Alaska Native Settlement Trust qualifies for section 646 treatment

Plain-English summary

An Alaska Native Corporation established a settlement trust to support beneficiaries' health, education, welfare, heritage, and culture and planned additional contributions to it. The IRS ruled that the arrangement would be classified as a trust, not an association or partnership, and would be governed by section 646 while its election remained effective. Contributions would not create income for the shareholders, beneficiaries, or trust, reduce the corporation's earnings and profits, or give the corporation a deduction. The corporation would recognize gain when contributed property's fair market value exceeded basis, and the trust would take fair-market-value basis in that property. Reasonable service agreements between the corporation and trust would not invalidate the section 646 election or trigger the grantor-trust rules.

Ruling snapshot

• Question: What federal tax rules apply to the Alaska Native Corporation's settlement trust, contributions, beneficiary interests, and service agreements?
• Outcome: Approved, with section 646 treatment and specified contribution, gain, basis, and holding-period consequences.
• Key authorities: IRC §§ 301, 311, 646, and 1223; Treas. Reg. § 301.7701-4(a).

Full text (IRS public release)

Number: 201527004
Release Date: 7/2/2015
Internal Revenue Service Department of the Treasury
Washington, DC 20224

Index Number: 301.00-00, 671.02-00,
7701.03-00, & 646.00-00
Person To Contact:
--------------------------- ----------------------------------------------------
-------------------------------------------------------- Telephone Number:
------------------------------------------ -------- --------------
---------------------------------- Refer Reply To:
CC:PSI:B03
PLR-128387-14
- Date:
- January 07, 2015

X = ------------------------------

Trust = ------------------------------------------------------------

Trust Agreement = ------------------------------------------------------------------

Date 1 = ------------------------

Date 2 = ------------------

a = --------

b = ----

c = --------

d = --------------

e = ----------------

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

   This letter responds to a letter dated July 9, 2014, and subsequent

correspondence, submitted on behalf of X and Trust, requesting rulings on several
issues arising from the establishment, funding, and potential termination of Trust under
§ 646 of the Internal Revenue Code and other provisions.

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                                 BACKGROUND

   The Alaska Native Claims Settlement Act of 1971 (“ANCSA”), 43 U.S.C. 1601 et

seq., settled the Alaska natives’ claims to land and resources. The ANCSA implements
the settlement of native Alaskans’ aboriginal land claims by providing for the
conveyance of certain lands and money (“Alaska Native Fund”, or “ANF”) to Alaska
Native Corporations (“ANCs”) established by qualified Alaska natives as compensation.

   The ANCSA provides that U.S. citizens with ¼ or more of Alaska Indian, Eskimo,

or Aleut blood, who were living on December 18, 1971, were qualified to participate in
the settlement. The natives who qualified to participate in the settlement were allowed
to enroll as stockholders and receive stock (“Settlement Common Stock”) in one of the
twelve regional corporations and in one local village corporation created under the act to
receive assets.

    The ANCSA, as originally enacted, provided that for a period of 20 years after

December 18, 1971, the stock, inchoate rights thereto, and any dividends paid or
distributions made with respect thereto may not be sold, pledged, subjected to a lien or
judgment execution, assigned in present or future, or otherwise alienated. This
limitation, however, did not apply to transfers of stock pursuant to a court decree of
separation, divorce, or child support; by a stockholder who is a member of a
professional organization, association, or board that limits the ability of that stockholder
to practice his profession because of holding such stock; or by inter vivos gift to certain
family members. The ANCSA also provided that upon the death of any stockholder,
ownership of such stock shall be transferred to any person in accordance with the last
will and testament of the deceased or under the applicable laws of intestacy, except that
during the 20-year period after December 18, 1971, such stock shall carry voting rights
only if the holder thereof through inheritance is also an Alaska native.

   Subsequent amendments to the ANCSA generally extend beyond December 18,

1981, the alienability restrictions on the Settlement Common Stock of an ANC unless
and until the shareholders of the corporation decide to terminate them. 43 U.S.C.
§ 1629c. If the shareholders vote to terminate the alienation restrictions on the stock, all
Settlement Common Stock is canceled as a matter of law and is replaced with
unrestricted Replacement Common Stock. 43 U.S.C. § 1606(h)(3). Thereupon, the
special character of the corporation as an ANC created under the ANCSA ceases and
the corporation becomes a regular domestic corporation subject to regulation under
securities laws.

