Frequently Asked Questions
Estate Tax Return (Form 706)
Estate repair expenses
IRS reply, or lack thereof
Request for prompt assessment
When to file, how early
Gift tax return (Form 709)
Question: IRS Reply or Lack Thereof: What do I do when I have not heard from the IRS on the status of a Gift Tax Return?
Answer: (July 2011) Estate Tax Returns are filed in Cincinnati. It generally takes 9-12 months before the IRS will contact the taxpayer or practitioner with an audit notice if an audit will be conducted, or a closing letter if the return is accepted. A request for prompt assessment under Code §2204 does not speed up this time. If the practitioner wishes to ascertain the status of the return, the Service requests that inquiry be held off until 12 months after filing; the IRS officials have informed us that such inquiry does not trigger an audit. The IRS provides a national number (866-699-4083) to check on the processing status. If you need further assistance, you can call the Group Managers. It is suggested that you do not call within 12 months of the filing date. Contact references for Audit or Closing Status (Group Managers) as of this date are indicated below. Due to the extensive personnel changes within the IRS, it is not anticipated that this response will be updated.
(Decedent's last name A-K)
(Decedent's last name L-Z)
949-389-4881 (Phil Gray)
818-756-4522 ext. 2101 (Kym Taborn, Van Nuys)
213-576-3736 (Hanh Dao)
510-637-4557 (Janet Holman)
408-817-6970 (Kyle Martin)
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Question: Is it accurate to say that, in California, a purchase money loan used to acquire a commercial office building (rented to multiple tenants) is recourse debt and that such loan would be included on Schedule K and would not be netted with the property's value on Schedule A?
Answer: (July 2011) Under California law, residential property and commercial property are treated differently (California Code of Civil Procedure Sec. 580b). Bank financing is recourse as to commercial property, unless the loan documents otherwise provide, and is a Schedule K item under the general rule. A seller-party carry back in either situation is non-recourse. The refinanced loan of an original loan to purchase a home is a recourse loan (i.e., the non-recourse benefit from the creditor protection standpoint is lost).
As discussed in Chapter 8 of Estate Planning At The Movies® – Art of the Estate Tax Return, the classification of debt as recourse or non-recourse can have a very significant estate tax savings effect when properties are owned as tenancies in common or as community property. The listing of recourse debt on Schedule K with discounted values on Schedule A provides the key to that savings. The regulations expect non-recourse debt to be directly reduced against the gross value of the property according to the IRS instructions to the estate tax return. The existence of assumable debt at low interest rates may affect valuation. Points of debate exist with this issue generally. Fair market value principles apply. See, Estate Planning At The Movies® – Art of the Estate Tax
Question: Our estate will be incurring gardening, maintenance, and repair expenses in connection with the family residence. Can these expenses be deducted on the estate tax return?
Answer: (July 2011) Deductions for these types of expenses, as well as interest, legal, accounting, brokerage fees, and the like are a function of what is reasonable and necessary for a particular estate. If cash is inadequate, then the Service cannot deny the estate a deduction - for example, when the fiduciary decides to sell one property (even a more expensive one) rather than a lower-valued property in order to pay estate taxes and administrative expenses. (Although not a predictor in the particular case of the reader or guarantee of a result in any given matter, we have been through audit on that issue and a client received a nice refund when tax was otherwise claimed due on this issue.)
Some of the most important questions will be: whether the property will be sold to meet obligations; whether the retention of the property is needed for administration purposes and not as a matter of beneficiary convenience; the duration of the time of the retention (at least until preliminary distribution can be reasonably made, if not based on other factors); and other unique considerations.
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Question: What have been my recent experiences with audits of real estate and fractional interest discount valuations?
Answer: (July 2011) The best approach to achieving optimum results is with a thorough appraisal. Quality differs greatly and appraisers who may be great at valuing the real estate as a whole may not be effective with fractional interest discount appraisals.
I am pleased that several real estate appraisers have developed a body of what they assert to be comparable sales of fractional interests and with recognition of the difference between partnership and co-owned interests. Also, the better appraisers distinguish between residential sales and raw land, timberland, commercial or other unique properties.
