Estate Administration—Practical Planning Concerns and Opportunities

April 28 – May 2, 2003

Steve R. Akers

Bessemer Trust

300 Crescent Court, Suite 800

Dallas, Texas 75201

(214)-981-9407

FAX (214)-981-9410

akers@bessemer.com This outline is based on a copyrighted presentation made to the
Philip E. Heckerling Institute on Estate Planning
in January 2000

Copyright ©2003 by Steve R. Akers. All rights reserved.

TABLE OF CONTENTS

ESTATE ADMINISTRATION—PRACTICAL PLANNING CONCERNS AND OPPORTUNITIES

Steve R. Akers

Bessemer Trust

300 Crescent Court, Suite 800

Dallas, TX 75201

(214) 981 9407

akers@bessemer.com

Page

I.......... INTRODUCTION............................................................................................................. 1

II......... INCOME TAX PLANNING.............................................................................................. 1

A........ Decedent's Final Return.......................................................................................... 1

1......... File Decedent's Final Income Tax Return..................................................... 1

2......... Consider Filing Joint Return......................................................................... 1

3......... Determine How to Report Series E Bond Interest........................................ 2

4......... Treatment of Deductions on Final Return..................................................... 3

5......... Partnership and S Corporation Income......................................................... 4

6......... Net Operating Losses................................................................................. 5

7......... Installment Sale in Year of Death................................................................ 5

8......... Executor’s Liability for Decedent’s Unpaid Income Taxes............................ 5

B......... Planning Considerations for Estate's Fiduciary Income Tax Return, Form 1041........... 8

1......... Consider Fiscal Year.................................................................................. 8

2......... Administrative Expense Deductions............................................................. 9

3......... Take Advantage of Double Deduction Items................................................ 14

4......... Plan on Paying Substantial Administration Expenses in

Last Year to Pass Deductions to Beneficiaries............................................. 14

5......... Pay Estate Income Tax Liabilities................................................................ 14

6. Consider Utilization of Depreciation and Depletion Deductions

(By Estates or Trusts) and Establishment of Depreciation or

Depletion Reserve (By Trusts Only)............................................................ 15

C......... Funding and Distribution Planning............................................................................ 16

1......... General Rules Regarding Income Tax Effects of Distributions....................... 16

a......... General Rules................................................................................ 16

b......... Exceptions: Specific Bequest Exception and Separate Share Rule...... 17

c......... Income in Respect of a Decedent.................................................... 27

d......... Distribution of Appreciated Property in Satisfaction of

........... Pecuniary Bequest......................................................................... 28

e......... Distribution of IRD to Satisfy Pecuniary Bequest Accelerates

........... Recognition of IRD........................................................................ 29

f.......... Election to Treat Revocable Trust as Part of Grantor’s Estate........... 30

g......... Deemed Holding Period of Inherited Property.................................. 39

h......... Beneficiaries Must Report Inconsistencies with Fiduciary Return...... 39

2......... Consider Making Distributions to Shift Income and Defer Tax Payment ……. 39

3......... 3..................................... Consider Timing of Distribution to Avoid Inequities 40

4......... 4....... Trust Distributions for the First 65 Days May Be Treated as if Made in

Prior Year................................................................................................. 42

5......... 5............................... Election to Treat Estimated Payments by Estate or Trust

as if Made by Beneficiary........................................................................... 42

6......... Carefully Document Distributions to Charity That Are Made From

Income So That Charitable Income Tax Deduction Will Be Allowed.............. 42

7. Consider Election to Treat Distributions to Charity as if Made in

Prior Year................................................................................................. 43

8......... Consider "Trapping" Distributions to Trust.................................................... 43

9......... Do Not Distribute IRD in Satisfaction of Pecuniary Bequest......................... 43

10........ Distribute Right to IRD to Marital Deduction Share...................................... 44

11........ Consider Distributing Right to IRD to Charitable Bequest.............................. 44

12........ Consider Planning Considerations in Distribution of Installment Note.............. 45

13........ Consider Whether to Recognize Gain on Distributions in Kind....................... 46

14. Consider Whether Making In-Kind Distribution Will be Treated

as a Taxable Transaction............................................................................ 47

15........ Income Allocation in Funding Bequests........................................................ 50

16........ Payment of Interest on Pecuniary Bequests................................................. 50

17........ Income Tax Planning for Payment of Widow's or Family Allowance;

Spouse’s Elective Share.............................................................................. 51

18........ Consider Throwback Rule and Multiple Trust Rule....................................... 52

19........ Consider Allocating General Administration Expenses Against Specific

Classes of Income...................................................................................... 52

20........ Summary of Techniques for Consideration in Light of Compressed Income

Tax Brackets for Estates and Trusts............................................................ 53

21........ Basis Issues............................................................................................... 54

22........ Equitable Recoupment................................................................................ 55

D........ Executor's Commissions......................................................................................... 56

1......... Consider Tax Effects of Payment of Executor's Commissions....................... 57

2......... Comply with Requirements for Valid Waiver of Commissions....................... 55

III....... GIFT TAX PLANNING.................................................................................................... 57

A........ Filing Requirement.................................................................................................. 57

B......... Consider Splitting Gifts With Surviving Spouse.......................................................... 58

1......... Gift-Splitting of Decedent’s Gifts................................................................. 58

2......... Gift-Splitting of Decedent’s Spouse’s Gifts................................................... 58

3......... Debt Deduction for Gift Tax....................................................................... 58

IV....... ESTATE TAX PLANNING............................................................................................... 58

A........ Alternate Valuation Date........................................................................................ 58

1......... General Rule.............................................................................................. 58

2.

2......... Mechanical Requirements for Making Alternate Valuation Election............... 59

3......... Make Alternate Valuation Election if it Produces Lower Estate Tax.............. 59

4. Consider Making Sufficient Disclaimers to Cause a Small Amount

of Tax to be Payable.................................................................................. 60

5......... Consider Effects of Sales and Distributions on Alternate Values.................... 60

B. Special Use Valuation............................................................................................. 61

6. 5.

