Modifying a pre-1985 grandfathered trust will not trigger GST tax

Plain-English summary

A trust created before September 25, 1985 is "grandfathered," meaning it is exempt from the generation-skipping transfer (GST) tax as long as it is not improperly enlarged or changed in ways that shift benefits to younger generations or extend how long interests can vest. Here a family had created five near-identical irrevocable trusts, one per beneficiary; this ruling covers the trust for a third grandchild. That trust had earlier been split, with its real-estate assets moved into a sub-trust (Trust 1A), a division the IRS had already blessed. The family now wanted to further modify Trust 1A through a supplemental settlement agreement: extend and adjust its termination date, allow early termination by majority vote, broaden the trustees' distribution discretion, and drop one required annual distribution. The IRS ruled these modifications will not cause Trust 1A to lose its grandfathered GST-exempt status, because all distributions still flow only back to the original trust, the new termination date is still earlier than the original trust's, and no benefit shifts to a lower generation. This lets families adjust the administration of old trusts without losing a valuable tax exemption.

Ruling snapshot

• Question: Will the proposed modifications to a pre-September 25, 1985 grandfathered trust cause it to lose its GST-tax-exempt status?
• Outcome: approved
• Key authorities: IRC §§ 2601, 2612, 2651; Treas. Reg. § 26.2601-1(b)(1) and (b)(4)

Full text (IRS public release)

Internal Revenue Service                                       Department of the Treasury
                                                               Washington, DC 20224

Number: 202452007                                              Third Party Communication: None
Release Date: 12/27/2024                                       Date of Communication: Not Applicable
Index Number: 2601.03-01
                                                               Person To Contact:
------------------------------------------------------------   -------------------------- ID No. -----------------
----------------------                                         -----------------------------------------------------
----------------------------                                   Telephone Number:
-----------------------------                                  --------------------
                                                               Refer Reply To:
-------------------------                                      CC:PSI:B04
                                                               PLR-106912-24
----------------------------------------------------           Date:
                                                               September 26, 2024




Legend

Husband                           = -----------------
Wife                              = ------------------
Grandchild 1                      = ---------------------------------------------------
Grandchild 2                      = --------------------------------------------------------------
Grandchild 3                      = ------------------------------------------------------------
Trust 1                           = -------------------------------------------------------
Trust 1A                          = --------------------------------------------------------------------
Trust 2A                          = -----------------------------------------------------
Trust 3A                          = --------------------------------------------------------------
Probate Court                     = -----------------------------------------------------------------
State Court                       = ----------------------------------------------
                                    -----------------------------------
Settlement Agreement              = --------------------------------------------------
                                    ------------------------------------------------
Supplemental Settlement Agreement = -------------------------------------------------------------------
                                    ------------------------------------------------------------------
State Statute                     = -------------------------------------------------------------
a                                 = ----------------
b                                 = ---
Date 1                            = --------------------------
Date 2                            = ------------------------
Date 3                            = ------------------
Date 4                            = ----------------------
Date 5                            = -----------------------
Date 6                            = --------------------------
Date 7                            = --------------------------
PLR-106912-24                                           2

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

        This letter responds to your authorized representative’s letter dated
April 5, 2024 and subsequent correspondence, requesting a generation-skipping
transfer (GST) tax ruling with respect to the proposed modifications of Trust 1A.

        The facts and representations submitted are summarized as follows:

       On Date 1, a date prior to September 25, 1985, Husband and Wife created five
irrevocable trusts with substantively similar terms for different beneficiaries. Trust 1 was
created for the primary benefit of Grandchild 1. The other trusts were created for the
primary benefit of Grandchild 2, Grandchild 3, and two other family members who are
no longer living. At the time of this ruling submission, Grandchild 1, Grandchild 2, and
Grandchild 3 were living.

       Article I of Trust 1 provides that the trustees are to pay to or for the benefit of
Grandchild 1 so much of the net income from Trust 1 as the trustees in their sole
discretion shall determine to be necessary and desirable to provide for the health,
education, maintenance, and support (HEMS) of said beneficiary. In the event that the
net income is not sufficient to provide for the health, education, maintenance, and
support of said beneficiary, then the trustees may use such part of the principal as, from
time to time, in their sole discretion, they may determine to be necessary for such
purposes.

       Article II of Trust 1 provides that, upon the death of Grandchild 1, the trustees are
to pay to or for the benefit of the issue of Grandchild 1 such part of the net income from
Trust 1 as the trustees in their sole discretion shall determine to be necessary and
desirable to provide for the health, education, maintenance, and support of such issue.
In the event the trustees determine that the net income is not sufficient to provide for the
health, education, maintenance, and support of any one or more of such issue, then the
trustees may use such part of the principal as, from time to time, in their sole discretion,
they may determine to be necessary for such purposes.

       Article III of Trust 1 provides that, in the event Grandchild 1 and all issue of
Grandchild 1 die prior to the final distribution of Trust 1 properties, the remaining Trust 1
properties, principal, and any accumulated income, shall be paid over and delivered in
equal shares among the other trusts then in existence, namely the trusts benefiting
Grandchild 2 and Grandchild 3.

