Sale For Annuity Results In §2036 Inclusion

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In a recent Tax Court case, a decedent had sold properties to trusts in exchange for fixed annuity payments. The decedent died during the term of the annuities, and the IRS sought to include the value of the transferred properties in the decedent’s gross estate under Code §2036. The IRS was able to prevail.

The estate argued that the transfers of the properties to the trusts avoided Code §2036 by constituting “bona fide sales for adequate and full consideration.” The Court ruled against this argument for several reasons:

    a. The decedent did not receive adequate and full consideration since the present value of the annuity payments did not equal the value of the property transferred - i.e., there was a gift element to the transfer.

    b. There was no “bona fide” sale in an arm’s length transaction sense, since the decedent prepared the trust agreement in the absence of meaningful negotiation or bargaining with other cotrustees or future beneficiaries. The decedent formed the transaction, fully funded the trust, and essentially stood on both sides of the transaction.

    c. An argument, borrowed from transfers to partnership cases, that the transaction qualified for sale exception due to nontax purposes for the transaction failed. It first failed because the Tax Court did not equate this type of transfer with a transfer to a partnership where nontax purposes are a relevant aspect. It also found as a factual matter that there really were no nontax purposes for the transaction.

The estate also argued that the decedent had not retained an interest in the property under Code §2036 - i.e., that there was no “express or implied agreement at the time of transfer that the transferor will retain lifetime possession or enjoyment of, or right to income from, the transferred property.” A provision in the annuity trust agreement allowed for additional income to be distributed to the decedent at the direction of the trustees. There were 3 trustees - the decedent and two children. The court noted that “because decedent and her children could make distributions of additional income to decedent when and in the amount they pleased, decedent maintained the same enjoyment of the properties and their income stream as she had before she transferred the properties to the annuity trust.” This fact (notwithstanding Byrum), combined with the decedent’s continued control over the transferred property per how the trust was operated, and the use of the income from the properties to discharge her personal legal obligations, was enough for the court to find a Code §2036 retention of interest.

The estate nonetheless argued that the transaction was a bona fide sale for an annuity, and thus the decedent did not retain an interest in the property that was transferred but simply exchanged it for an annuity. The Court noted that in Ray, 762 F2d at 1363, that a sale for an annuity would not be respected as such when “(1) the property the taxpayers transferred to the trust was, in effect, the only source for their “annuity” payments; (2) since the trust's income was designed to equal the annual payments to the taxpayers,  the “annuity” payments would not be paid from the trust corpus; and (3) the trust corpus would be available for “ultimate distribution to the trust beneficiaries.”  By contrast, “a sale in exchange for an annuity occurred where the parties structured the transaction as an annuity obligation, the amount of the annuity did not bear a mathematical relationship to the trust income, the transferor did not control the property transferred, and the trust corpus was used to pay the annuity rather than simply providing for annuity payments as a conduit for the trust income.” The court held that the facts of this case more closely resembled the earlier “no sale” factors then the later “sale” factors.

Estate of Helen A. Trombetta et al. v. Commissioner, T.C. Memo. 2013-234

Topics:  Annuities, Estate Planning, Estate Tax, IRS

Published In: Finance & Banking Updates, Tax Updates, Wills, Trusts, & Estate Planning Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Charles (Chuck) Rubin, Gutter Chaves Josepher Rubin Forman Fleisher P.A. | Attorney Advertising

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Charles (Chuck) Rubin
Gutter Chaves Josepher Rubin Forman Fleisher P.A.

A tax and business attorney who assists clients in preserving & enhancing individual, family &... View Profile »


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