1......... General Effect of Special Use Valuation...................................................... 61

2......... Qualification Requirements......................................................................... 61

3......... Special Use Value...................................................................................... 68

4......... Consider Whether to Make Special Use Valuation Election........................... 68

5. Carefully Consider Estate Tax Apportionment if Special Use

Valuation Election is Made.......................................................................... 69

6......... Minority Interest Discount With Special Use Valuation................................. 69

7......... Planning Considerations to Leverage Benefit of Special Use Valuation.......... 69

C......... General Valuation Considerations............................................................................ 70

1......... Penalty Considerations................................................................................ 70

2......... Mechanical Valuation Requirements............................................................ 71

3......... Make Appropriate Valuation Adjustment..................................................... 72

4......... No Necessity of Aggregating With QTIP Assets for Valuation Purposes....... 93

5. Valuation of S Corporation Stock; Whether to “Tax Affect” S Corp Earnings

in Determining Value Based on Capitalization of Earnings Approach............. 96

D........ Administration Expense and Debt Deductions.......................................................... 98

1. Decide Whether to Claim Administrative Expense Deductions for

Estate or Income Tax Purpose.................................................................... 98

2......... Deductibility of Post-Death Interest Expenses.............................................. 98

3......... Allocating Post-Death Interest Expenses Against Estate Income................... 114

4. Possibility of Allocating Administrative Expenses (Other Than

Post‑Death Interest) Against Estate Income................................................ 114

5......... Deduction of Administrative Expenses Attributable to QTIP Trust or
Other Non-Probate Assets.......................................................................... 115

6. Sales Expenses Deducted Even If Sufficient Non‑Probate Assets

to Pay Administration Expenses.................................................................. 116

7......... Residence Maintenance Expenses............................................................... 117

8......... Maintenance Expenses of Ongoing Business................................................ 117

9......... Valuation of Disputed Claims Against Estate................................................ 118

E......... Marital Deduction Planning..................................................................................... 121

1......... QTIP Planning Considerations..................................................................... 121

2......... Funding Issues........................................................................................... 134

3......... Consider Rights of Election Against Will to Increase Marital Deduction......... 143

4......... Planning Considerations for Non-Citizen Surviving Spouse............................ 139

F......... Charitable Deduction Planning................................................................................. 154

1......... Consider Deductibility of Charitable Bequests.............................................. 154

2......... Consider Statutory Reformation of Split-Interest Trust.................................. 157

3. Consider Judicial Proceeding to Compromise the Interest of

Non-Charitable Beneficiaries to Obtain Charitable Deduction........................ 159

4. Consider Disclaimers of Non-Charitable Interests in Non-Deductible

Split-Interest Bequests................................................................................ 160

G......... Qualified Family-Owned Business Interest Deduction............................................... 161

1......... Brief Synopsis............................................................................................ 161

2......... Amount Of Deduction................................................................................ 165

3. Requirements For Business Interests to Constitute “Qualified

Family-Owned Business Interests”.............................................................. 167

4......... Qualifying Estates...................................................................................... 171

5......... Recapture Provisions.................................................................................. 179

6.6....... Planning Considerations.............................................................................. 183

7......... Effective Date........................................................................................... 186

H........ Filing of Estate Tax Return and Payment of Estate Tax............................................ 186

1. General Filing and Payment Requirements

Extension of Time

to Pay Tax Attributable to Closely-Held Business Under §6166..................... 186

2. Extension of Time to Pay Tax Attributable to Closely-Held

Business Under §6166................................................................................ 188

33........ Discharge of Personal Liability of Executor for Estate Tax........................... 203

4......... Transferee Liability of Beneficiaries............................................................ 204

V........ DISCLAMER PLANNING............................................................................................... 205

A........ General Requirements............................................................................................ 205

B......... Nine Months Time Limit Requirement..................................................................... 206

1......... Date of Taxable Transfer........................................................................... 206

2......... Time Limit Strictly Enforced....................................................................... 207

3......... Under Age Twenty-One Rules.................................................................... 208

4......... Joint Tenancy Property............................................................................... 208

5......... Application of Time Limit to Transfers Preceding Adoption of Gift Tax......... 208

6......... No “Substantial Compliance” Approach; Person Dies Before Signing

........... Disclaimer................................................................................................. 209

7......... Income Tax Effect of Disclaimers............................................................... 209

C......... Planning Flexibilities with Partial Disclaimers............................................................ 209

1......... Regulation §25.2518-3................................................................................ 209

2......... Separate Interests...................................................................................... 209

3......... Cannot Disclaim for Certain Number of Years............................................. 210

4......... Severable Property..................................................................................... 210

5......... Power of Appointment is Treated as a Separate Interest............................... 210

6......... Can Disclaim Specific Assets From Trust.................................................... 210

7......... Disclaimer of Specific Pecuniary Amount Allowed....................................... 210

8......... Formula Disclaimers are Permitted.............................................................. 211

9......... Partial Disclaimers With Executor Having Authority to "Pick and Choose”.... 213

D........ Passing Without Any Direction By Disclaimant........................................................ 213

1. Splintering of Interests in Will...................................................................... 213

2. Disclaimant as Fiduciary............................................................................. 214

3. Disclaimant Cannot Hold Power of Appointment.......................................... 214

4. Disclaimant as Director of Foundation Receiving Disclaimed Assets.............. 214

E......... Disclaim to Avoid Inclusion in Beneficiary's Estate................................................... 215

F......... Disclaim to Avoid Creditor's Claims......................................................................... 215

G. Disclaimer Opportunities Involving Surviving Spouse................................................. 217

1......... Disclaim Outright Disposition Into QTIP Trust............................................. 217

2......... Consider Partial Disclaimer to QTIP Trust................................................... 217

3......... Disclaimers to Allow QTIP Treatment......................................................... 217

4. Disclaimer by Trustee of Power to Make Distributions to Beneficiaries Other

Than Spouse — But May Be Questionable Unless Beneficiary Consents....... 219

5......... Disclaimer of All Interests Under Will, so Property Passes by Intestacy

to Spouse................................................................................................... 220

6......... Disclaimer of Insurance on Surviving Spouse’s Life...................................... 220

7......... Disclaimer of Property Passing by Intestacy to Persons Other Than Spouse.. 220

8......... Disclaimer of Qualified Plan Benefits Having QTIP Trust as Beneficiary,

so Benefits Pass Outright to Spouse to Get Benefit of Rollover IRA.............. 221

H........ Partial Disclaimer After Some Benefits Have Been Accepted; Expectation

........... of Future Benefit as Acceptance............................................................................. 221

1......... General Rule.............................................................................................. 221

2......... Community Property................................................................................... 224

3......... Other Jointly Owned Assets........................................................................ 224

4......... Expectation of Future Benefit as Acceptance............................................... 225

I.......... Disclaimers of Joint-Tenancy Property.................................................................... 228

1......... Overview................................................................................................... 228

2......... Bank Accounts, Brokerage Accounts, or Other Similar Interests................... 228

3......... Joint Tenancies of Other Property............................................................... 230

J.......... ..................................... Disclaimers for Generation Skipping Transfer Tax Purposes 232