       Article XII of Trust 1 provides that Trust 1 will terminate 21 years after the last to
die of Grandchild 1, Grandchild 2, and Grandchild 3. Upon termination, all of the
properties remaining in Trust 1 shall be distributed to the then living beneficiaries of
Trust 1, share and share alike.
PLR-106912-24                                 3

       On Date 2, Grandchild 1, petitioned Probate Court, pursuant to State Statute, to
modify Trust 1. Probate Court approved the petition by order dated Date 3. Under the
Date 3 court order, Trust 1 was divided into two trusts: existing Trust 1 and new
Trust 1A. Trust 1A was formed and funded from the real estate assets in Trust 1 that
were separated from the other assets in Trust 1. Under equivalent circumstances per
the Date 3 court order, Trust 2A and Trust 3A have been formed for the real estate
assets held under the trusts benefiting Grandchild 2 and Grandchild 3.

       Under the Date 3 court order, the beneficiaries of Trust 1A agree to consider, and
the trustees of Trust 1A agree to utilize, the income and principal of Trust 1 first for the
beneficiaries’ HEMS distributions. The court order provided that the governing
instrument of Trust 1A will provide that in making distributions in accordance with the
HEMS standard, the trustees are to take into consideration a beneficiary’s distributions
of income and principal received from Trust 1 and other sources of income.

        Under the Date 3 court order, the beneficiaries of Trust 1A and the beneficiaries
of Trust 1 are and will be the same and each beneficiary has an identical interest in
Trust 1A as each has in Trust 1. However, the court order provides that the trustees of
Trust 1A will make all transfers and distributions to the trustee of Trust 1 in order to
satisfy any transfers or distributions the trustees of Trust 1A may be required to make to
Trust 1 or its beneficiaries under the governing instrument of Trust 1A, by law, or under
Settlement Agreement, so that no distributions will be made directly from Trust 1A to the
beneficiaries.

       Pursuant to the Date 3 court order and other judicial trust modification judgments,
Trust 1A is to terminate on the earlier of: Date 6 (less than 21 years from the current
date) or the failure of the trustees to do any one or more of the following: (1) distribute
to Trust 1 the amount by which the value of Trust 1A’s cumulative liquid assets exceeds
$a; (2) distribute at least annually to Trust 1, one-half of the cumulative amount of net
cash used in investing activities for all of the subsidiaries of Trust 1A; (3) and maintain a
debt to asset ratio of b percent or less in each subsidiary of the trust. Upon termination,
the assets of Trust 1A are to be distributed to Trust 1.

       In PLR 201642028, the Internal Revenue Service previously ruled favorably that
the division and modification of Trust 1 pursuant to the Date 3 court order did not cause
any trust to be subject to the provisions of chapter 13.

       Since the issuance of the prior ruling, issues concerning the administration of
Trust 1A have arisen. The beneficiaries and the trustees entered into a Supplemental
Settlement Agreement on Date 4. The Supplemental Settlement Agreement proposes
to modify Trust 1A as follows: (1) extend the termination date of Trust 1A from Date 6
to Date 7 (less than 21 years from the current date); (2) allow for an early termination of
Trust 1A, based upon the majority vote of the distributees of Trust 1A, Trust 2A, and
Trust 3A; (3) allow the trustees of Trust 1A to make discretionary distributions to Trust 1
by considering the best interests of the primary beneficiaries of Trust 1A in addition to
PLR-106912-24                                  4

the existing HEMS standard; and (4) eliminate the provision requiring the trustees to
distribute at least annually one-half of the cumulative amount of net cash used in
investing activities for all of the subsidiaries of Trust 1A to Trust 1. On Date 5, State
Court approved the terms of the Supplemental Settlement Agreement pending a
favorable private letter ruling issued by the Service.

       The trustees of Trust 1A represent that no additions have been made to Trust 1A
after September 25, 1985.

         You have requested the following ruling:

         Neither the transactions nor the trust modifications set forth in the Supplemental
         Settlement Agreement will cause Trust 1A to lose its status as exempt from the
         provisions of chapter 13 and that any distributions or terminations of interests
         therein will not be subject to the GST tax.

Ruling

        Section 2601 imposes a tax on every GST made after October 26, 1986. A GST
is defined under § 2611(a) as (1) a taxable distribution, (2) a taxable termination, and
(3) a direct skip.

        Section 2612(a) provides that the term “taxable termination” means a termination
(by death, lapse of time, release of a power, or otherwise) of an interest in property held
in a trust unless (A) immediately after such termination, a non-skip person has an
interest in such property, or (B) at no time after such termination may a distribution
(including distributions on termination) be made from such trust to a skip person.

        Section 2612(b) provides that the term “taxable distribution” means any
distribution from a trust to a skip person (other than a taxable termination or a direct
skip).

       Under § 2612(c)(1), a direct skip is a transfer subject to federal estate or gift tax
of an interest in property to a skip person.

