer, either
directly or by implication
(ii) Do not need legally enforceable right to possess/enjoy
(iii)Use of Collateral Documents
 Interest/power need to be expressly retained in the instrument of transfer, so long as the
retention appears in some document (i.e., does have to exist in some form of
documentation)
 This collateral document may then be read as part of the transfer
(iv) Prearranged Reconveyance (See §2036-1(a))
 An interest or right is treated as retained if at the time of the transfer there is an
understanding that the interest or right will later be bestowed (i.e., treated as retained
interest if there is a lifetime understanding that someone would get something back)
 If this is the case, it is included under §2036(a)(1)
 Factors of prearranged reconveyance: (1) did value actually change hands (close to
FMV); (2) mortgage obligation; (3) rent (enough to pay mortgage?); (4) who took care
of property; and (5) are payments being forgiven as they become due?
 Examples:
01. D transfers income producing property to his kids. He has an “understanding” that
he will continue to receive all rents from the property until he dies.
~ Oral understanding is unenforceable (that’s why understanding is in quotations),
however it provides a sufficient basis for taxation under the prearranged
reconveyance doctrine, when combined with fact that D actually did receive
rents
02. If the owner transfers a house, continued occupancy is evidence that there is an
implied understanding (these retained possession/enjoyment cases are a
“nightmare”)
~ If you transfer house to someone, and you continue to use the house, that’s
retained possession or enjoyment
(v) Mere fact of possession is not enough—must be some type of arrangement or
understanding
 Need to be able to point to facts that indicate an implicit arrangement or understanding
 Courts will infer understanding/agreement if/when D continues to beneficially enjoy
the property
(vi) Inherent Right to income
 Retention of possession or enjoyment inherently includes the right to income or right to
economic benefit of the property, it is not required that you have both
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ESTATE AND GIFT TAXATION
01. Applies if D retains possession or enjoyment of property even if property does not
produce any income
02. D will often transfer title to his residence to his kids during life; note that although
transfer will be a taxable gift if D relinquishes all rights to revoke the transfer, the
residence will be included in D’s GE if there is an agreement, even an implicit one,
allowing D to remain
 You can retain possession or enjoyment; it does not mean that the property must be
income-producing
 Examples:
01. If D gives artwork to A, but retains possession for life, the value of the artwork is
taxable to D under §2036(a)(1) simply because of retained possession
02. If D makes a gift of a house, but reserves the right to live in it for life, §2036(a)(1)
applies
c. Right to Income
(i) Do not need legally enforceable right to income—D can be taxed under §2036(a)(1)
even if D possesses no legally enforceable right to receive the income
(ii) Encompasses right to have the income used for D’s benefit
(iii)Must be more than a mere expectancy, but D does not have receive income
directly/actually receiving income—D needs the right, either expressly or impliedly, to
receive the income
(iv) If D is actually receiving income because there is some sort of agreement, even if it’s an
“understanding” that D has with donee, a court can infer such an “understanding” if D
continues to receive income
d. Legal obligation to support (Discretionary Trusts)
(i) General Rule
 D is deemed to have retained possession or enjoyment or the right to income from
property if the property, or its income, is (to be) used to discharge his legal obligations
for his monetary benefit
 D is deemed to have retained possession and enjoyment or right to income if the
amount can be used to discharge legal obligations for his own benefit
 i.e., if D uses income to discharge his legal obligations, it could be treated as right to
receive income
(ii) D transfers property in trust directing the trustee to use the income for the support of D’s
dependents during D’s lifetime, that property is includible in GE
 This includes the legal obligation to support a dependent during D’s lifetime §20.20361(b)(2)
 This is because it is a discharge of a legal obligation; it is the same thing as if D received
the money (if D directs trustee to use income to support D’s child, that is no different
than income being paid directly to D)
(iii)Issue here is not whether or not payments can be directly made to the settlor, but whether
there has been prearrangement; any evidence of prearrangement may cause court to imply
retention of right to income from continued distributions to the decedent that are
discretionary
(iv) EXCEPTION
 As long as D (1) is NOT trustee AND (2) cannot compel the use of income for his