1......... Disclaim to Utilize First Spouse's Million Dollar Exemption Amount............... 232

2......... Disclaim to Create Direct Skips................................................................... 232

3......... Disclaim Right to be Reimbursed for Estate Taxes from QTIP Trust............. 233

4......... Disclaimer by Children to Utilize Decedent’s Exemption Amount.................. 233

c3.5......... Disclaim to Limit Generation-Skipping Transfer to Exemption Amount........... 233

K. Effects Upon Disclaimer of Non-Ascertainable Standard For Distribution Power

Held By Disclaimant............................................................................................... 233

1. Disclaimer to Avoid Having General Power of Appointment......................... 233

2. Requirement that any Retained Power to Direct Enjoyment of

Disclaimed Interest be Limited by an Ascertainable Standard........................ 234

L. Be Careful with Tax Apportionment Issues with Respect to Disclaimed Assets ......... 234

M. Disclaimers of Pre-1932 Interests............................................................................ 235

VI. GENERATION-SKIPPING TRANSFER TAX - BRIEF SUMMARY OF PLANNING

OPPORTUNITIES............................................................................................................ 235

A........ Disclaimer Planning Opportunities........................................................................... 235

B. Effects Upon Disclaimer of Non-Ascertainable Standard For Distribution

Power Held By Disclaimant.................................................................................... 235

1......... Disclaimer to Avoid Having General Power of Appointment......................... 235

2......... Disclaim to Utilize $1,000,000 Exemption Amount By

Creating Direct Skips.................................................................................. 235

C......... GST Exemption Allocation...................................................................................... 235

1......... General Rules............................................................................................ 236

2......... Consider Allocating GST Exemption to Lifetime Transfers That

May Result in Generation-Skipping Transfers............................................... 236

3. Consider Allocating GST Exemption to Testamentary Transfers

Likely to Result in Generation-Skipping Transfers......................................... 237

D........ Funding Considerations........................................................................................... 237

1......... General Rule-Use Estate Tax Values.......................................................... 237

2......... Exception for Allocating GST Exemption to Pecuniary Lead Gifts................. 237

33........ Residual Transfers After Payment of Pecuniary Amount.............................. 237

E......... Reverse QTIP Considerations................................................................................. 238

1......... Make Reverse QTIP Election..................................................................... 238

2......... Split QTIP Trust into Separate Trusts for Making Reverse QTIP Election..... 238

3......... Consider Predeceased Ancestor Exception in Determining Whether to

Make the Reverse QTIP Election................................................................ 238

VII. ALLOCATING ADMINISTRATION EXPENSES AGAINST INCOME — OR UNDER

REGULATIONS, TREATMENT OF “ESTATE MANAGEMENT EXPENSES”................ 239

A........ Hubert-Supreme Court Decision.............................................................................. 239

1......... Facts......................................................................................................... 239

2......... Summary of Supreme Court Decision.......................................................... 236

B......... Final Regulations.................................................................................................... 242

1......... Overview................................................................................................... 242

2......... Estate Management Expenses..................................................................... 243

3......... Estate Transmission Expenses..................................................................... 243

4 Reduction of Marital or Charitable Deduction for Estate Management

Expenses Attributable to Property Passing to Beneficiaries Other

Than Spouse or Charity.............................................................................. 243

5. Special Rule Where Estate Management Expenses Are Deducted

on the Estate Tax Return............................................................................ 244

6......... Effective Date of Regulation....................................................................... 244

7. Planning Considerations Under Final Regulations ………………………….. 244

C......... Retain Flexibility to Utilize Estate Tax Deduction Under Section 642(g)..................... 252

I. INTRODUCTION.................................................................................................................... 1

II. INCOME TAX PLANNING..................................................................................................... 1

A. Decedent's Final Return............................................................................................................. 1

1. File Decedent's Final Income Tax Return........................................................................ 1

2. Consider Filing Joint Return............................................................................................ 1

3. Determine How to Report Series E Bond Interest............................................................ 2

5. 4. Treatment of Deductions on Final Return........................................................................ 3

6. 4. 5. Executor’s Liability for Decedent’s Unpaid Taxes (Including Nanny Tax)............. 3

B. Planning Considerations for Estate's Fiduciary Income Tax Return, Form 1041 5

1. Consider Fiscal Year 5

2. Administrative Expense Deductions 6

3. Take Advantage of Double Deduction Items 7

4. Plan on Paying Substantial Administration Expenses in Last Year

to Pass Deductions to Beneficiaries 7

5. Pay Estate Income Tax Liabilities 8

6. Consider Utilization of Depreciation and Depletion Deductions

(By Estates or Trusts) and Establishment of Depreciation

or Depletion Reserve (By Trusts Only) 8

C. Funding and Distribution Planning............................................................................................... 9

1. General Rules Regarding Income Tax Effects of Distributions.......................................... 9

2. Consider Making Distributions to Shift Income and Defer Tax Payment.......................... 20

3. Consider Timing of Distribution to Avoid Inequities......................................................... 20

4. Trust Distributions for the First 65 Days May Be Treated as if Made in Prior Year.......... 21

5. Election to Treat Estimated Payments by Estate or Trust as if Made by Beneficiary......... 21

6. Carefully Document Distributions to Charity That Are Made From Income So That Charitable Income Tax Deduction Will Be Allowed........................................................................................... 22

7. Consider Election to Treat Distributions to Charity as if Made in

Prior Year................................................................................................................... 22

8. Consider "Trapping" Distributions to Trust...................................................................... 22

9. Do Not Distribute IRD in Satisfaction of Pecuniary Bequest........................................... 22

10. Distribute Right to IRD to Marital Deduction Share........................................................ 23

11. Consider Distributing Right to IRD to Charitable Bequest............................................... 23

12. Consider Planning Considerations in Distribution of Installment Note............................... 23

13. Consider Whether to Recognize Gain on Distributions in Kind......................................... 25

15. 14. Consider Whether Making In-Kind Distribution Will be Treated as a

16. 14. Taxable Transaction.................................................................................................... 26

17. 14. 15. Income Allocation in Funding Bequests.............................................................. 27

18. 14. 16. Payment of Interest on Pecuniary Bequests....................................................... 27

18. 14. Income Tax Planning for Payment of Widow's or Family Allowance; Spouse’s Elective

19. 14. Share ....................................................................................................................... 28

20. 14. 18. Consider Multiple Trust Rule............................................................................. 29

20. 14. Consider Allocating General Administration Expenses Against Specific

21. 14. Classes of Income...................................................................................................... 29

21. 14. Summary of Techniques for Consideration in Light of Compressed Income Tax Brackets for Estates and Trusts 29