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     To accommodate the desire of certain ANCs to transfer a portion of their assets

out of the corporate form, the Alaska Native Claims Settlement Act Amendment of 1987
authorizes the conveyance of certain assets of an ANC to a state-chartered Settlement
Trust. 43 U.S.C. § 1629e. The general purpose of a Settlement Trust is to preserve
native heritage and culture and to promote the health, education, and economic welfare
of its beneficiaries, the shareholders of the transferor ANC, and their lawful successors.
The trust is to be used to insulate permanently land, as well as other assets transferred
to it, from the business risks undertaken by the corporation. Such trusts may not
operate as a business nor may they make a subsequent transfer of land or interests
therein except for a reconveyance to the transferor corporation, if such reconveyance is
authorized in the trust instrument. 43 U.S.C. § 1629e.

    If the board of directors of an ANC adopts a resolution to establish a Settlement

Trust, the resolution to establish the trust must be submitted to a vote of the
corporation’s shareholders for approval. 43 U.S.C. §§ 1629(a)(3) and 1629b(b). The
shareholders, however, are not required to approve the conveyance of any assets by
the corporation to the trust unless all or substantially all of the assets of the corporation
are to be conveyed. 43 U.S.C. § 1629e(a)(1)(B).

  Section 646 was enacted as part of the Economic Growth and Tax Relief

Reconciliation Act of 2001 (EGTRRA). Section 646 addresses several aspects
concerning the tax treatment of Alaska Native Settlement Trusts.

                                       FACTS

   The information submitted states that X was incorporated as an ANC pursuant to

the ANCSA and Alaska state law. X has approximately a shareholders, predominantly
of Alaskan Native descent. On Date 1, X’s Board of Directors approved a plan to
establish Trust. On Date 2, X’s shareholders approved Trust as a Settlement Trust
pursuant to the ANSCA and Alaska state law. In addition to a contribution of $c already
made to Trust, upon receipt of this letter ruling, X’s Board of Directors anticipate
contributing approximately $d to Trust.

    Under the ANCSA, the purpose of a Settlement Trust is to promote the health,

education and welfare of its beneficiaries and preserve the heritage and culture of the
Alaska Natives. Trust also provides periodic financial benefits to X’s elders. Under
Trust Agreement, in addition to the contribution of $c and $d to Trust, Trust Agreement
provides that X is authorized to convey additional property to Trust in the future. Trust
is irrevocable and may not be altered, amended, or terminated except as provided in
Trust Agreement and as required by the ANCSA. Trust Agreement provides for
termination if Trust experiences an event that has a materially adverse effect on Trust
objectives. Trust’s beneficiaries will be the holders of X’s Settlement Common Stock.

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The beneficiaries will hold the same number and same class of “Trust Units” in Trust as
they have shares of X’s Settlement Common Stock. Trust Agreement also provides that
the trust units may not be transferred separately from X’s Settlement Common Stock.
(This is referred to as “stapled” together).

    Trust Agreement also provides that the trustees may, but need not, make

distributions of Trust’s net cash income to all beneficiaries aged 62 or older. However,
the trustees may not make distributions if the value of the Trust’s fund totals less than
$e. Each person who, as of the date selected by the trustees, meets the definition of
beneficiary shall receive an equal or pro rata share of Trust’s distribution. Trust
Agreement also provides that the trustees may not distribute Trust’s principal except in
limited circumstances.

    Trust Agreement provides that there shall be b trustees. The initial trustees are

the Board of Directors of X. In the event of a vacancy, the impending vacancy shall be
deemed filled when the corresponding directorship of X is filled. However, if X is
merged, dissolved, or consolidated, or if X’s shareholders vote to terminate the
alienation restrictions on the X Settlement Common Stock, but Trust does not terminate,
each serving trustee shall be converted to a term appointment as trustee. At that time,
each beneficiary will be notified of an impending vacancy and will be eligible to declare
their candidacy. The candidates with the most votes shall be elected to the positions to
be filled in order of the most votes received.

