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“A DING trust (standing for Delaware Incomplete Non-Grantor trust) is a strategy designed to eliminate State income taxes on the Grantor’s investment income by having the Grantor transfer his investments to a trust domiciled in a non-tax state which transfer is, on the one hand, an incomplete gift and, on the other hand, not made to a grantor trust. After a hiatus of some six years, the IRS has now ruled, in PLR 201310002 in favor of a DING trust.

There is no reason to believe the IRS would reissue the 2006 PLR, wherein all beneficiary members of the Power of Appointment Committee were replaced upon death. Cautious taxpayers will model their future trusts on the fact pattern of the 2013 PLR and will be exceedingly sensitive to the number of members of the Distribution Committee, their power to distribute to themselves and whether a member is to be replaced if he or she predeceases the grantor. A revenue ruling from the IRS dealing with the issue raised by the 2007 News Release would be most welcome and helpful; the 2013 PLR does not give any hint, one way or the other.”

Now, Bill Lipkind provides members with commentary on PLR 201310002, an important development dealing with a powerful planning technique, the Delaware Incomplete Non-Grantor trust.

William D. Lipkind is Chair of the Tax Department of Lampf, Lipkind, Prupis & Petigrow, A Professional Corporation, West Orange, New Jersey, and New York, New York. The Law Firm concentrates its practice in the representation of high net worth individuals and entrepreneurs. It is especially active in domestic and international income and estate tax planning, wealth preservation, business transactional matters and asset protection. Bill has received degrees from Cornell University (B.A. 1964); Harvard University (J.D. 1967); and New York University (LL.M. in Taxation, 1972). He is the author of: “Protecting Assets from Creditors,” The CPA Journal, September, 1993: “On The Road Offshore; The Struggle Between Protection of Assets and Fraudulent Conveyances,” N.J. Lawyer, July/August, 1992; and “Gallagher Revisited: The Functionally Unrelated Corporate Reorganization,” 13 Villanova Law Review 487, 1968. Bill has been named a Super Lawyer and one of New Jersey’s Top Attorneys for the past five years. He has lectured extensively before professional and lay groups and has both been featured on television and quoted in financial publications.

Bill wishes to thank Jonathan Blattmachr for his review and comments, but notes that any errors are the author’s responsibility.

EXECUTIVE SUMMARY: A “DING” trust (standing for Delaware Incomplete Non-Grantor trust) is a strategy designed to eliminate State income taxes on the Grantor’s investment income by having the Grantor transfer his investments to a trust domiciled in a non-tax state which transfer is, on the one hand, an incomplete gift and, on the other hand, not made to a grantor trust. After a hiatus of some six years, the IRS has now ruled, in PLR 201310002 (the “2013 PLR”)[1] in favor of a “DING” trust.

The 2013 PLR seems, in large part, to be consistent with the immediately prior PLR in this area. However, unlike the prior ruling, the trust in the 2013 PLR contains a reserved power for the grantor to make lifetime distributions to his issue in a non-fiduciary capacity subject to a HEMS ascertainable standard. The 2013 PLR states that in the fact pattern presented the beneficiary members of the Distribution Committee do not possess, for gift and estate tax purposes, general powers of appointment (at least as long as a member is not replaced in the event he predeceases the grantor) either for distributions back to the Grantor (as did the immediately prior PLR), or for distributions to other beneficiaries (a ruling not in the immediately prior PLR). Not stated, but of necessity, the trust in the 2013 PLR must be domiciled in a state other than Delaware.

FACTS:

In the 2013 PLR, the IRS ruled that (i) the Grantor (who with his four sons constitute the Distribution Committee) would not be deemed the owner of any portion of the trust under IRC §§ 673, 674, 675, 676 and 677[2]; (ii) no other members of the Distribution Committee would be deemed an owner of any portion of the trust under IRC §678; (iii) the transfer of property by the Grantor to the trust would not be a completed gift; (iv) a distribution of property by the Distribution Committee to the Grantor would not be a completed gift by any member of the Distribution Committee; and (v) a distribution of property by the Distribution Committee to any beneficiary of the trust other than the Grantor would not be a completed gift by any member of the Distribution Committee other than the Grantor. In other words, the Grantor made an incomplete gift, the trust is not a grantor trust and no member of the Distribution Committee, excluding the Grantor, has a general power of appointment for gift or estate tax purposes.