benefit (i.e., trustee is given discretion to use income for support of dependents), then
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ESTATE AND GIFT TAXATION
the fact that trustee has discretionary power to give income to D will NOT cause the
property to be taxed in D’s GE under §2036
01. If D is trustee and has the discretion to use the income to support, then it IS taxable
because it is right to income (D possesses right if can use income for his benefit)
02. If settlor can compel exercise of discretion in his favor, then a right to income exists;
if standards governing discretion are vague (e.g., income to D for his comfort and
happiness) or where power is ascertainable like a support standard, then a right to
income exists
(v) Decedent has not retained an interest if there is an ascertainable standard
(vi) The extent of the support obligation is relevant in determining valuation
 If obligation is $10k per year and trust earns $100k of income per year, D has no indirect
or direct interest in the excess of $100k over $10k, so for valuation purposes, D is going
to be viewed as having a retained interest only over the portion of the trust that is
relevant to the support obligation (proportionate amount is included in GE)
e. Exceptions: §2036(a)(1) does not apply…
(i) To bona fide sales for adequate and full consideration in money or money’s worth
(ii) To private annuities (whether a particular transfer involves a retained interest vs. an annuity
depends on facts and circumstances)
(iii)When D establishes a trust giving trustee absolute discretion to accumulate income or
distribute it to D
 See discretionary trust, above
 In this situation, D does not have a right to the income; he has given the trustee the right
to determine what happens to income
 This is not the case if there is either an express or implied agreement/understanding
between D and trustee that trustee will distribute income to D whenever D requests or if
D is trustee himself; when D continues to control flow of income, D is considered to
have a right to it
3. Right to Enjoyment of Property §2036(a)(2) and §2038
a. §2036(a)(2): Designation of Beneficiaries
(i) Generally
 Contains rules that overlap with §2038
 Under §2036(a)(2), the GE includes the value of all property to the extent of any interest
of which D has made a transfer under which he has retained for his life or a related
period the right, either alone or in conjunction with someone else, to designate the
person who shall possess or enjoy the property OR income therefrom
 Property is taxed under §2036(a)(2) if D retained the right (alone or in conjunction with
someone else) to designate the person who shall possess or enjoy the property OR
income therefrom
 Pertains to D retaining a power over the property (rather than an interest in the property)
 Does not apply to an acquired or reacquired power (unlike §2038); only applies if D
transferred property during life and retained the described power under the transfer
(ii) Considerations
 Power or interest?
01. Power to Accumulate
~ Accumulation of trust income shifts income from income beneficiary to owner of
remainder
02. Power to Encroach (same result as #1)
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ESTATE AND GIFT TAXATION
03. Power to Sprinkle
~ Power to direct the income allocations among beneficiaries triggers §2036
 Transfer and Retention
01. If you retain those rights/powers with 100% of assets, then all assets are includible
at death, but if only retain those rights with 60% of assets, then just 60% of the
assets are includible
 Exercisable in Favor of D
01. Power does not need to be exercised in favor of himself (unlike §2036(a)(1))
 Any Power Impacting Possession/Enjoyment
01. Shifting of economic enjoyment is not required
~ Power to shift possession or enjoyment from a party to another clearly triggers
§2036
~ §2036(a)(2) also applies when D has retained right to affect time and manner of
even one beneficiary’s possession or enjoyment
 Exercisable During Transferor’s Life
01. Power must be exercisable during D’s life
02. If power to designate is exercisable only by will, it is not taxed under §2036(a)(2)
 Non-Beneficial Power Must be Discretionary
01. Discretion—if no ascertainable standard, then not included under §2036(a)(2)
 Retaining Indirectly: does not need to be retained with an adverse party
 Settlor-Trustee
01. D can avoid §2036(a)(2) if he (1) named himself as co-trustee without inclusion as a
beneficiary, AND (2) distributed income in compliance with an ascertainable
standard
 Amount Includible
01. The amount includible is the amount subject to the retained power, i.e., entire value of
everything that was transferred but not value of power that was retained by D because
it was never transferred
02. If it never left hands of D, it is not includible under §2036(a)(2)
b. §2038
(i) Generally
 Only applies where power to revoke is exercisable by D OR D and another person—
doesn’t matter if other person has an adverse interest
 §2038(a): D has made a transfer within the past three years where enjoyment was
