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New Estate Planning Guidance for Decedents Who Passed in 2010

Notice 2011-66 provides guidance for executors of estates of decedents who died in 2010 regarding the time and manner of choosing to opt out of the estate tax have the carryover basis rules apply. Revenue Procedure 2011-41 provides safe harbor guidance regarding property acquired from estates of decedents who died in 2010. This audio stream provides an overview of the guidance and strategies to assist advisers and clients in making decisions.

New Estate Planning Guidance for Decedents Who Passed in 2010

If you prefer, you can read the entire transcript after the jump or download this and other audio webcasts from the Personal Financial Planning Section on AICPA.org.

Robert S. Keebler, CPA, MST, DEP, Partner, Keebler & Associates, LLP. Bob is a 2007 recipient of the prestigious Distinguished Estate Planners award from the National Association of Estate Planning counsels. From 2003 to 2006, Bob was named by CPA Magazine as one of the top 100 most influential practitioners in the United States. He is the past Editor-in-Chief of CCH's magazine, Journal of Retirement Planning and a member of CCH's Financial and Estate Planning Advisory Board. His practice includes family wealth transfer and preservation planning, charitable giving, retirement distribution planning, and estate administration. 

This audio webcast was originally recorded Aug. 12, 2011.

BOB KEEBLER:  On behalf of the PFP Division of the AICPA, this is Bob Keebler, and today we’d like to discuss Notice 2011-66 and Rev. Proc. 2011-41, two rulings released last Friday that both address 1022 of the Internal Revenue Code.  The critical issue here is how are we going to fill out Form 8939?  What elections do we need to make, and when does it make sense to elect 1022 treatment, and when does it make sense to actually pay the estate tax?  So those are things we’re going to look at.

Now, we will be conducting a comprehensive webinar within the month, so we’re working hard on that, to put that together for you.  But in the meantime we wanted to draw your attention to these two notices and walk you through them, trying to point out some of the more important changes.

So basically, the IRS issued a news release, and in the news release they confirmed that Form 8939 is due November 15th, 2011.  They also confirmed that Form 8939 cannot be extended.  Finally, they indicated they’re hoping to issue Form 8939 early this fall.  Now, the election out of the 2010 estate tax must be made on Form 8939, so it must be made on Form 8939.

Next, they issued a notice, Notice 2011-66, and that provides the time and manner in which the executor of an estate of a decedent who died in 2010 can elect out of the estate tax.  Now, not everyone is going to elect out.  There will be three groups of people.  Anyone with a true estate below $5 million will just allow the estate tax to be imposed, and they will take a comprehensive increase in basis under the old law, under Section 1014.  Anyone over $5 million will have a choice of either paying estate tax or not paying estate tax.  If you choose not to pay estate tax, for that privilege you’re not going to have a basis increase, and then we fall into the special basis allocation rules, which we’ll talk about a little bit today.

On the other hand, you might be at 5.5 million and might say, “I’m willing to pay a little bit of estate tax to get that complete step up in basis,” and that will be your choice, and then you will file a Form 706.  706 is due in November.  However, what we’re up against is, we can always extend the 706.  So watch your filing deadlines on the 706, but also which -- I’m sorry.  I think I misspoke.  It’s going to be due in September, but you can extend the 706.  So you’ll be able to extend the 706.

Now, interestingly enough, in Notice 2011-66, the Service spent a great amount of time and did a very nice job on generation-skipping transfer tax, and they basically are telling us how a donor can elect out of the automatic allocation of GST exemption for direct skips that occurred in 2010.  Many of you will recall, towards the end of the year there was a frenzy on individuals making very large direct skip gifts to their grandchildren because they did not have to use GST exemption.  The problem is, though, for gifts made between December 17th and December 31st, you are going to have to elect out of the automatic allocation of GST exemption.

Now, the due dates for the returns for the taxable year ending December 31st, 2010, to allocate or opt out of GST exemption depend on when the gift was made.  So you want to read the notice very, very carefully.  Now, in the notice they also address other issues associated with basis, depreciation and related matters.  Now -- So the notice applies to both executors and donors.

And then Revenue Proc. 2011-41, which I’ll speak about in a moment, provides a safe harbor with regard to the application of Section 1022.  There is not a lot in that Revenue Proc. that’s that bad or that distasteful, but there are some things where we may want to take contrary positions, and I think those will come out and we’ll have those ready to talk about by the webinar.

Now, one thing, interestingly enough, when you read these notices -- and please do -- the Service is anticipating people filing both 8939 and 706 -- and a 706.  So that’s interesting that maybe you have one party that wants to elect out of the estate tax, the other party doesn’t, and they both file their form hoping to beat the other one to the election.  The Service lays out what they’re going to do if you have two filings on the same return.  Basically, within 90 days they want you to cure that.

Now, if the IRS receives multiple forms, then what they’re going to do is, if you have not cured that, the IRS will determine whether or not you’re going to elect to pay the estate tax.  So that may not be the best position to be in.  But there will certainly be families -- and I think it’s going to be a very -- relatively small percentage of the 7,000 returns that will be filed -- where people cannot agree, and there will be litigation that comes from that.