The “DING” trust strategy (DING standing for Delaware Incomplete Non-Grantor) contemplates a taxpayer in a high state income tax jurisdiction transferring a portfolio to a trust domiciled in a no state income tax jurisdiction (i.e., Delaware) so that if the trust is not a grantor trust and the transfer of assets thereto does not constitute a completed gift, the taxpayer, with no federal income or gift tax advantages or risks, can escape state income taxes on his portfolio income, at least to the extent the income is not distributed to beneficiaries.

Seven years ago, in PLR 200612002 (hereinafter, the “2006 PLR”), the IRS ruled (and there had been a number of prior rulings) that the trust was not a grantor trust, that the gift by the grantor thereto was an incomplete gift, and that the named members of the Power of Appointment Committee[3] did not possess general powers of appointment in the event distributions were made to the grantor (the ruling being silent on the question of distributions to beneficiaries other than the grantor). The Power of Appointment Committee consisted of the Grantor’s sibling and another person, both of whom were discretionary beneficiaries of the trust during the Grantor’s lifetime; the Grantor was not a member. If either member of the Power of Appointment Committee died prior to the Grantor, then that member had to be replaced so that the Committee always had two serving members.

The Power of Appointment Committee had the sole power to direct distributions of income and principal to the Grantor, her issue, and certain other beneficiaries. The Power of Appointment Committee acted in a non-fiduciary capacity and could act either unanimously or by the Grantor and one member of the Power of Appointment Committee. The Grantor possessed a broad special testamentary power of appointment in favor of anyone other than herself, her creditors, her estate or the creditors of her estate. In default of her exercise of her testamentary power of appointment, the assets passed, upon her death in part to charity and the balance to her spouse and issue.[4]

PLR 200729025 (the “2007 PLR”), dated April 10, 2007, was similar to the 2006 PLR except that the Power of Appointment Committee consisted of three, not two members. In the event one Committee member predeceased the Grantor, he would not be replaced. However, should two members predecease the Grantor, that decedent would be replaced so that the Committee always consisted of at least two members. The IRS ruled in the 2007 PLR similarly to the 2006 PLR, except that it added the statement “Accordingly, during the period the Power of Appointment Committee consists of B, C, and D, they will not be treated as making a taxable gift if Trust income or corpus is distributed to A [the Grantor] under the terms of the Trust”. The IRS did not rule with respect to distributions to persons other than the Grantor.

Almost immediately following the 2007 PLR, in IR-2007-127[5] the IRS announced (the “2007 News Release”) that it was reconsidering “a series of private letter rulings” as to whether beneficiaries who direct distributions of trust income and corpus possessed general powers of appointment. In the announcement, they suggested that the holdings in the applicable private letter rulings (the 2006 PLR was undoubtedly among the rulings they were contemplating), were inconsistent with two extant Revenue Rulings[6] because the beneficiary members of the Power of Appointment Committee were to be replaced in the event one of them died prior to the Grantor.

The 2007 News Release invited comments. Many comments were submitted: comments agreed and disagreed with the inconsistency suggested by the News Release; agreed and disagreed with the holdings in the various private letter rulings; and offered a variety of recommendations as to potential clarifying revenue rulings and potential drafting solutions. Regardless, no further DING rulings were issued until the 2013 PLR.

In 2008 the IRS invited public comments on a proposed Revenue Ruling[7] concerning Private Trust Companies. This generated speculation about whether the issuance of DING rulings would also be subordinated to the actual issuance of this ruling.