subject at his date of death to change through an exercise of power to (a) alter, (b) amend,
and (c) revoke or terminate
 If D made a lifetime transfer of an interest in property and if at the time of death, the
enjoyment of the interest remains subject to a change through the exercise of a power
held by him to alter, amend, revoke, or terminate the transfer (or where any such power is
relinquished within three years of his death, see below), the interest subject to such power
will be included in GE
 Like §2036(a)(1), this section is a “grantor section” and applies only where the property
whose enjoyment is subject to the power was at some point owned and transferred by D
01. Difference is that unlike in other grantor sections, §2038 does not require that the
power over the enjoyment be retained by D—it is enough that the power be held by D
at DOD
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ESTATE AND GIFT TAXATION
 Applies if enjoyment of transferred property was subject to any change through the
exercised power
 Unlike §2036, a §2038 retained power will be taxable even if it is released, if release
occurred within three years of death of transferor
(ii) Factors
 Power must be exercisable at death
01. Contingent Powers §2038-1(b)
~ If a power is subject to some type of contingency before exercise, it is NOT a
taxable power if:
1) Contingency is NOT within control of D, AND
2) The contingency has not occurred at time of D’s death
~ Example: D transferred property to trust; income to A for life, then remainder to X;
D reserved right to name 1 additional beneficiary if an earthquake caused
California to fall into the ocean; D dies while A is still alive.
o No property is taxable under §2038 in this example; earthquake is not in control
of D, and the condition (earthquake) did not occur by the time of D’s death—a
legal disability preventing the exercise of the power will not prevent inclusion
under §2038, as long as D possesses power and power is technically exercisable
by D
o There will be exclusion under §2036(a)(2)
 Nature of Taxable Power
01. power to amend, revoke, alter, terminate, etc. are ALL taxable transfers
~ doesn’t matter if power was created/exercisable by will or whether the power can be
exercisable during lifetime, or both
~ Doesn’t matter if power is never exercise
02. Purely administrative powers do NOT trigger §2038, such as power to direct trust
investments
03. Retained power does not need to be beneficial to D—as long as D has retained the
power/ability to affect enjoyment of others, it is taxable
04. Discretionary vs. Non-Discretionary Powers
~ Only discretionary powers render transfer taxable
~ If a power is fixed by an ascertainable standard, it is not discretionary and it is not
taxable
~ Example: D is trustee, trustee must pay income to A for life, then remainder to B;
trustee has the authority to invade corpus for A’s health or education—this is a fixed
ascertainable standard; it is not discretionary and thus no inclusion in GE
05. Power to affect time and manner of enjoyment
~ The power to terminate a trust will often shift economic enjoyment, however it does
not need to; it is enough for D to retain a power that affects time and manner
~ Taxable, even if there is no power to change the economic substance of the transfer
~ Example: D creates a trust, income to A for 20 years, the corpus to A; D receives
right to terminate trust, with corpus and income, then immediately being paid to
A—this is taxable, and will be included in D’s estate under 2038
06. Power to terminate
~ Termination of a trust will typically affect beneficial interest
~ Example: if D creates a trust, income to B for life, remainder to C, and reserves
right to terminate trust at any time, causing distribution of corpus to C
o Entire corpus is includible in D’s estate
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ESTATE AND GIFT TAXATION
o B’s interest is subject to change because it may be terminated, thus it is taxable
o C’s interest is subject to change because it may be accelerated, and thus is
taxable because of time of enjoyment (favorable only to C, not to D)
o It would be different if D only has power to direct corpus to B, if so remainder
subject to 2038 but income beneficiary’s right is not
07. Power to alter and amend (same thing for our purposes)
~ Power to change share of income or corpus that beneficiary receives is taxable
(i.e., power to accumulate or distribute, power to invade corpus for benefit of
another)
~ Power to substitute or add beneficiaries makes it taxable
~ Must be exercisable by D; D must have connection with power transferred
o If D transfers power to 3P, then not includible (i.e., no retained interest under
2038)
o BUT, if D has power to remove/discharge trustee and appoint himself, it is
viewed as retained power
 Power in whatever capacity
 Source of the power
01. Typically, under §2036 and §2037, D has to “retain” a power—not worried about his
under §2038