2. 14. Basis Issues....................................................................................................................... 30

D. Executor's Commissions........................................................................................................... 31

1. Consider Tax Effects of Payment of Executor's Commissions........................................ 31

2. Comply with Requirements for Valid Waiver of Commissions......................................... 31

III. GIFT PLANNING ................................................................................................................. 31

A. Filing Requirement................................................................................................................... 31

B. Consider Splitting Gifts With Surviving Spouse........................................................................... 32

1. Gift-Splitting of Decedent’s Gifts.................................................................................. 32

2. Gift-Splitting of Decedent’s Spouse’s Gifts.................................................................... 32

3. Debt Deduction for Gift Tax......................................................................................... 32

IV. ESTATE TAX PLANNING.................................................................................................... 32

A. Alternate Valuation Date.......................................................................................................... 32

1. General Rule............................................................................................................... 32

3. 2. Mechanical Requirements for Making Alternate Valuation Election....................................... 33

4. 2. Make Alternate Valuation Election if it Produces Lower Estate Tax............................... 33

5. 2. Consider Making Sufficient Disclaimers to Cause a Small Amount of Tax

6. 2. to be Payable.............................................................................................................. 33

7. 2. 5. Consider Effects of Sales and Distributions on Alternate Values......................... 33

B. Special Use Valuation.............................................................................................................. 33

1. General Effect of Special Use Valuation....................................................................... 33

2. Qualification Requirements........................................................................................... 34

3. Special Use Value....................................................................................................... 38

4. Consider Whether to Make Special Use Valuation Election............................................ 38

6. 5. Carefully Consider Estate Tax Apportionment If Special Use Valuation

7. 5. Election is Made......................................................................................................... 38

8. 5. 6. Minority Interest Discount With Special Use Valuation....................................... 39

9. 5. 7. Planning Considerations to Leverage Benefit of Special Use Valuation................ 39

C. General Valuation Considerations.............................................................................................. 40

1. Penalty Considerations................................................................................................. 40

2. Mechanical Valuation Requirements............................................................................. 40

3. Make Appropriate Valuation Adjustments..................................................................... 41

4. No Necessity of Aggregating With QTIP Assets for Valuation Purposes........................ 51

5. Valuation of S Corporation Stock; Whether to “Tax Affect” S Corp Earnings in Determining Value Based on Capitalization of Earnings Approach.............................................................................. 53

D. Administration Expense and Debt Deductions............................................................................ 54

1. Decide Whether to Claim Administrative Expense Deductions for Estate or Income Tax Purposes 54

2. Deductibility of Post-Death Interest Expenses............................................................... 54

3. Allocating Post-Death Interest Expenses Against Estate Income.................................... 68

5. 4. Possibility of Allocating Administrative Expenses (Other Than Post-Death

Interest) Against Estate Income .................................................................................. 68

5. Deduct Administrative Expenses Attributable to QTIP Trust........................................ 69

6. Sales Expenses Deducted Even If Sufficient Non-Probate Assets to

Pay Administration Expenses....................................................................................... 69

7. Residence Maintenance Expenses................................................................................ 69

9. 8. Maintenance Expenses of Ongoing Business............................................................... 70

E. Marital Deduction Planning....................................................................................................... 70

1. QTIP Planning Considerations...................................................................................... 70

2. Funding Issues............................................................................................................. 77

3. Consider Rights of Election Against Will to Increase Marital Deduction........................... 81

4. Planning Considerations for Non-Citizen Surviving Spouse.............................................. 81

F. Charitable Deduction Planning.................................................................................................. 89

1. Consider Deductibility of Charitable Bequests................................................................ 89

2. Consider Statutory Reformation of Split-Interest Trust.................................................... 91

4. 3. Consider Judicial Proceeding to Compromise the Interest of

5. 3. Non-Charitable Beneficiaries to Obtain Charitable Deduction........................................ 93

6. 3. 4. Consider Disclaimers of Non-Charitable Interests in Non-Deductible Split-Interest Bequests 94

H. G. Qualified Family-Owned Business Interest Deduction...................................................................... 94

1. Brief Synopsis............................................................................................................. 94

3. 2. Amount of Deduction.................................................................................................. 96

2. Requirements For Business Interests To Constitute “Qualified Family-Owned

Business Interests”...................................................................................................... 98

3. 2. Qualifying Estates...................................................................................................... 100

4. 2. Recapture Provisions................................................................................................. 106

5. 2. Planning Considerations ............................................................................................ 109

6. 2. Effective Date........................................................................................................... 110

I. H. Filing of Estate Tax Return and Payment of Estate Tax................................................................. 110

1. General Filing and Payment Requirements................................................................... 110

2. Extension of Time to Pay Tax Attributable to Closely-Held

Business Under §6166............................................................................................... 111

3. Discharge of Personal Liability of Executor for Estate Tax........................................... 121

4. Transferee Liability of Beneficiaries........................................................................... 122

V. DISCLAIMER PLANNING................................................................................................. 122

A. General Requirements............................................................................................................ 122

B. Nine Months Time Limit Requirement..................................................................................... 123

1. Date of Taxable Transfer........................................................................................... 123

2. Time Limited Strictly Enforced.................................................................................... 124

3. Under Age Twenty-One Rules................................................................................... 124

4. Joint Tenancy Property............................................................................................... 124

5. Application of Time Limit to Transfers Preceding

Adoption of Gift Tax.................................................................................................. 124

C. Planning Flexibilities with Partial Disclaimers........................................................................... 125

1. Regulation §25.2518-3................................................................................................ 125

2. Separate Interests...................................................................................................... 125

3. Cannot Disclaim for Certain Number of Years............................................................. 125

4. Severable Property..................................................................................................... 125

5. Power of Appointment is Treated as a Separate Interest.............................................. 125

6. Can Disclaim Specific Assets From Trust.................................................................... 125

7. Disclaimer of Specific Pecuniary Amount Allowed....................................................... 125

8. Formula Disclaimers are Permitted............................................................................. 126

9. Partial Disclaimers With Executor Having Authority to

"Pick and Choose”................................................................................................... 126

D. Passing Without Any Direction By Disclaimant....................................................................... 126

1. Splintering of Interests in Will...................................................................................... 126

E. Disclaim to Avoid Inclusion in Beneficiary's Estate.................................................................. 128

F. Disclaim to Avoid Creditor's Claims....................................................................................... 128

G. Disclaimer Opportunities Involving Surviving Spouse............................................................... 129