Then, in a Chief Counsel Advice Memorandum[8] dated in 2011, the IRS held that a transfer to an irrevocable trust in which the grantor retained a testamentary power of appointment but no lifetime beneficial interest was a completed gift with respect to the life interest, though an incomplete gift with respect to the remainder. This CCA led to a plethora of expert speculation on whether the IRS was establishing new criteria for the determination of whether a transfer constituted a completed gift or an incomplete gift. In 2012, the IRS also announced it was considering issuing regulations concerning decanting.[9] No ruling, including the 2013 PLR, discusses the effect of decanting.

And now the IRS has issued the 2013 PLR.

Facts of PLR 201310002

Interestingly enough, the facts of the 2013 PLR (save one) are essentially similar to the facts of the 2007 PLR. Thus, in the 2013 PLR the Grantor established an irrevocable trust; during his lifetime all distributions of income and principal may be made by the Trustee to the Grantor and/or the Grantor’s issue, but solely at the direction of the Distribution Committee; the Distribution Committee consists of the Grantor and his four sons and functions in a non-fiduciary capacity; decisions of the Distribution Committee may be effectuated either by the Grantor and a majority of the other members, or unanimously by all members other than the Grantor; and the Grantor possesses a broad special testamentary power of appointment.

Upon a beneficiary member of the Distribution Committee ceasing to serve, that member is not replaced provided that the Distribution Committee must always have at least two members in addition to the Grantor. In other words, if three of the four sons predecease the Grantor, then upon the death of the third son, he is replaced. That, of course, raises the question, not answered in the 2013 PLR, of whether from and after the death of the second son, the surviving two sons have general powers of appointment.

Differing from the 2006 PLR and the 2007 PLR, the Trust in the 2013 PLR also provides that the “Grantor, in a non-fiduciary capacity, may, but shall not be required to, distribute to any one or more of Grantor’s issue, such amounts of the principal (including the whole thereof) as Grantor deems advisable to provide for the health, maintenance, support and education of Grantor’s issue…(the “Grantor’s Sole Power”).” This provision tracks IRC §674(b)(5).

An analysis of the 2013 PLR leads to a number of conclusions.

First: It now appears that the IRS will not withhold further issuance of DING rulings merely on account of their pending ruling on Private Trust Companies or their contemplated regulations on the consequences of decanting.

Second: Non-Grantor Trust Status. The addition of the Grantor’s Sole Power (a power clearly permitted under IRC §674(b)(5)) does not alter the status of the trust as a non-grantor trust. Accordingly, reaching a conclusion that the trust is not a grantor trust was just as easy and self-evident in the 2013 PLR as it was in both the 2006 PLR and the 2007 PLR. The language of the 2013 PLR adds nothing to our collective understanding of the IRS perception of what constitutes a non-grantor trust. Each beneficiary member of the Distribution Committee is an “adverse party” within the meaning of IRC §672(a). Accordingly, the Grantor does not possess any of the powers under IRC §§ 674, 676 or 677 which would make the trust a grantor trust nor does the Grantor possess any of the powers described by IRC §675.

Third: Incomplete Gifts and General Powers of Appointment. Notwithstanding the 2007 News Release, the plethora of comments and suggestions emanating therefrom and the passage of 5 years, the 2013 PLR does not manifest any new or changed views from the IRS on what constitutes an incomplete gift (excluding herefrom the discussion below concerning the Grantor’s Sole Power) and whether beneficiary members of the Distribution Committee possess, at some point, general powers of appointment. In the 2013 PLR, the IRS must have concluded that, for Federal gift and estate tax purposes, the beneficiary members of the Distribution Committee, at least prior to there being only two members, did not possess general powers of appointment but that the Grantor, in effect, did.

