Published by the Virginia State Bar Trusts and Estates Section for its members

Volume 15/No. 1 FalilWinter 1998

Message From The ChairWith 1,227 members (as of 8/98), the Trusts and

Estates Section is the 5th large'st Section of theVirginia State Bar. Our goal is to promote theexchange of ideas among attorneys .dealing withwills, estates, trusts and related matters. In additionto monitoring legislation introduced into the GeneralAssembly and sponsoring CLE seminars on topics ofconcern and general interest to the membership, theSection publishes this Newsletter designed to adviseour membership on current developments on estateplanning and administration.

We welcome articles and suggestions for topicsfrom our members. As one of our two publicationsnext year, plans are already underway to produce adedicated issue of the Virginia Lawyer focusing ontrusts and estates. The issue will be published inDecember 1999 with an estimated circulation of20,000, sooooooo ifyou have been holding back, thisis your chance to call our current editor, Bill Gust, at(540) 983-9300 to "get yourself in print."

For those of you who have recently joined us, theVSB Trusts and Estates Section was officiallyestablished on January 1, 1979, upon the division ofthe former Estates and Property Section of the Bar.Our first jssue of the Newsletter (VoL IINo. 1) waspublished in the Summer of 1980 with a briefing onthe 1980 Session of the Virginia General Assemblyby then Legislative Advisor for the Section, BillGray. It has since been our objective to provide aviable means of communication among practitionersin the trusts and estates field around the state.

If you would like to become more involved withthe Trusts and Estates Section, or have ideas you

would like to share, please feel free to contact me orany of the current members of the Board ofGovernors (listed on the back cover). Wewouldenjoy hearing from you!

With best regards,

Kirkland M. Kelley

TABLE OF CONTENTS

Reforming Virginia's Pour-Over Rules ­Three Proposals

J. Rodney Johnson Page 2

Estate and Gift Tax Savings From SimpleTransactions: Transfers ofUndivided In­terests in Real Property Yield Discounts

Munford R. Yates, Jr Page 8

Fu.nding Revocable Living Trusts For Mar­ried Clients With Estate Tax Exposure

Martha Leary Sotelo, Esq.Donna Esposito Fincher, Esq.Patrick J. Vaughan, Esq Page 16

The Trusts and Estates Newsletter is published by the Virginia State Bar Section on Trusts and Estates for its members to provideinformation to attorneys practicing in these areas. Statements, expressions ofopinion, or comments appearing herein are those ofthe editors or contributors and not necessarily those ofthe Virginia State Bar or the Section on Trusts and Estates.

REFORMING VIRGINIA'S POUR-OVER RULES - THREE PROPOSALSBy

J. RODNEYJOHNSON}

Introduction. Forty years have passed sinceVirginia enacted legislation authorizing atestamentary ponr-over into an existing inter vivostrust - a development that a contemporarycommentator categorized as placing a testator"roughly in the position of a royal subject in Virginiaprior to 1748. He has enviable flexibility.,,2 Althoughmuch of this flexibility still exists today,developments during the intervening forty years havecombined to make Virginia's treatment of pour-overssomething less than "enviable" when compared toalmost every other state. This short article argues forthe elimination of Virginia's pour-over problems bythe enactment of three-part legislation that would (1)replace Section 64.1-73 with The UniformTestamentary Additions to Trusts Act (1991); (2)eliminate the requirement that a non-resident servingas sole trustee of a receptacle trust post bond withsurety; and (3) abolish the prohibition against out-of­state banks serving as trustees of "receptacle trusts. Adraft of the suggested legislation is attached. As thisarticle is addressed to the members of the VirginiaState Bar's Section on Trusts and Estates, it is writtenon the assumption that the reader is well versed in theuses and mechanics of pour-over wills and receptacletrusts. Accordingly, there will be no need to providea comprehensive analysis of pour-over law ingeneral, or of the Virginia statute in particular, beforebeginning a discussion of the problems and theirsolutions.