The IRS estate tax attorneys are not consistent in their approach, and I believe that practitioners with greater experience with valuation issues achieve better case resolution, whether in audit or later in the compliance process. Some IRS attorneys continue with safe harbor discounts in the 10-15 percent range and want to see an appraisal above those amounts. Others are more flexible.
Several recent audits have concluded fractional discounts at 20 percent (without an appraisal) and between 22-30 percent with appraisals for residential and/or multi-residential and commercial rental property. Presently, no court case has exceeded the 25 percent discount for an undivided one-half interest in commercial rental property (Stevens v. Comr.) or the 20 percent discount for an undivided one-half interest in multi-residential property (Brocato v. Comr.). The LeFrak case did conclude a 30 percent discount for a 7.5 percent interest in multi-residential property several years ago. The recent cases of Ludwick and Mitchell reflect divergent results to fractional discounts. In Mitchell, the IRS stipulated to substantially greater discounts. Keep in mind that stipulated discounts may affect trial strategy or other considerations.
The IRS appears to be getting more realistic in its approach to fractional interest discounts. However, this should not stop accountants and their clients from obtaining sound appraisals.
If you need further assistance with trust or estate administration, contact Keith Schiller at Schiller Law Group: 925-258-0123.
Question: Must fractional interest discounts be applied on the death of the first spouse?
Answer: (July 2011) A fractional interest discount reflects the fact that the owner of a partial interest in real property cannot control the property and would have a more difficult time selling or borrowing against a partial interest. This creates a discount in the value of the partial interest when compared with a pro-rata value of 100 percent ownership.
Discounts exist based on ownership, not tax desires. Joint tenancies and community property with right of survivorship do not involve fractional interest discounts because the interest automatically passes to the survivor on death. Whether such a plan makes tax or non-tax sense is another matter and depends on the wishes of the owners.
There is no current legal doctrine of consistency that would require the Service to approve or deny a discount on the death of the surviving spouse because there was no discount taken on the death of the first spouse. However, the Service may consider the failure to apply discounts to cause a trust to be over-funded. For example, if a 50 percent interest is allocated to the Marital Trust without discount to value for a fractional interest, the Service would be on good grounds to argue that the fractional interest should be applied. Of course, the use of discounts to fund tax-free trusts (such as the Credit Shelter Trust) can bulk up the value of that trust.
On a theory yet untried, but which may be able to substantially reduce if not eliminate the fractional interest discount for community property, the spouses may wish to consider creating an agreement for the aggregate division of community property with the provision that this agreement continues post-death rights of equal division in the aggregate and including no survivorship requirement in the Will or living trust. The ability of the surviving spouse to acquire a 100 percent interest in co-owned property and thereby protect the value of his or her one-half community property interest would be a prudent act for a buyer (i.e., drive the price up) in order to protect the value of his or her one-half interest. Chapter 8 of Estate Planning At The Movies® – Art of the Estate Tax Return includes an extensive discussion of this point.
Question: Request for Prompt Assessment: Do Requests for Prompt Assessment Trigger Estate Tax Audits?
Answer: (July 2011) IRS officials unanimously advise that a request for prompt assessment under IRC Section 2204 does not trigger an audit.
Question: How soon is too early to file an estate tax return?
Answer: (July 2011) As a general rule, the estate tax return in a taxable estate should not be filed prior to the expiration of the 6-month Alternate Valuation Date election under Code §2032, which can reduce the estate tax from what it would otherwise be using the date-of-death value. On the death of the first spouse, particularly in the situation of a QTIP trust, careful consideration should be given to always obtaining an extension of time to file and pay estate tax, and then to filing close to the 9-month period following death, but no later than the time allowed under a proper extension request. A QTIP election made too early, and irrevocably, can cause loss of important tax benefits. See, Schiller, "Don't QTIP Too Soon," published by BNA, Estate, Gifts and Trust Journal (Nov. 2001). The Deceased Spousal Unused Exclusion Amount can only be elected on timely filed estate tax returns.
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Question: GST Exemption Allocations: How are GST exemption allocations made on the Gift Tax Return?