To understand the Ruling, one needs to analyze separately the application of IRC §§ 2514 and 2041 to the Grantor on the one hand and to the beneficiary members of the Distribution Committee on the other. To make the analysis even more complex, one must be sensitive to the fact that the IRS interprets the phrase “substantial beneficial interest” which would be “adversely affected” differently for income tax purposes (i.e., IRC §672(a)) than for gift and estate tax purposes (i.e., IRC §§ 2514 and 2041).[10]

Pursuant to the terms of the trust in the 2013 PLR, income and principal may be distributed to the Grantor and the other beneficiaries either (x) at the direction of the Grantor and a majority of the beneficiary members of the Distribution Committee (the “Grantor’s DC Power”) or (y) at the unanimous direction of all the beneficiary members of the Distribution Committee.

Grantor, Grantor’s Powers and General Powers of Appointment

Under the authority of IRC Reg. §25.2511-2(c), IRC Reg. §2514-3(b)(2) and Rev. Rul. 79-63, 1979 C.B. 302, because the beneficiary members of the Distribution Committee are not takers in default of the Grantor’s failure to exercise the Grantor’s DC Power, and because the beneficiary members are mere permissible appointees under the Grantor’s testamentary power of appointment, they are not deemed to have a “substantial interest” which is “adverse” to the Grantor.

Accordingly, because pursuant to the Grantor’s DC Power, the Grantor with the consent of a majority of the other members of the Distribution Committee may distribute income and principal to himself and because those members are not “adverse” for gift and estate tax purposes,[11] pursuant to IRC §2514(c)(3)(B) and IRC §2041(b)(1)(C)(ii) the Grantor does possess (for gift and estate tax purposes, not for income tax purposes) such “dominion and control” which, conceptually, is the equivalent of a lifetime general power of appointment.[12] The Grantor also possesses a testamentary broad special power of appointment. Once one concludes that the Grantor has both the equivalent of a lifetime general power of appointment and a testamentary broad special power of appointment, the conclusion that the gift is incomplete is not at all surprising. Indeed, Estate of Sanford v. Commissioner of Internal Revenue, 308 U.S. 39 (1939) requires the conclusion. This analysis does not, and the corresponding analysis of the IRS in the 2013 PLR did not, require any consideration of the Grantor’s Sole Power under IRC §674(b)(5).

Beneficiary Members of Distribution Committee and General Power of Appointment

IRC §2514(c)(3)(A) provides that a power exercisable in conjunction with the grantor is not a general power of appointment. Accordingly, no beneficiary member of the Distribution Committee has a general power of appointment in the context of the Grantor acting with a majority of the Distribution Committee.

However, the beneficiary members of the Distribution Committee can also act without the consent of the Grantor if they act unanimously. IRC §2514(c)(3)(B) provides that the power to act is not a general power of appointment if it is exercisable only with a person having a substantial interest in the property subject to the power which is adverse to the exercise by the power holder.

In the 2007 News Release, the IRS questioned whether the results in PLRs such as the 2006 PLR were inconsistent with the holdings of the two Revenue Rulings cited in Note 6. Those two Revenue Rulings interpret IRC Reg. §25.2514-3(b)(2) to hold that where the power holders are not replaced upon death, the remaining power holders are adverse and the power is not a general power of appointment, but where they are replaced, then the remaining power holders are not adverse and the power is a general power of appointment.[13]

The 2007 News Release speculated that the PLRs may be distinguishable from the Revenue Rulings because the “the grantor’s gift to the trust is incomplete since the grantor retains a testamentary special power of appointment.” The News Release does not explain how in the case of an incomplete gift, the Grantor’s retention of a testamentary power of appointment would make power holders adverse one to another and thereby avoid having general powers of appointment.

The 2013 PLR does not provide any insight into current IRS views on this issue because, consistent with the Regulations, the Revenue Rulings, and the 2007 PLR, a beneficiary member of the Distribution Committee is not replaced upon his death prior to the Grantor’s, at least not until the third of them dies.

Fourth: The Grantor’s Power to Distribute Corpus by an Ascertainable Standard. The remaining item to be considered in the 2013 PLR is whether the inclusion of the Grantor’s Sole Power, (i.e., the IRC §674(b)(5) power) was necessary for the ruling.