1. Disclaim Outright Disposition Into QTIP Trust............................................................. 129

2. Consider Partial Disclaimer to QTIP Trust................................................................... 129

3. Disclaimers to Allow QTIP Treatment........................................................................ 129

4. Disclaimer of Powers by Trustee—But May Be Questionable Unless Beneficiary Consents 130

5. Disclaimer of All Interests Under Will, so Property Passes by Intestacy to Spouse......... 130

7. 6. Disclaimer of Insurance on Surviving Spouse’s Life..................................................... 131

2. 6. Disclaimer of Property Passing by Intestacy to Persons Other Than Spouse.................. 131

3. 6. Disclaimer of Qualified Plan Benefits Having QTIP Trust as Beneficiary, So Benefits

4. 6. Pass Outright to Spouse To Get Benefit of Rollover IRA.................................. 131

H. Partial Disclaimer After Some Benefits Have Been Accepted; Expectation of

Future Benefit as Acceptance................................................................................................. 131

2. 1. General Rule............................................................................................................. 131

3. 1. Community Property.................................................................................................. 132

4. 1. Other Jointly Owned Assets ...................................................................................... 132

5. 1. Expectation of Future Benefit as Acceptance.............................................................. 133

I. Disclaimers of Joint-Tenancy Property.................................................................................... 135

1. Overview.................................................................................................................. 135

2. Bank Accounts, Brokerage Accounts, or Other Similar Interests................................... 136

3. Joint Tenancies of Other Property............................................................................... 137

J. Disclaimers for Generation Skipping Transfer Tax Purposes..................................................... 138

2. 1. Disclaim to Utilize First Spouse's Million Dollar

3. 1. Exemption Amount......................................................................................... 138

4. 1. 2. Disclaim to Create Direct Skips...................................................................... 139

5. 1. 3. Disclaim Right to be Reimbursed for Estate Taxes

6. 1. from QTIP Trust............................................................................................ 139

7. 1. 4. Disclaim to Utilize $1,000,000 Exemption Amount By Creating Direct Skips....... 139

5......... Disclaim to Limit Generation-Skipping Transfer to $1,000,000 Exemption Amount.......... 139

K. Effects Upon Disclaimer of Non-Ascertainable Standard For Distribution

Power Held By Disclaimant.................................................................................................... 139

1. Disclaimer to Avoid Having General Power of Appointment......................................... 139

2. Requirement that any Retained Power to Direct Enjoyment of Disclaimed Interest be Limited by an Ascertainable Standard............................................................................................... 140

L. Be Careful with Tax Apportionment Issues with Respect to Disclaimed Assets......................... 140

M. Disclaimers of Pre-1932 Interests........................................................................................... 140

VI. GENERATION-SKIPPING TRANSFER TAX - BRIEF SUMMARY OF PLANNING OPPORTUNITIES 141

A. Disclaimer Planning Opportunities........................................................................................... 141

B. Effects Upon Disclaimer of Non-Ascertainable Standard For Distribution Power Held By Disclaimant 141

1. Disclaimer to Avoid Having General Power of Appointment......................................... 141

2. Disclaim to Utilize $1,000,000 Exemption Amount By Creating Direct Skips................... 141

C. GST Exemption Allocation...................................................................................................... 141

1. General Rules............................................................................................................ 141

3. 2. Consider Allocating GST Exemption to Lifetime Transfers That May Result

4. 2. in Generation-Skipping Transfers................................................................................ 142

5. 2. 3. Consider Allocating GST Exemption to Testamentary Transfers Likely to Result in Generation-Skipping Transfers..................................................................................................... 142

D. Funding Considerations........................................................................................................... 142

1. General Rule-Use Estate Tax Values.......................................................................... 142

2. Exception for Allocating GST Exemption to Pecuniary Lead Gifts................................. 142

3. Residual Transfers After Payment of Pecuniary Amount.............................................. 142

E. Reverse QTIP Considerations................................................................................................. 143

1. Make Reverse QTIP Election..................................................................................... 143

2. Split QTIP Trust into Separate Trusts for Making Reverse QTIP Election..................... 143

3. Consider Predeceased Parent Exception in Determining Whether to Make the Reverse QTIP Election 143

VIII. VII. ALLOCATING ADMINISTRATION EXPENSES AGAINST INCOME - - OR UNDER

PROPOSED REGULATIONS, TREATMENT OR “ESTATE MANAGEMENT

EXPENSES” ..................................................................................................................... 143

A. Hubert -Facts and Arguments................................................................................................. 144

1. Facts ..................................................................................................................... 144

2. Summary of Supreme Court Decision.......................................................................... 144

B. Proposed Regulations ............................................................................................................ 146

1. Overview.................................................................................................................. 146

2. Estate Management Expenses.................................................................................... 146

3. Estate Transmission Expenses.................................................................................... 146

5. 4. Reduction of Marital or Charitable Deduction for Estate Management Expenses

Attributable to Property Passing to Beneficiaries Other Than Spouse or Charity ............ 147

6. 5. Special Rule Where Estate Management Expenses Are Deducted

on the Estate Tax Return............................................................................................ 147

6. Effective Date of Proposed Regulation........................................................................ 148

7. Planning Considerations ............................................................................................. 148

C. Potential Tax Savings Planning Situations ................................................................................ 153

2. 1. Obtaining Income Tax Deduction Without Reducing Marital Deduction

or Charitable Deduction ............................................................................................. 153

2. Increase Amount Passing to Bypass Trust .............................................................................. 153

3. Reduce Estate Tax..................................................................................................... 154

D. Retain Flexibility to Utilize Estate Tax Deduction Under Section 642(g)..................................... 155

Estate Administration—Practical Concerns and Opportunities

Steve R. Akers

Bessemer Trust

300 Crescent Court, Suite 800

Dallas, Texas 75201

(214) 981 9407

akers@bessemer.com

I. INTRODUCTION

This outline is intended as a summary "checklist" approach of some of the major tax-oriented planning alternatives in an estate administration. It is intended as a practical working "checklist," rather than as a comprehensive treatise on post-mortem estate planning.

II. INCOME TAX PLANNING

As a precursor to all of the various income tax issues, the fiduciary (the executor, if any, if not, the testamentary trustee, residuary legatees or distributees) should file Form 56 to advise the IRS of the fiduciary relationship. I.R.C. § 6903; Treas. Reg. §§ 601-503 & 301.6903. Written notice of the termination of the fiduciary relationship should also be filed (on Form 56) with the same office where the initial Form 56 was filed. Treas. Reg. § 301.6903-1(b).

A. Decedent's Final Return.

For an excellent summary of planning considerations for the decedent’s final income tax return, see Lieberman & Kelley, Practical Planning for the Decedent’s Final Return, TAX ADVISOR 621 (Oct. 1996).