The Advantages of Uniformity and the Birthof UTATA. To mention the mobility of the f:\mericanpeople is to state the obvious. And this would also betrue of a reference to the geographic diversificationof so many families and their wealth - whether thisbe accidental or intentional.. In the context ofplanning for these clients with multi-statebeneficiaries and/or assets, the task of the estateplanner is made significantly easier if the same lawgoverns all aspects of the estate plan3

- whether thatestate planner is a Virginian looking outward or anout-of-state attorney working on a plan with aVirginia aspect. To this end, i.e., to help bringuniformity to state laws governing pour-over wills

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and receptacle trusts, the National Conference ofCommissioners on Uniform State Laws (NCCDSL)4promulgated the Uniform Testamentary Additions toTrusts Act in 1960. Three decades later NCCUSLrevised the 1960 Act (i) to clarify certain aspects ofthe original, and (ii) to increase its intent-effectuatingcharacteristics. The revision was promulgated as theUniform Testamentary Additions to Trusts Act(1991), hereafter referred to as UTATA.5 At thepresent time, 45 states and the District of Columbiahave adopted one of these two Acts. In addition toVirginia, the other non-enacting states are Louisiana,Missouri, Nebraska, and Wisconsin.

Comparing UTATA to Section 64.1-73 ­Form. It may come as a surprise that there are onlythree differences between the substance of presentVirginia law and UTATA. This might be due to theform of Section 64.1-73 which, as a consequence ofhaving been amended ten times since its enactment,has evolved (degenerated?) into a rather awkward,two-page statute of 1,234 words.6 UTATA, on theother hand, resolves the same issues more efficientlyin only 487 words (including its Virginiamodifications).

An out-of-state attorney from any of the 46Uniform Act jurisdictions who is considering anestate plan involving a beql:lest or devise to areceptacle trust in Virginia is likely to assume, uponseeing our statute's length and complexity, that itmust be significantly different from whicheverUniform Act happens to be in force in his state.Otherwise, why the length? Moreover, the fact thatVirginia has not enacted either version of theUniform Act would appear to provide corroborationfor this conclusion. Of course a study of our two-pagestatute would show this out-of-state attorney that hisinitial assumption is in fact erroneous. However, thenature of the practice will not always justify thebillable time that would be required to make thisanalysis in the typical case. Instead, the out-of-stateattorney will often suggest some other alternative tothe client, who might end up with a "second best"estate plan. A comparable problem is presented to theVirginia attorney who does not specialize in estate

planning but who, from time to time, is presentedwith a situation where a pour-over might seem to bethe preferred approach to reach a given objective.And so, the Virginia attorney goes to the code to"check it out" and there finds the two-page statute inquestion. However, as estate planning is only anincidental part of this attorney's practice, he, like theout-of-state attorney will not be able to understandthe intricacies of Section 64. I -73 without a certainamount of study. And again, the economics of lawpractice are often going to preclude the costs of thatstudy being charged to the present client or beingabsorbed by the attorney. The net result is the likelypossibility of another "second best" estate plan forthe client.

One immediate benefit of adopting UTATA'sshorter and simpler language would be theelimination of the negative presentation that Section64.1-73 made to both of these attorneys. In addition,it should be noted that there really are noauthoritative resources to which an attorney mighttum for an exposition of Virginia's pour-over statuteif, for whatever reason, time and billingconsiderations are not a precluding factor. On theother hand, NCCUSL always provides officialcommentaries to assist the reader in understandingand applying its uniform acts. Moreover, because ofthe national importance attached to acts that receivewide-spread adoption, they are always the subject ofexpository and planning commentary in the nationalestate planning literature. Accordingly, a strong casecan be made for Virginia's adoption ofUTATA for atleast three non-substantive reasons - uniformity,relative simplicity and the ready availability ofauthoritative educational and planning resources.

Comparing UTATA to Section 64.1-73 ­Substance. As noted previously, Virginia's pour­over statute provides for the same results found inUTATA except in three instances. It simply takesSection 64.1-73 almost three times the length ofUTATA to state these results. The three instanceswhere the results under UTATA differ from thoseunder present Virginia law,. which are all categorizedby NCCUSL as being "intent-effectuatingimprovements," are described in the following threeparagraphs.