In the 2013 PLR, having already concluded that pursuant to the Grantor’s DC Power, the transfer of property by the Grantor to the Trust would be “wholly incomplete” for Federal gift tax purposes, the IRS nonetheless went on in the succeeding paragraph to discuss the Grantor’s Sole Power and to conclude that said power gave the “Grantor the power to change the interests of the beneficiaries” and thus it, too, made transfers to the Trust “wholly incomplete”. Although the Grantor’s Sole Power relates only to principal, and not at all to income, the IRS nonetheless held the transfer to be “wholly incomplete”. This holding appears to be in addition to and separate and apart from the holding reaching the same conclusion with respect to the Grantor’s DC Power.[14]

If the Grantor’s Sole Power was, under some undisclosed theory, necessary for the Ruling, then the Ruling presents many problems with a number of state trust statutes. Because the DING trust included the grantor as a potential beneficiary, the trust is characterized as a self-settled spendthrift trust.

If, for example, the trust were domiciled in New York, then the spendthrift provisions would not be applicable to the grantor and the grantor’s creditors would have full access to the trust. In such a case, while there might be an incomplete gift, the IRS would characterize the trust as a grantor trust, thereby defeating the strategy. However, in many of the states which both permit self-settled spendthrift trusts and have no state income tax, the statutes governing self-settled spendthrift trusts do not permit the grantor to retain a lifetime power of appointment[15].

Were he to retain such a power in those states, then the trust would not qualify as a self-settled spendthrift trust providing the grantor-beneficiary with creditor protection. In short, in those states, the trust would be a grantor trust. For the forgoing reason, although the 2013 PLR does not indicate the state in which the trust is domiciled, it clearly cannot be Delaware or any other state with a similar statute.

Note that the Grantor’s Sole Power only gives the Grantor power over corpus. If its inclusion was necessary to cause the gift to be incomplete, then the analysis that the Grantor’s DC Power renders a transfer “wholly incomplete” would be questionable (an analytically inconceivable result).

Further, although the text of the ruling seems to say that the Grantor’s Sole Power in and of itself renders the transfer “wholly incomplete”, there are no provisions in the Trust (ignoring for this purpose the Grantor’s DC Power), nor does there appear to be extant authority (with recent commentators apparently taking differing positions), for the transfer to be incomplete as to the lifetime income interest.[16]

Accordingly, one is tempted to conclude that the inclusion of the Grantor’s Sole Power was not necessary for the PLR. Perhaps the power was included for reasons unique to the Grantor’s personal circumstances; perhaps it was included merely as a gloss to enhance grantor retained rights and powers.

On the other hand, perhaps the inclusion of the ruling on the Grantor’s Sole Power means that, for ruling purposes at least, the IRS is requiring that a grantor retain more rights than were retained in either the 2006 PLR or the 2007 PLR; perhaps the inclusion was a signal that the IRS considers a grantor retained lifetime limited power of appointment over corpus (and not income) to be, in and of itself, sufficient to make a gift wholly incomplete.

Conclusion
The 2013 PLR tells us that the IRS is again willing to issue rulings on DING trusts; intrepid taxpayers will undoubtedly continue to create DING trusts in states such as Delaware and without the Grantor’s Sole Power. There is no reason to believe the IRS would reissue the 2006 PLR, wherein all beneficiary members of the Power of Appointment Committee were replaced upon death.

Cautious taxpayers will model their future trusts on the fact pattern of the 2013 PLR and will be exceedingly sensitive to the number of members of the Distribution Committee, their power to distribute to themselves and whether a member is to be replaced if he or she predeceases the grantor. A revenue ruling from the IRS dealing with the issue raised by the 2007 News Release would be most welcome and helpful; the 2013 PLR does not give any hint, one way or the other.

CITE AS: LISI Estate Planning Newsletter #2076 (March 12, 2013) at http://www.leimbergservices.com. Copyright 2013 Leimberg Information Services, Inc. (LISI). Reproduction in Any Form or Forwarding to Any Person Prohibited – Without Express Permission.