       Under § 1433(a) of the Tax Reform Act of 1986 (Act) and § 26.2601-1(a) of the
Generation-Skipping Transfer Tax Regulations, the GST tax is generally applicable to
GSTs made after October 22, 1986. However, under § 1433(b)(2)(A) of the Act and
§ 26.2601-1(b)(1)(i), the GST tax does not apply to a transfer under a trust that was
irrevocable on September 25, 1985, but only to the extent that such transfer is not made
out of corpus added to the trust after September 25, 1985 (or out of income attributable
to corpus so added). Under § 26.2601-1(b)(1)(ii), any trust in existence on
September 25, 1985, will be considered irrevocable unless the settlor had a power that
would have caused inclusion of the trust in his or her gross estate under § 2038 or
§ 2042, if the settlor had died on September 25, 1985.
PLR-106912-24                                 5


        Section 26.2601-1(b)(4)(i) provides rules for determining when a modification,
judicial construction, settlement agreement, or trustee action with respect to a trust that
is exempt from the GST tax under § 26.2601-1(b)(1), (2), or (3) (hereinafter referred to
as an exempt trust) will not cause the trust to lose its exempt status. In general, unless
specifically provided otherwise, the rules contained in § 26.2601-1(b)(4) are applicable
only for purposes of determining whether an exempt trust retains its exempt status for
GST tax purposes. Thus (unless specifically noted), the rules do not apply in
determining, for example, whether the transaction results in a gift subject to gift tax, or
may cause the trust to be included in the gross estate of a beneficiary, or may result in
the realization of gain for purposes of § 1001.

       Section 26.2601-1(b)(4)(i)(D)(1) provides that a modification of the governing
instrument of an exempt trust (including a trustee distribution, settlement, or
construction that does not satisfy § 26.2601-1(b)(4)(i)(A), (B), or (C)) by judicial
reformation, or nonjudicial reformation that is valid under applicable state law will not
cause an exempt trust to be subject to the provisions of chapter 13, if the modification
does not shift a beneficial interest in the trust to any beneficiary who occupies a lower
generation (as defined in § 2651) than the person or persons who held the beneficial
interest prior to the modification, and the modification does not extend the time for
vesting of any beneficial interest in the trust beyond the period provided for in the
original trust.

        Section 26.2601-1(b)(4)(i)(D)(2) provides that for purposes of § 26.2601-1, a
modification of an exempt trust will result in a shift in beneficial interest to a lower
generation beneficiary if the modification can result in either an increase in the amount
of a GST transfer or the creation of a new GST transfer. To determine whether a
modification of an irrevocable trust will shift a beneficial interest in a trust to a
beneficiary who occupies a lower generation, the effect of the instrument on the date of
the modification is measured against the effect of the instrument in existence
immediately before the modification. If the effect of the modification cannot be
immediately determined, it is deemed to shift a beneficial interest in the trust to a
beneficiary who occupies a lower generation (as defined in § 2651) than the person or
persons who held the beneficial interest prior to the modification. A modification that is
administrative in nature that only indirectly increases the amount transferred (for
example, by lowering administrative costs or income taxes) will not be considered to
shift a beneficial interest in the trust.

       In the present case, the trustees are proposing to modify the termination date of
Trust 1A. The termination date is extended from Date 6 to Date 7 and the conditions for
when termination can occur prior to Date 7 are also modified. However, all distributions
from Trust 1A, including distributions made upon the termination of Trust 1A, are only
made to Trust 1. No distributions will be made directly from Trust 1A to the
beneficiaries. The extended termination date of Trust 1A is still prior to the termination
date of Trust 1, 21 years after the last to die of Grandchild 1, Grandchild 2, and
PLR-106912-24                                  6

Grandchild 3. Thus, the modification will not extend the time for vesting of any
beneficial interest in Trust 1A beyond the period provided for in the original trust,
Trust 1. In addition, the modification will not shift any beneficial interest in Trust 1A to a
beneficiary who occupies a lower generation (as defined in § 2651) than the person or
persons who held the beneficial interest prior to the division. Accordingly, based upon
the facts submitted and the representations made, we conclude that the trust
modifications set forth in the Supplemental Settlement Agreement will not cause
Trust 1A to lose its status as exempt from the provisions of chapter 13 and that
distributions or terminations of interests therein subject to the GST tax.

      In accordance with the Power of Attorney on file with this office, we have sent a
copy of this letter to your authorized representatives.

       Except as expressly provided herein, we neither express nor imply any opinion
concerning the tax consequences of any aspect of any transaction or item discussed or
referenced in this letter.

      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.

     A copy of this letter should be attached to any gift, estate, or GST tax returns that
you may file relating to this matter.

      This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3)
provides that it may not be used or cited as precedent.


                                       Sincerely,


                                      Melissa Liquerman
                                      ______________________________
                                      [Melissa Liquerman]
                                      Senior Counsel, Branch 4
                                      Office of the Associate Chief Counsel
                                      (Passthroughs and Special Industries)
PLR-106912-24                                              7

Enclosure:
      Copy for § 6110 purposes

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