First, Virginia law presently provides that, for avalid pour-over to an inter vivos trust, the inter vivostrust document must have been ·executed "before orconcurrently with" the testator's pour-over will.UTATA, on the other hand, would allow a pour-over

3

into an inter vivos trust that is executed ttbefore~

concurrently with, or after (emphasis added)" thetestator's pour-over will. Although sequence ofexecution is not a major matter in the typical case, itcan be the controlling factor in a given case,determining whether or not the testator's estate planwill succeed or fai1.7 It is submitted, however, that thedecision of success or failure should never be basedon any such trivial concern. Nevertheless, anecdotalevidence indicates that there continue to be instancesin which, due to inadvertence or design, thereceptacle trust document is not executed "before orcontemporaneously with" the will and in which, then,the intended pour-over must clearly fail under presentlaw. UTATA's intent-effectuating rule, which wouldsave the testator's estate plan in these cases, is clearlythe better one and thus should be adopted in Virginia.

Second, Virginia law presently provides that apour-over "shall not be valid should the entire trustnot be operative for any reason at the testator'sdeath:' UTATA, on the other hand, provides thatU(u)nless the testator's will provides otherwise(emphasis added), a revocation or termination of thetrust before the testator's death causes the devise orbequest to lapse." Thus, instead of governing thissituation with an absolute rule of law mandatingfailure, as Virginia presently does, UTATA providesfor a default rule-of invalidity that can be changed bythe testator. It can be conceded, arguendo, that thetestator may typically desire the pour-over to lapse ifthe receptacle trust does not exist to receive it. But tosay "typically" is to recognize that there will be acertain number of instances where such a failurewould definitely frustrate a testator's legitimateintent. Yet every such pour-over is condemned byVirginia's absolute rule. Suppose a testator, in a givencase (probably one making a ponr-over into a trustcreated by another), expressly provides that theintended pour-over shall be effective notwithstandingthe non-existence of the receptacle trust at testator'sdeath.8 It is submitted that no practical or policyreason can be offered for not honoring the testator'sintent in such a case, and thus Virginia's presentabsolute prohibition ought to be eliminated.UTATA's intent-effectuating rule is the better oneand should be adopted in Virginia.

Third, in regard to post-death amendments,Virginia law presently provides for a pour-over to begoverned (i) in accordance with the receptacle trust'sterms as of the testator's death, or (ii) "if the testatorexpressly so specifies in his will, and only in suchevent, as such terms are amended after the death of

the testator." Under UTATA, on the other hand, apour-over is governed in accordance with post-deathamendments to the receptacle trust's terms "unlessthe testator's will provides otherwise." Thus, underboth rules, the testator's intent regarding post-deathamendments will control - if that intent is stated inhis will. However, if the will is silent on the issue ofintent, Virginia's default rule rejects post-deathamendments while UTATA's default rule honorsthem. The question thus arises: Which default rule ismost likely to be consistent with the testator's intent,and in the best interests of his estate plan, in thosecases where his will provides no guidance? A majorfactor leading the writer to answer "UTATA" is therecognition that more and more estate planners aredrafting trusts that last for longer and longer periodsof time. In addition to this development being drivenby the age-old desire for control, we now see (i) therestraining aspect of the common law Rule AgainstPerpetuities being reduced in some states andcompletely abandoned in others,9 and (ii) increasingclient wealth leading to a corresponding increase insheltering the generation-skipping transfer taxexemption for as long as possible.to One thing iscertain to occur as we deal with these longer durationtrusts - change. There will be changes in tax law,environmental law, the stock market, the needs ofbeneficiaries, etc., that will have a continuing impacton the trust's operation within the framework of thetestator's intent. For this reason, an increasingnumber of estate planners now include a mechanismin some inter vivos trusts to provide for theircontinuing amendability after the settlor's death. Inthese cases, as well as those in which the need wasnot foreseen by the drafter but a post-deathmodification of the receptacle trust has beenaccomplished by other means, it is submitted that thetypical testator would want the pour-over amount tobe governed by the same modification. And such isthe default rule of UTATA. Thus, for the third time,UTATA's intent-effectuating rule is the better oneand should be adopted in Virginia.

