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IN TAX, CLOSE CAN MEAN NO CIGAR

November 30, 2007

Sometimes it's not enough to do what the tax law wants you to do. You have to also do it the way the tax law says. This is especially true in the baroque area of estate planning.

Anthony J. Tamulus, a Catholic priest, was blessed with a high net worth, and he died with a $3.4 million estate. He set up a charitable remainder trust; the income from the trust assets went to relatives during the lives of his brother and his sister-in-law; the remainder went to a diocese of the Church.

Unfortunately, he didn't do it the right way. The trust wasn't set up as a "unitrust," which would distribute either a fixed dollar amount or a specific percentage of the trust's value to the life beneficiaries. The trust also missed a deadline to get the document corrected by the Illinois courts. That meant the estate failed to qualify for a charitable deduction for the present value of the interest going to the Church.

The trustee argued that they "substantially" complied with the law, because the distributions were made as if the trust document were a unitrust. Writing for the court, Judge Posner said that wasn't good enough:

The executor-trustee, represented by counsel, as he was, and well aware that a substantial tax deduction was at stake, had no excuse for failing to bring the required judicial proceeding to reform the trust. The requirement is not unimportant; it protects against efforts to bend trust law to get a tax benefit. Nor is the requirement stated unclearly or confusingly in the Code or in any regulation -- it is perfectly clear.

Judge Posner drove his point home with this striking comparison:

Congress has made the benefit dependent on state law, and there is no doubt of its power to do so. Nothing is more common than for tax benefits to depend on state law; a state that does not permit 14-year-olds to marry deprives them of access to the benefits of filing a joint return.

I had never really thought about it that way.

Cite: Tamulis, CA-7, No. 06-4141, Affirming T.C. Memo 2006-183.

The TaxProf has more.

Tags: CRUT.Posner.

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