Internal Revenue Service
Revenue Ruling
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smRev. Rul. 56-78
1956-1 C.B. 648
Sec. 641
IRS Headnote
Ordinary income or capital gain realized by a liquidating trust created under the authority of Chapter 745 of the Laws of 1933, New York (known as the Schackno Act), currently distributed to a beneficiary, is includible in the gross income of the recipient for his taxable year in which or with which the taxable year of the trust ends. Capital gain realized by the trustee on sale of the trust property, which is distributed to the beneficiary would also be capital gain in the hands of the certificate holders. Gain or loss is also realized by the certificate holders with respect to distribution of trust principal other than proceeds of capital gain measured with respect to the certificate holder's basis in his trust certificates, and constitutes ordinary income or loss.
Full Text
Rev. Rul. 56-78
Advice has been requested relative to the treatment to be accorded a distribution by a trust resulting from the sale of a parcel of real property under the circumstances described below.
The business and assets of an insolvent New York title and mortgage company were taken over by the Superintendent of Insurance of New York as statutory receiver. A plan for the reorganization of the rights of the holders of mortgage certificates and a trust indenture were promulgated by the Superintendent of Insurance as provided by the Laws of New York, Chapter 745, Laws of 1933, as amended by section 6, Chapter 19 of the Laws of 1935 (also known as the Schackno Act). The assets of the company were transferred to the trust and transferable certificates of beneficial interest issued to the holders of the mortgage certificates. The trust provides for the liquidation of the trust estate in an orderly and businesslike manner and that all liquidation proceeds and income collected by the trustee, after deduction of expenses and sums required for the establishment of certain reserves, be paid over to the certificate holders, the beneficiaries of the trust. The trust is taxable as a strict trust and not as a receiver of the assets of an insolvent corporation under New York Title & Mortgage Co: Certificate Trustees v. Commissioner , 2 T.C. 990, acquiescence, C.B. 1944, 28. During the course of liquidation, the trustee sold a parcel of real property forming one of the assets of the trust and made distributions of both income and principal to the certificate holders in substantially the full amount received on the sale of the property.
Since the trust agreement provides for the current distribution of all trust income collected and moneys derived from liquidation of the trust estate, the amount of income or capital gain realized by the trust and currently distributed to the beneficiary constitutes distributable income which is deductible by the trust under the provisions of section 162(b) of the Internal Revenue Code of 1939. That amount is includible in the gross income of the recipient for his taxable year in which or with which the taxable year of the trust ends. Capital gains, realized by the trustee on sale of the trust property, which are distributed to the beneficiary under the provisions of section 162(b) of the 1939 Code would also be capital gains in the hands of the certificate holders.
Distributions of principal of the trust, other than capital gains, are includible in the income of the beneficiary to the extent that the proceeds exceed the basis of the beneficial interest in the hands of the beneficiary. Benjamin L. Allen v. Commissioner , 49 Fed. 716, Ct.D. 417, C.B. X-2, 315 (1931), certiorari denied, 284 U.S. 655.
The distribution of trust principal by a trust to a beneficiary cannot, however, be considered a sale or exchange under section 117(a) of the Internal Revenue Code of 1939, and is, therefore, not a transaction from which capital gain or loss can arise. See Adolph Klein v. Commissioner , 15 T.C. 26, acquiescence, C.B. 1950-2, 3; Joseph W. Frazer v. Commissioner , 4 T.C. 1152, affirmed 157 Fed.(2d) 282, certiorari denied 329 U.S. 807. Accordingly, any gain or loss, realized by the certificate holders with respect to a distribution of trust principal, measured with respect to the certificate holder's basis in his trust certificates, would constitute ordinary income or loss.