Out-of-State Bank as Trustee of ReceptacleTrust. Although Virginia law concerning a non­resident individual serving as a sole trustee of areceptacle trust has evolved from a pre-1991 absoluteprohibition to a 1996 open-door policy,11 the absoluteprohibition against an out-of-state bank serving insuch a capacity continues in full force. Why thisdisparity? It certainly cannot be said to be for theprotection of the beneficiaries, or to increase the

likelihood that the decedent's intent might be moreaccurately honored because, on balance, the out-of­state professional fiduciary'is more likely to do theright thing more often than would the out-of-statelayman. The only apparent reason for the prohibitionagainst the out-of-state banks has been the desire toprotect Virginia banks from any outside competition.Assuming that this was defensible public policy atone time, this basis has been substantially eliminatedin -light of the recent subordinate coupling of mostmajor Virginia banks with foreign ones.

Moreover, the prohibition against an out-of-statebank serving as the trustee of a receptacle trust can beeasily circumvented if such be the desire of theparties. The writer has been advised of the practicefollowed by one out-of-state bank, in some cases, ofhaving the trust documents name one of the bank'strust officers (resident in northern Virginia) as thetrustee, who will then qualify and serve as theinstitution's puppet. A far simpler approach, and theone that makes all foreign banks eligible, is to namea Virginia resident as trustee of the receptacle trustwho, following the receipt of the pour-over and theestate's final accounting, will simply resign andappoint the originally intended out-of-state bank assuccessor trustee (pursuant to a very standard andinnocently appearing clause in the trust). There are areasonable number of cases where all of a Virginian'sbeneficiaries live out of state, and it will often makesense for such beneficiaries' trusts to be administeredin their locality. It is submitted that, in these cases, nolegitimate argument can be made to support a rulethat allows a non-resident individual to serve astrustee of the receptacle trust and yet deniesVirginians the privilege of using an out-of-state bank.

Eliminating the Surety Requirement. WhenVirginia's absolute prohibition against any non­resident individual serving as a sole personalrepresentative was first relaxed in 1983, tworequirements were imposed upon the limited group ofthe individuals who were granted permission toserve. First, the non-resident individual must appointa resident agent for receipt of process in estate­related matters. Second, the non-resident must postbond with surety, notwithstanding any language inthe will purporting to waive the surety requirement.12

When the prohibition against making a pour-over to areceptacle trust that had a non-resident serving assole trustee was first relaxed in 1991, these same tworequirements were also imposed upon the non­resident individuals who were authorized to serve.

Although this parallel treatment undoubtedly seemedlogical at the time, there was a significant flaw in thislogic regarding the imposition of the mandatorysurety requirement, and this surety issue has alsoraised some unanswerable questions in the offices ofboth the Clerk of Court and the Commissioner ofAccounts.

A non-exclusive listing of these problems mightbegin from the standpoint of the clerk, who must setthe amount of the trustee's bond and take the surety.On what amount is the bond to be based? On thevalue of the entire trust or only the value of thepour-over?13 It appears that the clerk must require thesubmission of at least a certified copy of the ·intervivos trust in order to verify the requiredidentification of trust, trustee, power to sell realestate, etc. What, then, does the clerk do with thiscopy of the inter vivos trust? Clearly the clerk mustpreserve it as a record to support his or her actions,but does the clerk record it and thereby destroy theprivacy that was one of the reasons for using the intervivos trust in the first place? If not, what does theclerk do? And, in either case, what is the authority forthe clerk's action? After the initial bond and surety isset in the clerk's office, how is its continuingadequacy monitored? The Commissioner ofAccounts is charged with this task in connection withall fiduciaries who are required to file annualaccountings. But there is no requirement that thetrustee of a receptacle trust make any accounting tothe commissioner. Or, is there now an impliedrequirement for this trustee to make some kind oftfsubmission" to the Commissioner of Accounts inorder that the commissioner might ensure thecontinuing adequacy of the trustee's bond and surety?And, if the commissioner is supposed to verifyadequacy of bond and surety, does the commissionerfile a_ copy of the "submission" and a report of hisactions with the court in the same way he does withan accounting? If so, won't this be automaticallyrecorded by the clerk, thereby again breaching theintended privacy? Although these concerns vary interms of importance, they add up to a very significantproblem that appears to have only three possiblesolutions: (1) legislation directly addressing eachissue; (2) retreating to the pre-1991 rule prohibitingpour-overs where the sole trustee is a non-resident; or{3} eliminating the bond and surety requirement fornon-resident trustees of receptacle trusts. In additionto the obvious negatives associated with possiblesolutions (1) and (2), a further reality that must berecognized in connection with both is the simple

5

negation mechanism previously discussed inconnection with out-of-state banks.14 Thus, it issubmitted that solution (3) - elimination of the bondand surety requirement - is the correct choice, andthis is particularly so in light of the discussion in thefollowing paragraph.

