PLR 200920033: Proposed residence trust avoided section 2702 if QPRT conditions were met

Plain-English summary

A father had placed a residence in a qualified personal residence trust, retained a term interest, and transferred the remainder to his son when that term expired. The son proposed placing his interest in a new irrevocable trust that would give the father and mother a term interest to occupy the residence, or an annuity if the trust converted. The family asked whether section 2702(a)(1) and (2) would apply to the son’s transfer. The IRS ruled those provisions would not apply if the new trust instrument was substantially similar to the QPRT sample in Revenue Procedure 2003-42, the trust operated consistently with its terms, and it was valid under local law. The residence also had to qualify as a personal residence under the regulations. The IRS expressed no opinion on whether the transfer would cause estate inclusion for the father under section 2036.

Ruling snapshot

• Question: Would section 2702(a)(1) and (2) apply when the son transferred the residence to a new trust providing a term interest for his parents?
• Outcome: Approved conditionally: those provisions would not apply if the instrument, operation, local-law validity, and personal-residence requirements were satisfied.
• Key authorities: IRC §§ 2036, 2702(a); Treas. Reg. § 25.2702-5; Rev. Proc. 2003-42; Rev. Proc. 2008-3.

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 200920033
Third Party Communication: None
Release Date: 5/15/2009
Date of Communication: Not Applicable

Index Number: 2702.02-02
Person To Contact:
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Telephone Number:
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Refer Reply To:
CC:PSI:B04
In Re: PLR-144553-08
------------------------------------------------------------ Date: FEBRUARY 03, 2009
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LEGEND:

Father = -----------------------------------------------
Mother = ---------------------
Residence = -----------------------------------------------------------------------------
-----------
Son = ----------------------------------------------
Trust 1 = -------------------------------------------------------------------
---------------------------
Trust 2 = -----------------------------------------------------------------------------
----------
Date 1 = -------------------------------
Date 2 = ----------------------
Date 3 = ---------------------------
Year 1 = -------------
Modification = -----------------------------------------------------------------------------
-----------------------------------
y = ---------
z = -------

Dear --------------:

This is in response to your October 14, 2008 letter and other correspondence requesting a ruling under § 2702 of the Internal Revenue Code with respect to the proposed transfer of a residence to a trust.

The facts submitted are as follows:
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Prior to Date 1, Father owned Residence outright. On Date 1, Father deeded his interest in Residence to Trust 1. Trust 1 provided that Father would retain a term interest to possess and occupy Residence for y years.

Article V, Section C of Trust 1 provides, in relevant part, that upon the expiration of the y year period, if Father is still living, Father’s retained interest is to expire and Trust 1 is to continue for the benefit of Father’s issue. Trust 1 is to terminate and be distributed to Father’s issue, in complete liquidation of Trust 1 on the later to occur of Father’s death or the death of Father’s spouse.

Father served as trustee of Trust 1. Trust 1 was intended to qualify as a qualified personal residence trust (QPRT) as described in § 25.2702-5(c). Father reported the transfer of Residence to Trust 1 on a Form 709, United States Gift (and Generation-Skipping Transfer) Tax return, for Year 1.

As of Date 2 (y years after Date 1), Father’s term interest in Residence expired and the remainder interest in Residence passed to Son, Father’s son.

On Date 3, Father, in his capacity as settlor and trustee of Trust 1, with the joinder and consent of Son, executed Modification to modify Article V, Section B of Trust 1. Modification retains the terms of the original Section B but adds a further provision that, upon the expiration of the retained term (Father’s retained interest) and upon the direction of a majority of the current remainder beneficiaries, the trustee may liquidate the trust or provide a gift to anyone the majority of the current remainder beneficiaries so chooses of a term interest in any real property of the trust estate that will be occupied by the term interest holder as their principal residence. Furthermore, such directions may include the conveyance by gift or sale, in trust or otherwise, of a term interest in any residence that is part of the trust estate.

Son intends to create an irrevocable trust, Trust 2, to which he will transfer his interest in Residence. Trust 2 provides that Son desires to transfer a z year term interest to possess and occupy Residence to Father and Mother (Father’s wife), or, upon conversion to an annuity trust, to transfer the annual annuity amount, for z year. Son will convey Residence to trustee by warranty deed, delivered to the trustee of Trust 2 from Son contemporaneous with the execution of Trust 2. Father and Mother will serve as co-trustees of Trust 2.

You have requested a ruling that §§ 2702(a)(1) and 2702(a)(2) will not apply to the proposed transfer of Residence from Son to Trust 2.