Now, when the Service does allocate basis, they’re indicating they’d probably do that on a pro rata basis based on the amount of unrecognized appreciation.  So that’s very interesting.  We have some great examples in the webinar which I’ll walk you through.  Hard to see mathematical examples, of course, in this format.

Now, what’s going to happen is the executor is going to have to report and value all property other than cash and items of IRD.  The rules for valuation, the notice confirms, will be the willing buyer/willing seller standard.  Now, the executor must also include a property acquired by the decedent within three years of death, and there’s going to be special rules for nonresident aliens.  If you’re representing someone who died who was a nonresident of the United States but they had U.S. property, read these rules very carefully.

Now, within 30 days of filing the Form 8939, you’re also going to have to provide a statement to each individual receiving property from the estate or from the trust.  That is a very -- That’s going to be an interesting requirement.  I think most people, if they’re smart, they’re going to get that done way beforehand and try to get the beneficiaries to agree on how to allocate GST exemption.

The time for filing the 8939, again, is November 15th.  No extensions.  Interestingly enough, the government is taking the position that there are no protective elections or conditional Form 8939s to be allowed.  Imagine you represent someone with land on the outside of town.  Three appraisers are giving you three vastly different numbers.  You do not know whether to elect out of the estate tax or not or whether to take the step up in basis.  We’re going to have to look at and evaluate whether or not we can still do protective elections.  The government says you can’t.  That doesn’t -- They’re only an administrative agency.  They are not Congress, and they’re not the courts, and we’re going to have to look to whether there is judicial authority for a protective election.

Now, one piece of good news that came out of this is that there is going to be a procedure for amending the spousal basis increase.  Remember now, we can increase our basis by a million-three for property passing to anyone other than your spouse.  For property passing to your spouse, you can increase your basis by $3 million.  If all your property passed through your spouse, your spouse can increase her basis by 1.3 million plus 3 million.

One of the nice things that came out of here is there is going to be a procedure for amending the return for spousal basis increases.  So rather than go through those rules with you in detail, look at those rules if they apply to your clients.

Now, for the GST, one thing we have to understand is the GST rate was zero in 2010.  But the generation-skipping transfer tax continues to apply.  That means if you created a trust that’s going to be a multigenerational trust -- more than just a direct skip to your grandchildren -- you’re going to have to allocate GST exemption, and that will be done either on a Form 709, the gift tax form we’ve all filed before, or on Form 706, or finally, on Schedule R of Form 8939.

If you just make a large transfer to your grandchildren before December 16th, 2010, you will be deemed to have elected out of the automatic allocation of GST exemption.  That’s good, okay?  That’s a very good thing, favorable to practitioners.

Watch out for this, though.  Be very careful that you’re dotting your I’s and crossing your T’s here.  Filing deadlines, again, if you have an individual that needs to file this and they made a gift before December 17th, their filing deadline goes all the way to November 15th, even a gift tax return.  On the other hand, if the gift was made between December 17th, 2010, and December 31st, 2010, there, that federal gift tax return was due on April 18th, 2011.  I have spoken to the Service on this, though, and the notice and my conversations do confirm that 9100 relief will be available, or should be available.

Okay, now, the GST rules continue to apply without regard to the 1022 election.  That’s kind of the heart of Notice 2011-66.  Now let’s jump over to Rev. Proc. 2011-41.  Again -- And again, you want to really -- you want to read these carefully.

Now, Rev. Proc. 2011-41 is called safe harbor guidance.  Again, in looking at this, it is not clear to me where the safe harbor is.  It’s a good set of rules.  It’s very well written.  It’s very thorough.  The examples are good.  But I do not see anything the Service is giving up by you complying with their rules.  So there will be controversies here, and I’ll talk about some of where those controversies might be.

Now remember, you cannot allocate the increase in basis to IRD or to a QTIP trust.  I died ten years ago, my wife died in 2010.  The assets in my QTIP trust are not eligible for the increase.  If my dad died ten years ago and I died in 2010 and I held a general power of appointment trust, that is not eligible for the basis increase.

They also talk about 2036 property on page 7 of the Rev. Proc.  I take that to read that perhaps you can’t allocate basis to 2036 property.  We’re going to have to take a hard look at that as time goes on.

Now, on page 8 of the Rev. Proc., they give excellent examples of QPRTs for individuals that died in 2010.  If you had a QPRT without reversion, then you cannot allocate the increase in basis.  However, if you have a QPRT with reversion, you’re going to be able to allocate the basis increase.  Read those examples quickly.  If you represent anyone that has a QPRT and they died in 2010, those examples will tell us exactly how to handle this.

Now, Rev. Proc. 2011-41 also talks about the basis increase, confirms it’s a million-three for property passing to anyone, $3 million for property passing to your spouse, plus you get to add in unrealized losses, realized losses and net operating losses.

