The IRS, as promised in the regulations issued to implement the portability election under IRC §2010, has now issued a revised Revenue Procedure (Revenue Procedure 2016-49) which modifies the conditions under which a QTIP election will be deemed invalid that were contained in Revenue Procedure 2001-38.
The qualified terminable interest property (QTIP) election under IRC §2056(b)(7) is designed to allow a trust to be created to hold property passing to a surviving spouse with an interest that terminates at his/her death, with ultimate disposition controlled by the trust document itself. When the election is made, the surviving spouse agrees to treat the property as part of his/her estate despite having an interest that normally would be considered solely a life estate. With that election in place, the property qualifies for the unlimited marital exclusion at the first death.
In 2001 the IRS issued Revenue Procedure 2001-38 to provide automatic relief when an estate erroneously made a QTIP election for an estate where it was not necessary to reduce the estate tax to zero. The IRS had noted that some estates would accidentally make the elections on such trusts, which would cause them to be included in the surviving spouse’s estate. In such a case, the mistaken election could very lead to the estate of the surviving spouse owing estate tax when none would have been due had the election not been made.
In the old ruling, a QTIP election would be considered wholly or partially invalid automatically to the extent the election did not reduce the estate tax at the first death.
The arrival of the portability provisions under IRC §2010 created a situation where it very often would be desired to be able to put assets in a trust that insured the ultimate disposition at the second death would continue to be as it existed at the first death (giving assurance to each spouse that the other spouse could not redirect the assets following the first death), but to still have those assets included in the estate of the second spouse to die in order to obtain the income basis adjustment under IRC §1014 at the second death.
When a portability election has been made, the surviving spouse’s estate is allowed to add to the decedent’s normal estate tax exclusion any unused exclusion (DSUE amount) for the last predeceased spouse of the decedent (assuming that estate made the portability election). Thus, a total of well over $10,000,000 worth of assets can be passed tax free at the second death—and those assets included in the estate of the second to die will obtain a basis equal to fair market value at that second death.
Under the new Revenue Procedure, the IRS will treat QTIP elections that do not reduce the estate tax as void if the estate takes certain actions unless the estate has made a portability election under IRC §2010.
Specifically, the new ruling provides that an election will continue to be treated as void if the following conditions are met:
- The estate's federal estate tax liability was zero, regardless of the QTIP election, based on values as finally determined for federal estate tax purposes, thus making the QTIP election unnecessary to reduce the federal estate tax liability;
- The executor of the estate neither made nor was considered to have made the portability election as provided in § 2010(c)(5)(A) and the regulations thereunder; and
- The requirements of section 4.02 of this revenue procedure are satisfied (requiring the estate to file a revised Form 706 and notify the IRS the election should be treated as void)
The election will not be treated as void if:
- A partial QTIP election was required with respect to a trust to reduce the estate tax liability and the executor made the election with respect to more trust property than was necessary to reduce the estate tax liability to zero;
- A QTIP election was stated in terms of a formula designed to reduce the estate tax to zero. See, for example, § 20.2056(b)-7(h), Examples 7 and 8;
- The QTIP election was a protective election under § 20.2056(b)-7(c);
- The executor of the estate made a portability election in accordance with § 2010(c)(5)(A) and the regulations thereunder, even if the decedent's DSUE amount was zero based on values as finally determined for federal estate tax purposes; or
- The requirements of section 4.02 of this revenue procedure are not satisfied (the revised Form 706 and notice regarding the election being void are not followed).