LAW AND ANALYSIS

Section 2702(a)(1) provides that, solely for purposes of determining whether a transfer of an interest in trust to (or for the benefit of) a member of the transferor's family
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is a gift (and the value of such transfer), the value of any interest in such trust retained by the transferor or any applicable family member (as defined in § 2701(e)(2)) shall be determined as provided in § 2702(a)(2).

Section 2702(a)(2) provides that the value of any retained interest that is not a qualified interest is treated as being zero. The value of any retained interest that is a qualified interest is determined under § 7520.

Section 2702(a)(3)(A)(ii) provides that § 2702(a) shall not apply to any transfer if such transfer involves the transfer of an interest in trust all the property in which consists of a residence to be used as a personal residence by persons holding term interests in such trust.

Section 25.2702-5(a)(1) of the Gift Tax Regulations provides, in part, that § 2702 does not apply to a transfer in trust meeting the requirements of that section. A transfer in trust meets the requirements of the section only if the trust is a personal residence trust (as defined in § 25.2702-5(b)). A trust meeting the requirements of a qualified personal residence trust (as defined in § 25.2702-5(c)) is treated as a personal residence trust.

Section 25.2702-5(c)(1) provides that for purposes of § 2702(a)(3)(A)(ii), a qualified personal residence trust is a trust meeting all the requirements of the section. These requirements must be met by provisions in the governing instrument, and these governing instrument provisions must by their terms continue in effect during the existence of any term interest in the trust.

Section 25.2702-5(c)(5) provides that, in general, except as otherwise provided in § 25.2702-5(c)(5)(ii) and § 25.2702-5(c)(8), the governing instrument of a qualified personal residence trust must prohibit the trust from holding, for the entire term of the trust, any asset other than one residence to be used or held for use (within the meaning of § 25.2702-5(c)(7)(i)) as a personal residence of the term holder. Under § 25.2702-5(c)(5)(ii), the trust may hold certain assets listed in that section in addition to the personal residence.

Section 25.2702-5(c)(2)(i) provides that a personal residence of a term holder is either the principal residence of the term holder (within the meaning of § 1034); one other residence of the term holder (within the meaning of § 280A(d)(1) but without regard to § 280A(d)(2)); or an undivided fractional interest in either.

Section 25.2702-5(c)(2)(ii) provides that a personal residence may include appurtenant structures used by the term holder for residential purposes and adjacent land not in excess of that which is reasonably appropriate for residential purposes (taking into account the residence's size and location).
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Section 25.2702-5(c)(2)(iii) provides that a residence is a personal residence only if its primary use is as a residence of the term holder when occupied by the term holder. A residence is not used primarily as a residence if it is used to provide transient lodging and substantial services are provided in connection with the provision of lodging (e.g., a hotel or a bed and breakfast). A residence is not a personal residence if, during any period not occupied by the term holder, its primary use is other than as a residence.

Section 4.01(52) of Rev. Proc. 2008-3, 2008-1 I.R.B. 110, 118, provides that rulings will not ordinarily be issued on whether a trust with one term holder satisfies the requirements of § 2702(a)(3)(A) and § 25.2702-5(c) to be a QPRT. Rev. Proc. 2003-42, 2003-1 C.B. 993, provides sample trust provisions for QPRTs. The Service will recognize a trust as meeting all of the requirements of § 2702(a)(3)(A) and § 25.2702-5(c) if the trust instrument is substantially similar to the sample in section 4 of Rev. Proc. 2003-42 and the trust operates in a manner consistent with the terms of the trust instrument and is a valid trust under applicable local law.

Accordingly, based on the facts submitted and the representations made, we conclude that §§ 2702(a)(1) and 2702(a)(2) will not apply to the proposed transfer of Residence from Son to Trust 2, if the Trust 2 instrument is substantially similar to the sample in section 4 of Rev. Proc. 2003-42 and the trust operates in a manner consistent with the terms of the trust instrument and is a valid trust under applicable local law, and if Residence qualifies as a personal residence as defined in § 25.2702-5(c)(2).

In accordance with the Power of Attorney on file with this office, a copy of this letter is being sent to your authorized representative.

Except as expressly provided herein, no opinion is expressed or implied concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter. Specifically, no opinion is expressed or implied concerning whether the transfer of Residence to Trust 2 would result in Residence being included in the gross estate of Father under § 2036.

The rulings contained in this letter are based upon information and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party. While this office has not verified any of the material submitted in support of the request for rulings, it is subject to verification on examination.
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This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3) of provides that it may not be used or cited as precedent.

Sincerely,

_______
Lorraine E. Gardner
Senior Counsel, Branch 4
Office of the Associate Chief Counsel
(Passthroughs and Special Industries)

Enclosure:
Copy of letter for section 6110 purposes