Code §2501(a)(2) provides that, except as to certain expatriates, U.S. gift taxes do not apply to the transfer of intangible property by a nonresident not a citizen of the United States. This exemption is big enough to drive a truck through, though of course, a truck is TANGIBLE property so a gift of a truck in the U.S. would not be exempt under this rule. The Internal Revenue Code does not provide a definition of “intangible” property.
In a recent Private Letter Ruling, a nonresident income beneficiary of a trust disclaimed his interest in the trust. The disclaimer was not a qualified disclaimer (which would have exempted it from gift tax), because the beneficiary had already received distributions from the trust.
The taxpayer sought a ruling that the income interest was “intangible” property, and thus the gift of the interest via the disclaimer was exempt from gift tax under §2501(a)(2). While not explicit in the ruling, the essential question here was whether one should look through the trust to look at the character of the trust assets that produce income (to determine if the assets were tangible or intangible, and if tangible, to see where they are located), or whether an income interest is inherently an “intangible” regardless of what the trust assets are comprised of.
The IRS ruled that the income interest was intangible property. However, there are two aspects of the ruling that may limit its universal application.
First, the applicable state law was silent on whether a trust income interest is intangible (or not). If a state law has rules on this issue, this could help (or hurt) a similarly situated taxpayer in that state.
Second, there was also a favorable state case that found that an income beneficiary has no ownership interest in trust assets, when the beneficiary had no other powers or discretions over the trust. Different case law in other states may result in a different result. Also, it appears important here that the beneficiary has no other rights in the trust, including powers of appointment, rights to change the terms of the trust, rights to remove the trustee, or other powers. There is some sense to this – such rights over the trust will give some indirect control over principal, and thus makes the argument for look-through treatment more compelling. Since many income beneficiaries have some other rights, such as the right to remove or replace a trustee, or a power of appointment, reliance on this ruling will be more open to question in those situations.