In examining the original reason for imposing amandatory surety requirement on non-residentpersonal representatives in 1983, and on testamentarytrustees in 1986, one discovers that this impositionwas designed to help the Commissioner of Accountsforce recalcitrant fiduciaries to comply I with theirinventory and accounting requirements. Although thecommissioner has statutory remedies that are readil.yenforceable against Virginia fiduciaries, his officehas no effective authority over a non-resident whotakes the assets out of state and remains there. Thus,the requirement of the bond secured with non­waivable surety was created as a device to insure thata non-resident serving as a sole personalrepresentative or serving as a sole testamentarytrustee would comply with the inventory andaccounting requirements. This makes sense. But thereare no such inventory and accounting requirementsimposed on the trustee of an inter vivos trust.- Thus,the extension of the compliance device (bond andsurety) to a situation where there is nothing withwhich to comply, does not make any sense and oughtto be abolished.15

Conclusion. The forty years that have passedsince Virginia enacted its initial pour-over legislationhave witnessed an important estate planning toolbecome less "user-friendly" to attorneys and lessresponsive to the needs of their clients. Thereplacement of our present statute with UTATAwould give us (i) relative simplicity in all cases, (ii)uniformity in multi-state cases, (iii) ready availabilityof authoritative educational and planning resources,and (iv) an increase in our intent-effectuating estateplanning rules. Attached to this article is a draft forlegislation that, for these reasons, would adoptUTATA, and would also, for the reasons discussed inthe' text, (1) eliminate the flawed requirement that anon-resident serving as sole trustee of a receptacletrust post bond with surety, and (2) abolish thesuperficial prohibition against out-of-state banksserving as trustees of receptacle trustS. 16 On October17, 1998, the Virginia Bar Association's ExecutiveCommittee, acting at the request of the VBA'sSection on Wills, Trusts, and Estates, voted to makethis proposal a part of the Association's legislative

package for the 1999 Session of the Virginia GeneralAssembly.

PROPOSED POUR-OVER LEGISLATION

§ 64.1-73.1. Uniform Testamentary Additionsto Trusts Act (1991). - A. A will may validlydevise or bequeath property (including by theexercise of a power of appointment) to the trustee ofa trust established or to be established (i) during thetestator's lifetime by the testator, by the testator andsome other person, or by some other person includinga funded or unfunded life insurance trust, althoughthe settlor has reserved any or all rights of ownershipof the insurance contracts, .or (ii) at the testator'sdeath by the testator's devise or bequest to the trustee,if the trust is identified in the testator's will and itsterms are set forth in a written instrument, other thana will, executed before, concurrently with, or after theexecution of the testator's will or· in anotherindividual's will if that other individual haspredeceased the testator, regardless of the existence,size, or character of the corpus of the trust. Thedevise or bequest is not invalid because the trust isamendable or revocable, or because the trust wasamended after the execution of the will or thetestator's death.

B. Unless the testator's will providesotherwise, property devised or bequeathed to a trustdescribed in subsection A is not held under atestamentary trust of the testator but it becomes a partof the trust to which it is devised or bequeathed, andmust be administered and disposed of in accordancewith the provisions of the governing instrumentsetting forth the terms of the trust, including anyamendments thereto made before or after thetestator's death.

C. Unless the testator's will providesotherwise, a revocation or termination of ·the trustbefore the testator's death causes the devise orbequest to lapse.

D. Unless at least one trustee of the trust is anindividual resident of this Commonwealth, or anentity authorized to do atms! business in thisCommonwealth, at the time the devise or bequest isto be distributed to the trust, the testator's personalrepresentative shall not make any distribution to thetrust until each non-residentindividual·andlor entityfiles with the Clerk of the Circuit Court· of thejurisdiction wherein the testator's will was admittedto probate, a consent in writing that service of process

in any action against the trustee or any other noticewith respect to administration of the trust in thetrustee's charge, may be by service upon a resident ofthis Commonwealth at such address as the trusteemay appoint in the written instrument filed with theclerk. No further requirement shall be imposed uponany non-resident individual or entity as a condition toreceiving the devise or bequest.