02. Only issue is whether there IS a power in D at time of his death; no difference if D
received the power from someone else
03. §2038 has been held inapplicable if D makes a complete transfer of property and
then in an unrelated conveyance, receives the power back
04. A power received by operation of law is deemed to be within §2038 (e.g., statute that
gives husband right to revoke a life time transfer to wife; in that case, because of
statute, husband will be viewed as retaining the power, even though the power is
only retained by husband through statute)
(iii)Amount includible/taxable (a very important issue under §2038)
 The value of the interest that is subject to the taxable power under §2038 is taxable
 If D’s retained power affects entire the entire property interest transferred, entire value is
included
 Example: D transferred property to trust, income to A for life, remainder to B; D retains
right to direct how much income will be paid to A—only A’s income interest is affected
by D’s retained power, and thus only the value of the income interest as of D’s death will
be includible; however, under §2036(a)(2) the entire trust property will be included D’s
GE because of the retained power to distribute income from entire property
(iv) Overlap with §2036(a)(2) (there is a dramatic overlap between these two sections)
 Most taxable transfers under §2038 will also be taxable under §2036
 The major differences are:
01. §2036 is limited to powers that affect enjoyment during D’s lifetime, whereas
§2038 applies even if power will affect enjoyment interest after D’s death
02. §2038 will NOT apply if D’s power to subject to contingency beyond D’s control
whereas §2036 will
03. Under §2038, only the specific interest that is subject to power is taxed, whereas the
entire property to which the retained interest or power relates is taxed under §2036
 Example: to A for life, remainder to B—D retains right to revoke; both sections apply
and value of entire property is includible
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ESTATE AND GIFT TAXATION
c. §2037
(i) Generally
 Includes in D’s gross estate the value of any property transferred by D (in trust or
otherwise) during D’s lifetime where:
01. transferee's possession and enjoyment of property is contingent upon surviving the
D-transferor, AND
02. D-transferor has retained a reversionary interest in the property valued at more than
5% of the value of the property at time of D’s death
(ii) Four Basic Requirements for Taxation
1) Condition of Survivorship
 D’s lifetime transfer must be such that transferee can retain possession and
enjoyment of property only by surviving decedent
 Analysis (see below)
2) Reversionary Interest
 D must retain a reversionary interest under §2037(a)(2)
 The right to income is insufficient retention of interest §2037-1(c)(2)
3) 5% Rule
 §2037 only applies if value of D’s reversionary interest exceeds 5% of value of
transferred property immediately before D’s death §2037(a)(2)
 AVD does NOT apply §2037-1(c)(3)
4) The “negative” requirement §2037(b)
(iii)Requirement of Transfer
 Must be a transfer by D during his lifetime (will not reach transfer made by another)
 Transfer requirement is the same as §2036 and §2036
(iv) Survivorship Requirement
 Under §2037, beneficiary’s possession and enjoyment must be contingent solely on
surviving transferor
 Analysis:
01. Does any beneficiary have a contingent interest?
~ e.g., D transfers property to a trust, income to A for life, remainder to G, D
reserves the right to revoke the trust
~ ^all of trust is included in GE, as long as D is alive, their interests are contingent
on revocation
02. If YES, is it contingent on surviving transferor?
03. If YES, is it contingent solely on surviving transferor?
~ Beneficiary’s possession or enjoyment must depend solely on surviving D; if
there is a condition of survival, but the beneficiary can take should an alternative
event happen, there will be NO taxability under §2037
~ This is known as an unreal alternative event (see below)
04. If YES, then it meets survivorship requirement
(v) Alternative Event
 §2037-1(b): no inclusion if, immediately before D’s death, possession or enjoyment of
the property… (1) could have been obtained by any beneficiary either by surviving D, or
(2) through the occurrence of some other event
 If other event is “unreal” (i.e., so extreme as to be unreal) and death occurs prior to its
occurrence, inclusion will result—will be disregarded
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ESTATE AND GIFT TAXATION
 Example: D transfers property to trust. Directions are to accumulate income from the
trust, and then distribute everything to A, but only if “A survives me, or if I am still living
when A discovers life on another planet.”
 Deferring possession or enjoyment is not enough
01. Example: D is 90 years old. He has no life expectancy because D is so old. D
transfers property to trust. Directions of the trust are to accumulate income for 15
years, and then distribute everything to A.