    The trustees are prohibited from exercising any power primarily for the benefit of

X or its affiliates, rather than for the benefit of Trust’s beneficiaries. The trustees are
also prohibited from operating a business within Trust.

  Trust Agreement provides that except as provided in 43 U.S.C. § 1629e(c), Trust

assets are not subject to the claims of the creditors of X or to satisfy any liabilities of X.

   X represents that Trust will make the election under § 646(c) to have the

provisions of § 646 apply to Trust.

    X proposes to enter into service agreements with Trust for Trust’s use of goods,

services and facilities provided by X for Trust’s administrative responsibilities. X may be
paid a fee by Trust for such use. Any fee paid will constitute a reasonable amount and
will be no more than a fee that would be charged by an unrelated third party.

                               LAW & DISCUSSION

    Section 301.7701-4(a) of the Procedure and Administration Regulations provides

that, in general, an arrangement will be treated as a trust under the Code if the purpose

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of the arrangement is to vest in trustees responsibility for the protection and
conservation of property for beneficiaries who cannot share in the discharge of this
responsibility and, therefore, are not associates in a joint enterprise for the conduct of
business for profit.

   Section 646(a) provides that if a § 646 election is in effect with respect to any

Settlement Trust, the provisions of § 646 shall apply in determining the income tax
treatment of the Settlement Trust and its beneficiaries with respect to the Settlement
Trust. Accordingly, subpart E of part 1 of subchapter J of chapter 1 of the Code (the
grantor trust provisions under §§ 671 through 679) will not govern the income tax
treatment of Trust during any period that the § 646 election is in effect for Trust.

    Section 301(a) provides, in general, that except as otherwise provided, a

distribution of property (as defined by § 317(a)) made by a corporation to a shareholder
with respect to its stock shall be treated in the manner provided in § 301(c). Under
§§ 301(c) and 316, the distribution shall be taxable as a dividend to the extent of the
earnings and profits of the distributing corporation.

  Section 301(d) provides that the basis of property received in a distribution to

which § 301(a) applies shall be the fair market value of such property.

   Section 311(b)(1) provides that if a corporation distributes property (other than an

obligation of the corporation) to a shareholder in a distribution to which subpart A
applies, and the fair market value of the property exceeds its adjusted basis (in the
hands of the distributing corporation), then gain shall be recognized to the distributing
corporation as if such property were sold to the distributee at its fair market value.

    Section 646(b)(1) provides that there is imposed on the taxable income of an

electing Settlement Trust, other than its net capital gain, a tax at the lowest specified
rate in § 1(c).

  Section 646(b)(2) provides that in the case of an electing Settlement Trust with a

net capital gain for the taxable year, a tax is imposed on such gain at a rate of tax that
would apply to such gain if the taxpayer were subject to a tax on its other taxable
income at only the lowest rate specified in § 1(c).

   Section 646(d)(1) provides that in the case of an electing Settlement Trust, no

amount shall be includible in the gross income of a beneficiary of such trust by reason
of a contribution to the trust.

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   Section 646(d)(2) provides that the earnings and profits of the sponsoring Native

Corporation shall not be reduced on account of any contribution to such Settlement
Trust.

   Section 646(g) provides that the taxable income of an electing Settlement Trust

shall be determined under § 641(b) without regard to any deduction under §§ 651 or
661.

   Section 646(i) provides that any loss that would otherwise be recognized by a

shareholder upon a disposition of a share of stock of a sponsoring Native Corporation
shall be reduced (but not below zero) by the per share loss adjustment factor. The per
share loss adjustment factor shall be the aggregate of all contributions to all Electing
Settlement Trusts sponsored by such Native Corporation made on or after the first day
each trust is treated as an electing Settlement Trust expressed on a per share basis
and determined as of the day of each such contribution.

   The initial conveyance of ANF assets (land and cash) to the ANC’s has been

characterized by the Service as payment to the natives to participate in the settlement.
These natives are deemed to have contributed the ANF assets to native corporations in
exchange for ANC stock in a transaction qualifying under § 351. The shareholders’
basis in stock is determined according to § 358, which provides generally that the basis
of the stock shall be the same as that of the property exchanged. Under § 21(c) of the
ANCSA, the basis of the property exchanged is the fair market value of the property at
the time of receipt from the government, subject to certain modifications.