Answer: (July 2011) The response to this question is not simple. First, GST events need to be identified and the appropriate allocation of GST exemption considered. As to the mechanics of the allocation, the instructions to Form 709 are helpful guides. Formula allocations should also be considered as an attached statement or notice to the gift tax return. These are permitted by the regulations. Identification of GST events, strategies for allocation, and the mechanics of the GST exemption allocation receive extensive consideration in the CalCPA Education Foundation course, GST Tax from A-Z. Also, the CPA is strongly encouraged to involve an attorney with reviewing trusts, gift tax returns, and other GST-related considerations. Keith Lee, of CAMICO, feels very strongly on this attorney involvement, for the assistance of the CPA and client. Chapter 25 of Estate Planning At The Movies® – Art of the Estate Tax Returnincludes extensive discussion of GST exemption allocations on the estate tax return.
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Question: No reply from IRS: What do I do when I have not heard from the IRS on the status of a Gift Tax Return?
Answer: (July 2011) When filing Form 709, provide an extra copy of the return, or at least an extra copy of the cover page of the return, in order to receive an endorsed filed copy. The IRS does not issue closing letters with gift tax returns or otherwise indicate that the return is accepted as filed. If the return is not accepted as filed, the practitioner or taxpayer may receive an audit notice. The Service does not advise taxpayers as to whether or not the adequate disclosure requirements are satisfied.
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Question: Does corporate partnership of LLC ownership of real estate have property tax impact?
Answer: (July 2011) State law will determine that result. In California, the impact can be huge. A change of ownership results when an individual (directly or a beneficiary) owns greater than 50 percent of the entity. The property is fully reassessed and no exemption under Proposition 58 applies to entity interest. This result can be minimized or avoided with planning.
Question: A dear relative or friend recently died, leaving their principal residence as part of their estate. We need to sell the residence. Does the trustee of the decedent's living trust or executor of the estate need to complete all of the real estate disclosure forms that normally apply to the sale of a principal residence?
Answer: (July 2011) California Civil Code Section 1102, et. seq. generally requires a slew of representations and reports in connection with the sale of residential property of four units or less. Civil Code Section 1102.2(d) exempts a trustee or executor in the course of administration of the estate of a person from making the disclosures required generally under Civil Code Section 1102, et. seq., unless the fiduciary is a natural person who is the sole trustee of the trust and is a former owner of the property or an occupant in possession of the property within the preceding year.
Apart from this statutory disclosure rule, the seller has a general duty to disclose defects and adverse conditions about which the seller has knowledge.
Fiduciaries should review these requirements with real estate brokers and with counsel representing the fiduciary in the course of administration of the estate or trust.
Question: Regarding unfunded trusts, after the death of the settlor of a trust, the client will not place assets into the name of the trust entitled to the asset. What should the CPA do?
Answer: (July 2011) Unfunded trusts, particularly after the death of the first spouse (or any decedent) can create a range of income tax, estate tax, and non-tax issues. Many clients are reluctant to have title in the name of the proper subtrust because they want to save money or the importance of keeping trusts funded has not been impressed upon them. Also, some attorneys do not recognize the significance of proper funding from a tax or non-tax standpoint. The unfunded trust can open up the questions of who owns an asset and whether gains or losses belong to a trust or another person (such as a spouse), muddy up the waters if the surviving spouse remarries, cause significant estate tax audit issues on the death of the first spouse, or create a range of income tax effects. When CPAs sign income tax returns reflecting income being reported to the wrong person or trust, problems may arise as well for the CPA. The CPA, therefore, should involve the attorney for the trustee and reinforce the importance of proper funding. It may be appropriate to have the client execute a letter confirming what they have been advised and their refusal to take actions recommended. It is not generally the CPA's duty to prepare transfer documents. These dormant trusts can be time bombs that go off when the family dynamics turn sour, when people attempt to figure out who owns what, or in the event of a tax audit. It is best to deal with the issue and to involve an attorney with what is happening or with what is not happening. Chapter 14 of Estate Planning At The Movies® – Art of the Estate Tax Return, discusses cases in which Credit Shelter Trusts or Marital Trusts were disregarded because assets remained in the control of the surviving spouse. As discussed in the text book, these cases may not be correct, at least under California law. However, with the increase in the estate tax exemption, the disregard of a Credit Shelter Trust may not be all bad (assuming that result is not unfounded). However, non-tax considerations may trump the tax result in this instance. Furthermore, the existence or non-existence of creditor claims may impact the result. The bottom line: there are various permutations.