(vi) Reversionary Interest is Required
 D must retain a reversionary interest in property
 Reversionary interest includes all possible reversionary interests defined by law (i.e.,
reversions, possibility of reverter, rights of reentry, etc.)
 5% rule: transfer is taxable only if reversionary interest retained is valued at more than
5% of total value of property transferred at time of death
 Value of reversionary interest is determined on basis of D’s life expectancy
immediately prior to death §2037-1(c)(3)
 Reversionary interest is compared to value of entire to property that would revert to D
§2037-1(c)(4)
 AVD doesn’t apply so doesn’t affect valuation
 Example: D transfers property to trust. Income to A for life, remainder to G. If D was
alive at A’s death, then property reverts to D.
01. If D dies before A and G, the value of the reversion immediately before death is
compared to the value of the entire trust corpus, even though we would only include
into D’s gross estate the value of G’s remainder, which is the entire corpus less the
value of A’s LE because A’s interest does not hinge on survivorship
(vii) Amount Taxable
 Amount that is included in transferor’s estate is the value of the interest that is
dependent on survivorship
 If interest is not contingent on surviving D, it is not taxed under §2037
 Example: D transfers property to trust. Directions: Pay income to A for life, remainder
to G if D dies before A. Otherwise, property reverts to D.
01. Only value of G’s remainder interest is taxable to D, it is the only interest here that
hinges on surviving; NOT value of reversionary interest that is included
02. We value reversionary interest only to see if 5% threshold is met
(viii) Intersection with other provisions
 §2035: transfers within 3 years of death
 §2033: reversionary interest may not be taxable under §2035 (e.g., value of reversion is
less than 5%) but §2033 could still be include value of reversionary interest itself
 §2038: a power to revoke vs. power to alter or amend are both reversionary interests
(powers to dispose of property); if either exists, a condition of survivorship exists, so
the two overlap
F. TRANSFERS WITHIN THREE YEARS OF DEATH §2035
1. General Rule
a. Rule
(i) Only TWO types of gifts within three years of death are pulled back into GE under
§2035(a):
 D’s gift of a life insurance policy on D’s life AND/OR
RR 72-282: doesn’t matter if the life insurance policy is then sold to a third party
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ESTATE AND GIFT TAXATION
 A gift of an interest in property that would have been included under §2036 – §2038
Post-gift appreciation is included as well
(ii) §2035(b) requires inclusion into GE any federal GT paid by D, attributable to gifts made
within three years of death
b. Notes
(i) Vast majority of ordinary, outright gifts of property involving no retained interests or
powers are subject to inclusion in GE, even if made within three years of death
(ii) current version of §2035(a) applies only if a person dies within three years after
transferring an interest in property (or relinquishing a power) which, had it been retained
until death, would have caused the underlying property to be included in the gross estate
under §§ 2036, 2037, 2038
2. Purpose
(i) Primary purpose is to prevent easy avoidance of the other “re-inclusion” provisions and
prevent people from ridding their estates right before death
3. Tax Inclusivity/Exclusivity
a. General Rule
(i) See (ii) under (1)(a)
b. Illustration
(i) Assume a flat E&G tax rate of 50%: D may give away 2/3 of his estate, and use
remaining 1/3 to pay the GT.
4. Value
(i) Entire Value will be included in GE if it is within element (2)—not just income interest but
the remainder in corpus as well
(ii) Entire LI policy is included also; proceeds at time of death (ignore FMV at time of transfer
to 3P)
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ESTATE AND GIFT TAXATION
1.
Gift Tax
The gift tax is imposed only on completed gratuitous transfers or transfers not
made for an adequate and full consideration, in money or money’s worth. The tax
is imposed whether the transfer is to a trust, whether the gift is direct or indirect
and whether the property transferred is real or personal, tangible or intangible.
See I.R.C. §§ 2501(a)(1), 2511. The rates start at 41% (for gifts beyond the
$1,000,000 unified credit), reaching a maximum of 55%. See I.R.C. § 2001. We
will discuss the rates in more detail later in the section.
In order to qualify as a gift, the transfer must give up “dominion and control” of the
property, thereby leaving the donor with no power to change its disposition.