1. File Decedent's Final Income Tax Return..

The Executor is required to file an income tax return of the decedent for the period ending with the date of death. §6012(b)(1). The return is due April 15 of the following year. Reg. §1.6072-1(b) (return is due on date the decedent would have been required to file if he had lived).

2. Consider Filing Joint Return.

If the decedent was married at the date of death and if the spouse did not remarry during the balance of his or her taxable year, the decedent's executor may file a joint return with the surviving spouse. §6013(a)(2). However, a joint return is not available if either spouse is a nonresident alien at any time during the taxable year. I.R.C. §6013(a)(1). However, a joint return is not available if either spouse is a nonresident alien at any time during the taxable year. I.R.C. §6013(a)(1). The joint return will include the decedent's income through the date of death and the surviving spouse's income for the entire taxable year.

If an executor has not been appointed by the due date of the decedent’s final return, the surviving spouse may file the joint return alone. However, in that case, a subsequently appointed executor may revoke the surviving spouse’s election to file a joint return by filing a separate return for the decedent’s estate within one year from the due date of the return, including extensions. I.R.C. §6013(a)(3).

The executor becomes liable jointly and severally with the surviving spouse for any tax and penalties. §6013(d)(3). The liability between the executor and surviving spouse is apportioned as they agree, or if there is no agreement, as provided by local law. See Reg. §20.2053-6(f). In considering whether to file a joint return, the executor should consider not only whether the joint return produces a lower tax liability for the estate, but whether the executor is assuming a significant risk of unknown tax liabilities of the surviving spouse, depending on the circumstances of the particular case. (It is not clear whether the "innocent spouse" rule applies to an executor who files a return with the surviving spouse. See Hale, 301-3rd T.M., Estate and Trust Administration—Tax Planning A-23-24 (1988).

If the decedent (or his executor) or the surviving spouse filed separate returns for a year in which a joint return could have been filed, the executor and surviving spouse may subsequently file joint returns at any time within three years from the due date (without extensions) of the separate returns. §6013(b)(1), (2)(B). (Several exceptions to this general rule are listed in §6013(b)(2).)

Unpaid income taxes of the decedent attributable to income prior to the decedent’s death are deductible as a debt for estate tax purposes under section 2053. If income is included on a joint return, the income tax is deductible for estate tax purposes only for the portion of the joint liability for which the estate is liable under local law, after enforcement of any effective right of reimbursement or contribution. In the absence of evidence to the contrary, the deductible amount is determined by the formula: (joint tax) x (decedent’s separate tax / both spouses’ separate taxes). Treas. Reg. § 20.2053-6(f).

3. Determine How to Report Series E Bond Interest.

A taxpayer may elect to report all previously unreported Series E or EE Bond interest and thereafter report all Series E or EE Bond Interest as it is accrued. §454(a). The executor may make this election on behalf of the decedent on the final Form 1040. Rev. Rul. 68-145, 1968-1 C.B. 203.; Rev. Rul. 79-409, 1979-2 C.B. 208 (executor may also elect to accrue interest on Series E Bonds held in revocable trust at time of death).

a. If Election Not Made, Interest Will Be IRD When Received.

Interest on Series E or EE Bonds are not taxable in the final return of a cash-basis decedent unless cashed or matured before death if the section 454(a) election is not made. In that case, interest will be taxable as income in respect of a decedent ("IRD") to the ultimate recipient. A deduction is available under §691(c) for any estate tax attributable to such income (but not for state or foreign death taxes attributable to the income). Rev. Rul. 64-104, 1964-1 C.B. 223. Like other items of IRD, if Series E bonds are used to fund a pecuniary bequest, the previously unreported gain will be recognized by the estate. Ltr. Rul. 9507008.

b. Election to Report Accrued Interest Allows Estate Tax Deduction.

If the election to report previously unreported income is made, no section 691(c) deduction will be applicable, but a deduction for federal estate tax purposes (debt of the decedent) will be generated for the amount of the income tax created. Ltr. Rul. 9232006. If the estate will be in the position of paying estate tax, making the section 454(a) election will generally lower the overall taxes.

c. Utilizing Deductions; Income Splitting.

Making the election to accrue Series E or EE Bond interest may be helpful in being able to take advantage of deductions in the decedent's final return that would otherwise be wasted. Also, the election may be an income-splitting device if the decedent died early in the taxable year and had little other income reportable in the final return.

d. Election Not Binding on Transferee.

The election is not binding on the transferee of a taxpayer who makes the election. Reg. §1.454-1(a). Therefore, the estate beneficiaries who receive the bonds may defer tax on the interest accrued after the date of the death until redemption even though the executor has made the election to recognize income accrued up to the date of death.

e. Distribution to Charity Can Avoid Recognition of Income.

In Letter Ruling 9845026, the executor proposed to distribute Series E and HH savings bonds that were in the residuary to charities who were to receive the residuary estate. The will authorized making in-kind distributions. The IRS ruled that the in-kind distribution of savings bonds to the charities is not a transfer that will result in the recognition of income by the estate. The accrued interest on the bonds will be included in the gross income of the charities when the bonds are disposed or are redeemed. (At that time, they would be exempt from tax in the hands of the charities.)

4. Treatment of Deductions on Final Return.

Certain expenses may be claimed as deductions only on the decedent's final return, including medical and other deductible expenses paid prior to the date of death, capital loss carryovers, charitable contribution carryovers, and net operating loss carryovers.

However, the executor does have discretion in where to deduct the decedent's medical expenses paid after the date of death. Such expenses may be deducted either on the decedent's income tax return for the year in which they were incurred provided they are paid by the estate within one year after the decedent's death, or on the estate tax return. §213(c). For small estates that do not bear estate taxes, deducting such expenses on the final income tax return will be advantageous. To claim the deduction on the final income tax return, the executor must file in duplicate (1) a statement that the amount has not been allowed as a deduction under §2053, and (2) a waiver of the right to have such amount allowed at any time as a deduction under section 2053. Reg. §1.213-1(d)(2).

The election may be made as to some or all of the qualifying medical expenses. Rev. Rul. 77-357, 1977-2 C.B. 328. Apparently, any expenses allocated to the final return that are not deductible because of the 7.5% of adjusted gross income floor may not be claimed as a deduction on the estate tax return.

If the estate is required to pay estate taxes, the deduction will generally be more valuable on the estate tax return. Not only are the estate tax rates higher than the individual income tax rates, but the additional income tax owed by the decedent will be deductible under §2053 for estate tax purposes.

