Internal Revenue Service
Revenue Ruling
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smRev. Rul. 78-16
1978-1 C.B. 289
IRS Headnote
Retained interest; trust created prior to 1924. Section 20.2038-1(d) of the regulations is not applicable to exclude from the gross estate of a decedent an interest in property transferred before the enactment of the Revenue Act of 1924 to a trust, which could be amended or revoked only with the written consent of the decedent's spouse who, but for predeceasing the decedent, would have received the corpus of the trust or the income therefrom upon the death of the decedent. Section 20.2038-1(d) is equally inapplicable when a condition is added after 1924 to the right to revoke or amend requiring the written consent of at least one of the decedent's children who have a right to share in the trust income after the decedent's death.
Full Text
Rev. Rul. 78-16
Advice has been requested concerning the applicability of section 2038 of the Internal Revenue Code of 1954 under the circumstances set forth below.
The decedent created a trust on March 26, 1922. Under the terms of the trust agreement the decedent retained the right to the income for life. Upon the decedent's death, the entire trust was to be distributed to the decedent's spouse if the spouse survived, otherwise the trust was to continue for the benefit of the decedent's four children. The decedent reserved the right to amend or revoke the trust with the written consent of the decedent's spouse.
On June 30, 1940, the decedent in conjunction with the decedent's spouse eliminated the provision for distribution of corpus upon the decedent's death and, in lieu thereof, provided that upon the decedent's death the entire income was to be paid to the decedent's spouse during the spouse's lifetime. In addition, the provision with respect to the decedent's right to modify or revoke the trust with the approval of the decedent's spouse was amended not only to include the approval of the spouse but also the written approval of at least one of the children (remainderman). The decedent's spouse died in 1951. The decedent died in 1976.
Section 2038(a)(2) of the Code provides that the value of the gross estate shall include the value of all property as follows:
To the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money's worth), by trust or otherwise, where the enjoyment thereof was subject at the date of his death to any change through the exercise of a power, either by the decedent alone or in conjunction with any person, to alter, amend or revoke * * *
Section 20.2038-1(d) of the Estate Tax Regulations provides as follows:
(d) Transfers made before June 2, 1924. Notwithstanding anything to the contrary in paragraphs (a) to (c) of this section, if an interest in property was transferred by a decedent before the enactment of the Revenue Act of 1924 (June 2, 1924, 4:01 p.m., eastern standard time), and if a power reserved by the decedent to alter, amend, revoke, or terminate was exercisable by the decedent only in conjunction with a person having a substantial adverse interest in the transferred property, or in conjunction with several persons some or all of whom held such an adverse interest, there is included in the decedent's gross estate only the value of any interest or any interests held by a person or persons not required to join in the exercise of the power plus the value of any insubstantial adverse interest or interests of a person or persons required to join in the exercise of the power.
Section 20.2038-1(d) of the regulations is not clear with respect to whether the substantial adverse interest in property transferred prior to the 1924 Act must persist to the date of decedent's death. However, section 81.20 of Regulations 105 applicable to the predecessor of section 2038, section 811(d) of the Internal Revenue Code of 1939, provides that such adverse interest must continue until the decedent's death in order for the transfer to be excluded from the operation of the statute. The pertinent subsections of Reg. 81.20 are as follows:
(b) Taxability.--The property or any interest therein transferred as described in subsection (a) shall be included in the gross estate if it comes within any one of the following paragraphs:
(1) If the transfer was made prior to the enactment of the Revenue Act of 1924 (4:01 p.m., eastern standard time, June 2, 1924), and the power was reserved at the time of the transfer and was exercisable by the decedent alone or in conjunction with a person or persons having no substantial adverse interest or interests in the transferred property, or if exercisable in conjunction with a person having a substantial adverse interest or with several persons some or all of whom held such an adverse interest, then to the extent of any interest or interests held by a person or persons not required to join in the exercise of the power and to the extent of any adverse interest which was not substantial.
* * * * *
(3) If the transfer was made after June 22, 1936 (the date of the enactment of the Revenue Act of 1936), and the power was either reserved at the time of the transfer or later created or conferred, without regard to the source from which the power was acquired, and whether exercisable by the decedent alone or in conjunction with a person or persons either having or not having a substantial adverse interest or interests in the transferred property, or in conjunction with persons one or more of whom had and one or more of whom had not such an adverse interest.
As used in this and in the next succeeding section, the expression "reserved at the time of the transfer" refers to a power to which the transfer was subject when made, whether the power arose by implication of law or by the express terms of the instrument of transfer, and which continued to the date of decedent's death (see the paragraph next following as to the conditions under which the power will be considered as existent at decedent's death) to be exercisable by decedent alone or by him in conjunction with some other person or persons, and includes any understanding, expressed or implied, had in connection with the making of the transfer that the power should later be created or conferred [published 7 Fed. Reg. 1429, 1445 (Feb. 25, 1942)].
In Estate of James v. Commissioner, 19 T.C. 1013, aff'd sub nom, Larson v. Commissioner, 213 F.2d 502 (2d Cir. 1954), the Tax Court commented on Regulations 105, section 81.20(b) as follows:
Assuming that the regulations can, by a tour de force remove this case from the operation of the statute, we think they have not attempted to do so here. These regulations were obviously concerned with transfers made before the enactment of the Revenue Act of 1924 (the first revenue act in which the basic relevant statutory provisions appeared), where the retained power was conditioned upon the assent of a person having a substantial adverse interest in the transferred property and where such condition persisted until the decedent's death.
Thus, the exception provided in section 20.2038-1(d) of the regulations with respect to "pre-1924" transfers has no application where, as in the present case, the adverse party dies before the grantor. By virtue of the 1940 amendment, any modification or revocation of the trust required the consent also of a child who did have a substantial adverse interest in the remainder. However, prior to this alteration of the trust, the revenue acts were amended to include in the gross estate of a decedent the value of any interest in property where the decedent had created a trust and the enjoyment thereof was subject at the date of death to any change through the exercise of a power, either by the decedent alone or in conjunction with any person, to alter, amend, revoke, or terminate. Section 811(d) of the 1939 Code. The provisions of section 81.20(b)(1) of Regulations 105 (section 20.2038-1(d)) apply only to substantial adverse interests created before the Revenue Act of 1924. Estate of Sweeny v. Commissioner, 4 T.C. 265 (1944), Act of 1924, aff'd, 152 F.2d 102 (2 Cir. 1945).
Accordingly, in the present case, since the substantial adverse interest granted to the decedent's spouse before 1924 was no longer in existence at the time of the decedent's death and the substantial adverse interest granted to one of the decedent's children was created after 1924, the full value of the property transferred in trust is includible in the decedent's gross estate under section 2038 of the Code.