See Treas. Reg. § 25.2511-2(b). The gift tax is considered “tax exclusive”
because the donee receives the property, unreduced by the gift tax paid by the
donor. For example:
2.
In 2019, Veronica gave $165,000 to her daughter, Olive, as a down payment on her
apartment that was just converted to a co-op. Since the gift is over the 2019 annual exclusion
amount of $15,000, Veronica must file a gift tax return (Form 709) to report the transfer. Only
the excess over the $15,000 annual exclusion amount ($150,000) would be considered a
taxable gift. The $150,00 will be applied to Veronica's lifetime unified credit. She will only have
to pay gift tax on it if her lifetime gifts exceed the unified credit amount. If the gift tax is $60,000
on this amount and Vernonica exceeds the lifetime unified credit amount, $60,000 will be
applied towards Veronica's total gift tax and she will be is required to pay this amount to the
IRS. The $60,000 would not be subtracted from the $165,000. Olive would still receive the full
amount of the gift.
The basis of property received as a gift (for capital gains purposes when the
donee later sells the property), remains the same as the donor’s basis (this is
called a “carryover” basis). See I.R.C. § 1015. An exception to this general rule,
however, is that the donee is entitled to step up the basis by the amount of gift tax
paid by the donor on the gift. For example:
3.
EXAMPLE (1): John buys a diamond ring for $3,000. Later, John gives the ring to
Christine. At the time of this transfer, the ring is worth $5,000. Two years later, Christine sells
the ring for $7,000. Since Christine received the ring as a gift, she takes over the “basis” of
John. Since John bought the ring for $3,000, his basis was $3,000. Thus, Christine’s basis is
also $3,000. Thus, she realized a capital gain of $4,000 based on her sale of the ring for
$7,000.
4.
EXAMPLE (2): John buys a Picasso for $400,000. A year later, he gives the Picasso to
Christine. At that time, it is worth $1,000,000. He pays $200,000 in gift tax on the transfer.
Although Christine takes John’s basis ($400,000), she can add the $200,000 that he paid in gift
tax to her basis. Thus, Christine’s basis in the property would be $600,000. Thus, if she sells it
for $1,500,000, she would realize a capital gain of $900,000.
5.
Taxable gifts
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ESTATE AND GIFT TAXATION
To calculate taxable gifts, the total exclusions and deductions are subtracted from
the total amount of the gifts given in a calendar year.
6.
Exclusions
For many years, the first $10,000 of a present interest in property transferred to a
donee during the calendar year was excluded. See I.R.C. § 2503(b). This is
commonly known as the “annual exclusion.” For transfers made after 1998, the
annual exclusion is indexed for inflation, rounded to the next lowest multiple of
$1,000. See I.R.C. § 2503(b)(2). For 2019, the annual exclusion is $15,000. For
example:
7.
EXAMPLE (1): In 2019, Stella gave her niece, Sharon, a cash gift of $8,000. She also
gave her cousin, Rusty, a used car, valued at $6,500. Neither gift would be considered a
taxable gift because they both are less than the $15,000 annual exclusion.
8.
EXAMPLE (2): In 2019, Stella gave her niece, Sharon, a cash gift of $16,000. She also
gave her cousin, Rusty, a new car, valued at $19,000. Only the first $15,000 of both gifts would
qualify as part of the annual exclusion. The balance, $1,000 and $4,000, respectively, would be
considered taxable gifts. So, Stella will have to file a gift tax return and pay taxes on the gifts
(subject to the unified credit, which will be discussed later on).
A husband and wife, who are both either U.S. citizens or residents, can give up to
$30,000 to the same person during a calendar year without making a taxable gift
because the gift is considered to be made one-half by each. See I.R.C. § 2513.
This is called gift-splitting. The election is made on a federal gift tax return (Form
709) for that year. For example:
9.
In 2019, Stella and husband, Jonathan, each gave her niece, Sharon, a cash gift of
$12,000, for a total of $24,000. Stella also gave her cousin, Rusty, a used car, valued at
$6,500. Jonathan gave him his old sailboat, valued at $15,500. None of the gifts would be
considered taxable gifts because Stella and Jonathan’s combined gifts to Sharon and Rusty are
less than the $30,000 annual exclusion for married couples who elect to gift split.
The annual exclusion is not the only potential exclusion in the gift tax area.