5. Partnership and S Corporation Income.

Under section 706(a), a partner must report its distributive share of income, gain, loss, deductions and credits of the partnership for the partnership’s tax year ending within or with the taxable year of the partner. Before a change made by the Taxpayer Relief Act of 1997, this meant that a decedent’s entire share of items of income, gain , loss, deduction and credit for the partnership year in which death occurred was taxed to the decedent’s estate rather than to the decedent on his final return. This often caused substantial mismatching problems—because the decedent’s final return might not have sufficient income to offset the decedent’s typical deductions. For partnership tax years ending after 1997, section 706(c)(2)(A) provides that the taxable year of a partnership closes with respect to a partner whose entire partnership interest terminates by reason of death. Accordingly, the final return of a deceased partner includes the flow through items for the short year ending on the date of death. Under the section 706 regulations, the allocation for the short year is made by an interim closing of the partnership’s books or, if all of the partners agree, on a pro rata basis based on the number of days in each period. See Reg. §1.706-1(c)(2)(ii)

Similarly, an S corporation deceased shareholder must include on his or her final return a pro rata share of S corporation income for the corporation’s tax year that ends within or with the decedent’s tax year. The decedent’s final return must include the decedent’s pro rata share of the S corporation’s income for the period from the beginning of the year to the date of death, on a number of days allocation basis. §1377(a)(1). If all the shareholders agree, the allocation for the short year is made by an interim closing of the books.§1377(a)(2).

Partnership or C corporations may earn proportionately more income after the date of death than before. In that case, if the income is allocated on a pro rata per day basis (rather than using an interim closing of the books), more income will be allocated to the deceased partner’s or shareholder’s final income tax return. The additional income tax can be deducted for estate tax purposes as an estate liability. In addition, allocating more income to the decedent’s final return may facilitate using any carryovers that terminate with the decedent’s final return.

For a general discussion of planning strategies for partnership interests following the death of a partner, see Jones, Transfer of a Partnership Interest at Death Creates Tough Issues for the Successor, 94 J. TAX’N (Jan. 2001).

6. Net Operating Losses.

Net operating loss (NOL) carryovers and capital loss carryovers from a prior year are deductible only on the decedent’s final income tax return. Any unused losses are lost. If an NOL arises from a net business loss appearing on the decedent’s final return, the NOL may be carried back to previous years. I.R.C. §172(b)(1)(A)(i); Rev. Rul. 74-175, 1974-1 C.B. 52.

7. Installment Sale in Year of Death.

If an installment sale occurs in the year of death, the executor may choose to elect out of the installment method. This would result in the gain being taxed on the decedent’s final return, thus creating an estate tax deduction for the income tax liability. In addition, no IRD recognition would occur after death if the installment note is later canceled or forgiven.

8. Executor’s Liability for Decedent’s Unpaid Income (as well as Gift or Estate) Taxes.

The executor may have personal liability if the executor makes a distribution which results in insufficient funds to satisfy the decedent’s tax obligation. 37 U.S.C.A. §3713. See generally T.M. Portfolio 219-5th ; Garbis, Shark Repellent for the Estate Fiduciary - Avoiding Personal Responsibility for Tax Liabilities, 1982 UNIV. OF MIAMI EST. PL. INST. 8-1 to 8-29. The liability for a federal tax arises when the payment is originally required, not the date of assessment. The liability continues until the limitations period on assessments has run. The basic limitations period for assessment of a tax deficiency is three years from the later of the due date of the return or the date on which the return is filed. However, the limitations period is six years if there are “substantial omissions” of 25% of the gross income stated on an income tax return. I.R.C. §6501 (a) & (e). The executor does not have to have actual knowledge of the tax liability before personal liability can be imposed. It is sufficient if the executor has knowledge of facts which would make a reasonably prudent person aware of the existence of the liability. See e.g., Little v. Comm’r, 113 T.C. 474 (1999) (executor received Forms W-2 and Forms 1099 for the decedent and the estate; executor took forms to estate’s attorney who advised executor that no taxes would be due because of the size of the estate; held that executor is not personally liable for unpaid income tax deficiencies of the decedent and of the estate, reasoning that receipt of the forms put the executor on “inquiry” notice, but concluding that the executor acted in a prudent and reasonable manner in forwarding the forms to the attorney for advice); Kenneth Leigh, 72 T.C. 1105 (1979); Leroy K. New, 48 T.C. 671 (1967) (administrator held personally liable for decedent’s unpaid income taxes where administrator had been advised that the decedent had not filed income tax returns); Rev. Rul. 79-310, 1979-2 C.B. 404 (executor who was chargeable with notice of income tax deficiencies even though they had not been assessed held personally liable for tax). The executor will not have personal liability if the income tax deficiencies are not assessed until after the executor has received a discharge as the executor if there was nothing in the facts to put the executor on notice that the decedent owed income taxes. Rev. Rul. 66-43, 1966-1 C.B. 291. One possible planning alternative would be for the executor to apply in writing for a discharge of personal liability under section 6905(a), which is effective nine months after the date of the request. Treas. Reg. §§301.6905-1(a), 307.6905-1(a).

In Estate of Johnson v. Comm’r, T.C. Memo. 1999-284, the executor (surviving spouse) filed a state inheritance return reporting $30,000 of federal income taxes owed by the decedent. The executor subsequently made $49,300 in distributions without first paying the income taxes. When the estate could not pay the income taxes, the IRS asserted personal liability against the executor. The court observed that the taxpayer has the burden of proving lack of knowledge of taxes. The executor tried to convince the court that she did not know about the income taxes when she made the disbursements. The court had no problem finding that the executor did have knowledge because of the executor’s acknowledgment on the state inheritance tax returns that the estate owed income taxes of $30,000. The court observed that the executor is personally liable for the amount of tax and interest owed by the estate , or the value of property disbursed, whichever is less. However, interest does not accrue on that personal obligation in excess of the amount described above. (The Eighth and Eleventh circuits have disagreed as to whether liability for interest can exceed the value of property disbursed. See Section IV.H.4. of this outline.)

One possible application of the personal liability rule for distributions without first paying tax liabilities is if income taxes are ultimately determined to be payable with respect to the “nanny tax”. If the executor is aware that the decedent had hired domestic help, the courts may determine that fiduciaries may avoid personal liability only by diligently searching for and paying the nanny taxes out of the decedent’s estate. Under Circular 230, professionals permitted to practice before the IRS are required to give prompt advice to a client upon knowledge of non-compliance with the revenue laws (such as the failure to report and pay payroll tax under the new nanny tax rules). See Gracik & Sherr, New Nanny Tax Rules Mean More Responsibility for Return Preparers, 27 TAX ADVISOR 85-89 (Feb. 1996). Executors should be alert to the danger of possible personal liability which could arise for a less than reasonable or diligent search for unpaid “nanny tax”.