Now, the spousal basis increase for property is available, but interestingly enough, at first we thought that you would not be able to increase your basis until the property actually passed to your spouse, not during the estate administration.  This Rev. Proc. does give us some relief, perhaps, in that it says the spousal basis increase is going to be available for property sold during the estate administration provided you certify that that property is distributed out to the spouse and you provide a copy of the person’s will or trust.  You’ll have to do that on Form 8939.

Now, read the examples.  The Service has three or four examples in the Rev. Proc., and they go through in detail how they would like you to do that mathematically.  So examples 4, 5 and 6 provide the methodology to determine these allocations, and we’re going to cover those in -- We’ll cover those a little bit more when we do our webinar.

Now, the spousal basis property increase may also be allocated to a charitable remainder trust if the spouse is a sole beneficiary of the charitable remainder trust, sole life estate beneficiary.  I don’t know how many times that will happen, but that’s a good rule.  I think they have the law right on that.

Basis cannot exceed the fair market value of property.  Remember, when you’re doing this, your basis cannot exceed the fair market value of the property.

Now, one thing that you want to do, this Form 8939, we really do not know when it’s going to come out.  There is not a hard deadline.  What I would do right now, and what we’re doing for our clients -- So we have actually two clients that died and are going -- last year, which is very unusual as far as that we’d have two wealthy clients like that die in the same year.  But they have to file the Form 8939 and elect out.  We’re also consulting with dozens of lawyers and CPAs across the country on these issues, and what I’m suggesting to everyone is that we actually try to prepare the 8939 best you can, based on the old form, using Excel spreadsheets.  And then when the form does come out, we’ll be able to drop that information into a Form 8939.

Now, on page 4 of the notice -- or the Rev. Proc., excuse me -- they basically provide a real strong framework for how the community property rules work.  Now, the problem is, remember, under 1014, for those of you in community property states, we always relish that double step up at basis.  But it’s also a double step down in basis, and this ruling basically confirms a problem that I suspected might happen, is that both sides of community property could receive a step down in basis.

So if my fair market value’s $100, but my basis is 150, and I die, my wife and my wife’s half are both going to take a $100 basis.  They both take a $100 basis.  We’ll go into this in depth, but I think that’s something you need to look out for, especially -- You may have already filed 2010 income tax returns for the surviving spouse not realizing that that basis changed.

Now, the notice and Rev. Proc. do confirm that the tax character of inherited property is going to remain the same.  That means there will be depreciation recapture later when you sell this property.  It also means, if you follow this notice and the Rev. Proc., that you’re going to have a split depreciation period.  Let me walk you through what I think that means.

Let’s say you had a building, you bought it in 1990.  You’ve been depreciated, and then you die in 2010, and the property received a step up in basis because of the allocation of $1 million.  That means that for the initial basis of the property, you’re going to take a carryover basis, and you’ll continue to depreciate it based upon the methods you were using when you acquired the property in 1990.  For 2010, you would start again, like you just acquired that second piece of property, the part you allocated to, and you would depreciate it from that new -- from the basis you allocated.  So that can be kind of -- that can be very complicated.  It’s something, certainly, that you want to make sure you’re addressing long before you actually put the returns together.

Page 22 of the notice addresses the passive loss rules, which we’re going to cover in detail in the webinar.  I’m trying to talk to Carol Cantrell about that, and she’s just an expert on these passive losses.  I believe this is going to be one place where taxpayers may be able to approach it differently than what the service has put in the ruling, but we’re going to have to explore that.  We’ll be ready to give you some guidance on that.

Now, on page 25, page 25, the Rev. Proc. talks about recognition of gain and satisfaction of pecuniary bequests.  Let me refresh your memory on this.  If my will says that dollar amount which results in no imposition of estate tax which used to be -- which would be $5 million, the law says that just because you didn’t receive a basis step up, you’re not going to have to recognize gain on funding such a transfer.

However -- this is the important part -- if the property -- Let’s say on the date of death the property was at $100, and it jumped up in value to 155.  When you fund that pecuniary bequest, you’re going to have to recognize $55 of gain.  But even if your basis was zero, you wouldn’t recognize the original gain from zero to the date of death value.  That would stay at zero, and you wouldn’t have to pick that up.

Now, the Rev. Proc. also provides extensive examples for nonresident aliens.  The Service did a very nice job with these examples.  So I think it’s something that you’re going to want to look at.  Read the Rev. Proc. and read the notice very carefully, even if you only represent one person in this situation.  What you want to do right now is start gathering all the data, prepare the returns in Excel, and be ready when the Service comes out with this form.  Again, there’s no guarantee exactly when the form’s going to be issued.

So we’re very much looking forward to keeping you up to date on this, working hard to bring you knowledge as it develops.  I am in touch with many people that are looking at the same time, and the AICPA will put together an all-star panel to keep you up to date on this.

So on behalf of the PFP Division of the AICPA, we’d like to thank you for joining us today and wish you luck, helping your clients with Form 8939.

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