Another type of exclusion is tuition paid directly to a qualifying educational
organization on behalf of an individual. The student can be full- or part-time.
See I.R.C. §§ 170(b)(1)(A)(ii), 2503(e)(1). Any payments for items other than
tuition, however, such as room and board or books, would not qualify for this
exclusion. For example:
10.
In 2019, Stella paid $29,000 in tuition to Stanford University on behalf of her niece,
Sharon. In addition, Stella paid another $17,000 to the school to cover Sharon’s housing and
meals. The $29,000 payment for tuition would qualify for the education exclusion, so this gift is
not a taxable gift. The $17,000 payment for non tuition would not qualify for the education
exclusion. However, since Stella has not given any other gifts to Sharon that year, the first
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ESTATE AND GIFT TAXATION
$15,000 would qualify for the annual exclusion. The remaining $2,000 would be considered a
taxable gift.
In addition, the direct payment of expenses for medical care, on behalf of an
individual, to the person or organization providing medical services is also
excludable from the gift tax. Typically, these expenses would encompass
payment for doctors, hospitals, medical transportation and prescription drugs.
See I.R.C. §§ 213(d), 2503(e)(2)(B). For example:
11.
In 2019, Stella paid $18,000 directly to the hospital that provided medical treatment to
her niece, Sharon, after a car accident Sharon had during her freshman year at Stanford
University. The $18,000 payment for medical expenses would qualify for the medical exclusion,
so this gift is not a taxable gift.
12.
Marital deduction
Pursuant to the Economic Recovery Tax Act of 1981, gifts made after 1981
between spouses, who are U.S. citizens, are eligible for an unlimited marital
deduction. See I.R.C. § 2523(a). For spouses who are not U.S. citizens, only a
limited amount ($149,000 as of 2017) of the transfer amount qualifies for the gift
tax marital exclusion. The remaining balance would be considered a taxable gift
and taxed the same way as other taxable gifts. For example:
13.
Inez (French citizen) and Frederick (U.S. citizen) were married in 2007. To celebrate
their ten-year anniversary, Frederick bought Inez a $250,000 diamond ring. Since Inez is not a
U.S. citizen, only the first $149,000 of the ring’s value would be eligible for the gift tax exclusion.
The balance would be considered a taxable gift.
14.
Charitable deduction
An unlimited deduction is allowed for the value of property given for public,
charitable and religious uses. See I.R.C. § 2522. For example:
15.
Patricia died recently from cancer. Her will left all her assets, a total of $1,200,000 to her
daughter, Lydia. Lydia is very supportive of the American Cancer Society, so she donated
$25,000 to the Society, which is a qualified charity. Lydia’s donation qualifies for the charitable
deduction and is not subject to gift tax. Note that Lydia’s inheritance may be subject to estate
tax, however, as we will discuss later in the chapter.
16.
Computation of gift tax
Computing the proper gift tax amount is a bit complicated, since the gift tax is
cumulative over the lifetime of the taxpayer as well as progressive. The
progressive rates and cumulative computation of the gift tax result in taxing larger
gifts or gifts in succeeding years at higher and higher tax rates, up to the
maximum rate.
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ESTATE AND GIFT TAXATION
Once the taxable gift amount has been calculated, there are four basic steps for
computing the gift tax.
17. Add the amount of all taxable gifts made by the donor in all prior periods to the current gifts.
18. Determine a tax figure for all current and past taxable gifts at current rates, using the tax rates
found at I.R.C. § 2001(c). (that were presumably actually paid.)
19. Determine a tax figure for all past gifts without the current gifts, using the same tax rates.
20. Subtract the figure calculated in Step 3 from the figure calculated in Step 2 to determine the gift
tax on current gifts for the calendar year. See I.R.C. § 2502.
In computing the tax, all past taxable gifts must be accounted for, even if the
donor failed to file a gift tax return.
The federal estate and gift tax law provides a single unified rate schedule for both
estate and gift taxes. See I.R.C. § 2001. For 2019, the lifetime unified credit is
$11,400,000.
In other words, a person may give up to $11,400,000 of taxable gifts over the
course of his or her life and not pay any tax on them. But, those gifts will come off
the unified credit and may expand his or her ultimate estate tax liability.
42