Taxation in Estate Planning Flashcards

Under the 'reciprocal trust doctrine,' courts collapse two trusts created by spouses for each other when:

Answer: The trusts are interrelated and leave the grantors in approximately the same economic position as before

The reciprocal trust doctrine causes mutual SLATs or similar arrangements to be uncrossed, pulling assets back into each grantor's estate, when the trusts are substantially identical and interrelated.

Which of the following best describes the 'transfer tax inclusion ratio' for GST purposes?

Answer: The portion of a trust transfer that is subject to GST tax, equal to one minus the applicable fraction

The inclusion ratio equals 1 minus the applicable fraction (GST exemption allocated divided by the value of the property transferred), determining the fraction of each distribution subject to GST tax.

A sale to an intentionally defective grantor trust (IDGT) avoids gift tax on the appreciation because the transaction is structured as a:

Answer: Bona fide sale in exchange for a promissory note

In an IDGT sale, the grantor sells assets to the trust in exchange for a promissory note at the AFR, so no gift tax applies to the appreciation, and because the trust is a grantor trust, no capital gains tax is recognized on the sale.

State estate taxes differ from the federal estate tax in that many states have:

Answer: Lower exemption thresholds, meaning more estates owe state estate tax

Many states that impose estate tax have significantly lower exemption thresholds than the federal exemption, causing moderate-sized estates to owe state estate tax even if no federal tax is due.

Which estate planning technique uses the applicable federal rate (AFR) as a key benchmark for determining whether a loan between family members is treated as a bona fide loan or a taxable gift?

Answer: Intra-family loan strategy under IRC §7872

IRC §7872 requires that intra-family loans charge at least the applicable federal rate (AFR); loans below the AFR trigger imputed interest income and a deemed gift of the interest shortfall.

The 'phantom income' problem in S corporation estate planning occurs when:

Answer: An estate or trust beneficiary owes income tax on S corporation pass-through income that is not actually distributed in cash

S corporation income is taxed to shareholders annually regardless of distributions, creating phantom income—a tax liability without corresponding cash to pay it—especially problematic for estates and trusts.

Under IRC §2642(c), a direct skip transfer to a grandchild that qualifies for the annual gift tax exclusion will have a GST inclusion ratio of zero only if:

Answer: The transfer is made outright or through a trust that benefits only that grandchild during their lifetime

Under IRC §2642(c), the inclusion ratio is automatically zero for annual-exclusion direct skips made outright or through a trust solely for one grandchild, with any remainder going to their estate.