CITATIONS: [1] Concurrently, four other PLRs were issued, one for each of the four sons of the Grantor. These are PLRs 201310003, 201310004, 201310005, and 201310006.

[2] While ruling that the trust did not include provisions that would cause IRC §675 to be applicable with respect to the Grantor, there was an exclusion under that section with respect to the actual operation of the trust, stating that such a determination was a question of fact and could not be made prior to an audit of applicable income tax returns. This exclusion is customary.

[3] The phrase “Power of Appointment Committee” as used in the 2006 PLR serves the same function as the “Distribution Committee” in the 2013 PLR.

[4] Some commentators speculated that the import of rulings such as the 2006 PLR was that a gift would be incomplete if the grantor were a discretionary beneficiary of income and corpus during his lifetime and possessed a testamentary power of appointment exercisable upon his death. The potential income interest was sufficient, so the thought went, even though the grantor’s beneficial interest was solely at the discretion of income tax adverse persons. However, such an analysis did not focus upon the holding in the ruling that with respect to the Grantor, the members of the Power of Appointment Committee did not have a “substantial adverse interest” for purposes of IRC §2511.

[5] News Release IR-2007-127; 2007 IRB 589 (July 9, 2007)

[6] Rev. Rul. 76-503, 1976-2 C.B. 275 and Rev. Rul. 77-158, 1977-1 C.B. 285.

[7] Notice 2008-63, 2008-2 C.B. 261

[8] LTR 201208026 (September 28, 2011)

[9] In Notice 2011-101, 2011-2 C.B.932, the IRS invited comments from the public with respect to the income, gift, estate tax and GST tax consequences with respect to decanting.

[10] For an excellent recent article discussing the complexities surrounding powers of appointment and observing on the lack of symmetry between the income tax and gift and estate tax provisions, see Diana S.C. Zeydel, When is a Gift to a Trust Complete—Did CCA 201208026 Get It Right?, 117 J. Taxation 142 (September, 2012).

[11] Obviously, the beneficiary members of the Distribution Committee are “adverse” to the Grantor in the sense that acting unanimously, they can distribute 100% of the trust fund to someone other than the Grantor and concurrently impose on the Grantor a substantial gift tax. Regardless until they exercise such power the Grantor retains sufficient powers such that his transfer to the Trust is incomplete. What is important here is that the transfer does not become complete until the power is exercised, not that it merely exists.

[12] See Jonathan G. Blattmachr, Mitchell M. Gans & Diana S. C. Zeydel, World’s Greatest Gift Tax Mystery: Solved, 115 TAX NOTES 243 (2007) for a discussion, under “Meaning of Power of Appointment”, of the IRC’s characterization of a reserved power that would, for local property law purposes, be characterized as a power reserved by the creator of the power for himself.

[13] A discussion of the logic, policy and reasonableness of those two Revenue Rulings is beyond the scope of this commentary.

[14] This appears to be a stand alone conclusion. If one were to conclude that the Grantor’s Sole Power alone in and of itself rendered a transfer incomplete, then if the grantor were indifferent to being a potential beneficiary, it would appear that he could create a DING without a Distribution Committee, without a retained testamentary power of appointment, and with a single non-adverse trustee. But see the text of this newsletter accompanying endnote 16.

[15] See, e.g., §3570(11)b.2 and §3571 of the Delaware Qualified Dispositions in Trust Act.

[16] See Joseph Goldstein, Transferee, et al v. Commissioner of Internal Revenue, 37 T.C. 897 (1962). Compare Diana Zeydel, supra, note 10, with Jeff Pennell on Chief Counsel Advisory 201208026, LISI Estate Planning, Newsletter #1937 (March 7, 2012).

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Join us on Wednesday, April 3rd at 9am Pacific (12pm Eastern) for a special 60-minute teleconference on this timely topic with speakers, William (“Bill”) D. Lipkind, J.D., LL.M. (Taxation) and Steven J. Oshins, J.D., AEP (Distinguished). For more information and to register, click here.