The following is a brief summary of the various provisions dealing with obtaining needed information to file required income tax returns and relieving the fiduciary or the estate from liability for taxes.

Determining What Returns Have Been Filed.

The executor may make a written request for a “Record of Account” (provided free of charge) with the appropriate IRS region to determine what tax returns have been filed by the decedent. The executor’s letters of appointment and a Form 2848 Power of Attorney should be included with the request. Call 1-800-829-1040 for details.

Determining Income Items.

The executor may file a written request with the appropriate IRS region for “All Information Returns” (provided free of charge) to ascertain information regarding income items reported as being received by the decedent. The executor’s letters of appointment and a Form 2848 Power of Attorney should be included with the request. Information is available after August 1 for the prior year. Typically, six years of information is maintained by the IRS. Call 1-800-829-1040.

Obtaining Copies of Filed Returns.

To obtain copies of returns that have been filed with the IRS by the decedent, the executor may file Form 4506, Request for Copy or Transcript of Tax Form. Income as well as gift tax returns may be requested. The executor’s letters of appointment and a Form 2848 Power of Attorney should be included with the request. Copies of the returns are provided for a set fee per return. Call 1-800-829-1040 for details.

Estate’s Liability for Income and Gift Taxes (§ 6501(d)).

The executor can make a request for prompt assessment of income and gift taxes with respect to any prior returns filed by the decedent or the executor by filing Form 4810. Doing so shortens the statute of limitations on a future assessment (or court proceeding without assessment for collection of tax) to 18 months from the date the request is filed. The request must specify the classes of tax and the taxable periods for which prompt assessment is requested. Treas. Reg. §301.6501(d)-1(b). The shorter statute of limitations will not apply to fraudulent returns or unfiled returns (§ 6501(c)), any returns with “substantial omissions” (§6501(e)), or certain other types of assessments described in section 6501(c). Observe that the shorter statute of limitations under this section protects not just the executor from personal liability but also the estate and its beneficiaries.

Executor’s Personal Liability for Income or Gift Taxes (§ 6905).

For an example of personal liability of an executor for the decedent’s gift taxes, see U.S. v. Bartlett, 89 A.F.T.R.2d 2002-1049 (executrix-surviving spouse was clearly aware of gift tax liability and made distribution to family trust, of which she was trustee and sole current beneficiary, rendering estate insolvent; trust beneficiaries also liable as transferees). The executor may file a written application (filed after the relevant tax return has been filed) requesting release from personal liability for the decedent’s income and gift taxes. The IRS then has 9 months to notify the executor of any amount due. After that date, the executor is discharged from personal liability for any deficiency thereafter found to be due. §6905. There is no particular form, but the provisions of Reg. §301.6905-1 should be followed. The request should be filed with the IRS officer with whom the estate tax return was filed (or, if no estate tax return was required, to the IRS office where the decedent’s final income tax return was filed.) After the nine-month period has run, the executor can safely distribute estate assets to beneficiaries without danger of being held personally liable for additional income or gift tax that may be assessed in the future. Filing the request for discharge of personal liability does not shorten the statute of limitations for the IRS to proceed against the estate (or the estate’s transferees under transferee liability principles.) If the executor is also the sole beneficiary of the estate, filing this request does no good—the IRS could still proceed against the estate and the beneficiary directly. If the executor is one of various beneficiaries, the request for prompt assessment only protects the executor from personal liability and does not protect the other family members at all.

Executor’s Personal Liability for Estate Taxes (§ 2204).

The executor may have personal liability for the estate taxes of the estate. See section IV.H.3. of this outline. The executor may request a discharge from personal liability of estate tax after nine months from making the application (or if the application is made before the return is filed, nine months after the due date of the return). §2204(a). The executor is discharged from personal liability with respect to any deficiency in the federal estate tax found to be due after the expiration of such nine-month period. If any estate tax is deferred under section 6161, 6163, or 6166, the executor can be released from personal liability by providing a bond (or a special lien in the case of tax deferred under section 6166.) There is no particular form, but the provisions of Reg. §20.2204-1 should be followed. Filing the request for discharge of personal liability does not shorten the statute of limitations for the IRS to proceed against the estate (or the estate’s transferees under transferee liability principles.) For a discussion of transferee liability for estate taxes, see section IV.H.4. of this outline.

Planning Strategies If Executor’s Personal Liability Extends Past Termination of Estate.

If the executor is ready to distribute the estate while the executor has potential outstanding personal liability for income, gift or estate taxes, one of the following strategies may allow the executor to feel comfortable with distributing the assets (and terminating the estate) before the potential personal liability has been finally resolved: (1) funded escrow agreement with executor holding reserved funds; (2) refunding agreement with appropriate indemnification provisions obligating beneficiaries to deliver funds to pay personal liability obligations of the executor; (3) creation of grantor trusts by beneficiaries with direction to deliver funds to executor to protect against personal liabilities; or (4) creation of limited liability company, with executor as sole manager with authority to distribute assets to executor to pay personal obligations for taxes.

B. Planning Considerations for Estate's Fiduciary Income Tax Return, Form 1041.

1. Consider Fiscal Year.

A decedent's estate may elect a non-calendar fiscal year as long as the first year does not exceed 12 months and the year ends on the last day of the calendar month. § 441(e); Reg. § 1.441-1T(b). The option to select a fiscal year applies to estates but not revocable trusts. § 644(a). However, a revocable trust of a decedent dying after August 5, 1997 may elect to be treated as part of the estate and not as a separate trust for all taxable years of the estate ending after the date of decedent’s death and before (1) two years after the date of death if no estate tax return is required, or (2) six months after the date of final determination of estate tax liability if an estate tax return is required. I.R.C. §645. For further discussion of the section 645 election, see section II.C.1.f of this outline.

Considerations in the selection of a non-calendar fiscal year include (1) deferring payment of income tax by the estate, (2) deferring beneficiaries' income tax on distributions, by allowing them to report the income in a taxable year after when the distribution was received in certain circumstances, and (3) using an initial short year to split income into two separate years, (4) if death occurs near the end of a calendar year, to allow additional time to generate deductions (for example, payment of fees) and to minimize the number of estate income tax returns required to be filed.

a. Time for Making Election.

The election of the estate's fiscal year must be made by the due date of the return without regard to extensions. Therefore, the decision may be made up to three and one-half months after the end of the month selected. §§441, 443(a)(2), 6072(a); Reg. §1.441.

b. Deferring Tax Liability.