   Section 1223(2) provides that, in determining the period for which the taxpayer

has held property however acquired, there shall be included the period for which the
property was held by any other person, if under chapter 1 of the Code such property
has, for the purpose of determining gain or loss from a sale or exchange, the same
basis in whole or in part in his hands as it would have in the hands of such other person.

                                CONCLUSIONS

     Accordingly, based solely on the facts submitted and the representations made

in this ruling request, and provided that Trust meets all the requirements to be a
Settlement Trust, and makes an election under § 646(c) which remains in effect, we rule
as follows:

1. Trust will be classified as a trust for federal tax purposes and is not an
   association or a partnership and is a separate entity for federal tax purposes.
   Section 301.7701-4(a).

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2. The income tax treatment of Trust will be governed by § 646. Section 646(a).

3. No amount will be included in the gross income of X’s shareholders or Trust’s
   beneficiaries when X contributes property (including cash) to Trust. Section
   646(d)(1).

4. X’s contributions to Trust will not constitute gross income to Trust.

5. X’s earnings and profits will not be reduced on account of any contribution by X
   to Trust. Section 646(d)(2).

6. X will not be allowed any deduction for any amounts contributed to Trust.

7. X will recognize gain on any property (including ANCSA land) contributed to
   Trust that has a fair market value in excess of its basis, in an amount equal to the
   excess of the property’s fair market value over its adjusted basis for X. Section
   311(b). The basis of such property in the hands of Trust will be equal to its fair
   market value on the day the property is contributed to Trust. Section 301(d).

8. Trust’s holding period for the property contributed to Trust to which X must
   recognize gain under § 311(b) will begin on the day Trust receives the property.
   Cf. § 1223(2).

9. With regard to contributions by X to Trust, the shareholders of X will receive no
   basis in their respective Trust units.

10. Each shareholder’s basis of Settlement Common Stock in X will be as follows:

     a. The native shareholder’s ratable portion of Alaska Native Fund (“ANF”)
        proceeds received by X pursuant to the ANCSA, minus the amount of
        ANF proceeds transferred by X pursuant to 43 U.S.C § 1606(j) (to the
        extent applicable); plus
    
     b. The native shareholder’s ratable portion of X’s basis, as determined by 43
        U.S.C § 1620(c), in the land and interests in land received by X pursuant
        to the ANCSA, minus the native shareholder’s ratable share of X’s basis in
        land and interests the ANCSA required (or requires) X to transfer pursuant
        to 43 U.S.C. § 1613 and 43 U.S.C § 1611 (to the extent applicable); minus
    
     c. X’s basis in land distributed to the native shareholder under 43 U.S.C
        § 1620(j);
    
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      d. Any other adjustment to the native shareholder’s basis in stock required
         by the Code, including adjustments under § 301(c)(2); and
    
      e. No adjustment to the native shareholder’s basis in X stock should be
         made at the time of X’s contributions to Trust.
    

11. The service agreements will not affect the § 646 election of Trust nor cause the
    grantor trust rules to apply to Trust.

    Except as specifically set forth above, we express or imply no opinion as to the
    federal tax consequences of the transaction described above under any other
    provisions of the Code. Furthermore, we express no opinion as to Trust’s basis in
    property contributed by X to Trust where X does not have to recognize gain under
    § 311(b). We also express or imply no opinion as to whether the expenses incurred by
    Trust with respect to the service agreements are reasonable or represent fair value.

    This ruling is directed only to the taxpayer who requested it. According to
    § 6110(k)(3), this ruling may not be used or cited as precedent. Pursuant to a power of
    attorney on file with this office, we are sending a copy of this letter to Trust and to X and
    Trust’s authorized representatives.

    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 rulings requested, it is subject to verification on
    examination.

                                       Sincerely,
    
                                       James A. Quinn
                                       Senior Counsel, Branch 3
                                       Office of Associate Chief Counsel
                                       (Passthroughs and Special Industries)
    

Enclosures (2):

   A copy of this letter
   A copy for § 6110 purposes