E. This section applies to a will ofa testatorwho dies after June 30, 1999, and it shall be appliedand construed to effectuate its general purpose tomake· uniform the law with respect to the subject ofthis section among states enacting it.

ENDNOTES1. Professor of Law, University of Richmond,Virginia. This article was drafted while the writerwas serving as chair of a committee studying theUniform Testamentary Additions to Trusts Act(1991) for the Virginia Bar Association's Section onWills~ Trusts and Estates. The other members of thiscommittee were C. Daniel Stevens, of Christian &Barton, L.L.P., and Harry J. Warthen, III~ of Hunton& Williams. The writer is indebted to thesecolleagues for their thoughtful comments andsuggestions during the committee's study; however,the opinions expressed in this article, and any errorsfound herein, are the sole responsibility of the writer.

2. Neill H. Alford, Jr., Annual Survey ofVirginia Law, 44. Va. L. Rev. 1405, 1406, at footnote2 (1958).

3. This ease of task will also often result inbetter drafting and lower overall transaction costs, aswell as increasing the number of options available tothe client.

4. The writer serves as a VirginiaCommissioner to the National Conference of~ommissionerson Uniform State Laws.

5. tITATA is also found as Section 2-511 of theUniform Probate Code (1990), and as. Section 2-511of the Uniform Act on Intestacy, Wills, and DonativeTransfers.

6. Ifscrowningmasterpiece is one sentence thatcontains,201.words.

7. For an early discussion of the sequencingissue, in the context of a pour-over to an insurancetrust, see Ellsworth Wiltshire, Pour-Over Devise orBequest to Life Insurance Trust - Sequence ofExecution ofPapers, 1 University of Richmond LawNotes 221 (1961).

8. In such a case, under UTATA, the attemptedpour-over would be held in a trust governed by theterms of the receptacle trust (now revoked as to itsoriginal corpus), on principles paralleling the familiarconcept of incorporation by reference.

9. House Bill No. 645, designed to eliminate theRule Against Perpetuities in some cases, wasintroduced into the 1998 Session of the VirginiaGeneral Assembly, and carried over to the 1999Session.

10. See the discussions in Thomas H. Foye,Using South Dakota Law for Perpetual Trusts, 12Probate&Property 17 (JanuarylFebruary 1998); andDouglas J. Blattmachr and Richard W. Hompesch II,Alaska vs. Delaware: Heavyweight Competition inNew Trust Laws, 12 Probate&Property 32 (January!February 1998).

11. For a discussion of this evolution, see J.Rodney Johnson, Annual Survey of Virginia Law:Wills, Trusts, and Estates, 31 U. Rich. L. Rev. 1249(1997), and sources therein cited.

12. For a discussion of this development, see J.Rodney Johnson, Annual Survey of Virginia Law:Wills, Trusts, and Estates, 31 U. Rich. L. Rev. 1249(1997), and sources therein cited.

13. The answer to this question is not as obviousas it might seem, because § 64.1-73{A)(2) provides inpart that tt(w)here any nonresident qualifies(emphasis added) pursuant to this paragraph, bondwith surety shall be required ... tt The argument ismade that if the trustee of the receptacle trust mustqualify before the clerk then, as in all other caseswhere a fiduciary qualifies before the clerk, the clerkmust set bond based upon the entire amount under thefiduciaryts control.

14. If, for instance, Virginia goes back to thepre-199I prohibition rule, its requirements can beeasily avoided by having a resident as the initialinter-vivos trustee who will, after the pour-over

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distribution has been received and the decedent'sestate has been closed, resign in favor of the intendednon-resident.

15. The other requirement presently imposed onthe non-resident serving as sole trustee of areceptacle trust is appointing an agent to receiveservice of process in trust-related litigation brought inVirginia. This is a good provision, for obviousreasons, and thus it is preserved in the attachedlegislative proposal.

16. The entire proposal is drafted to be effectiveon a prospective basis, with present Section 64.1-73being retained to govern pre-enactment pour-overs.

ESTATE AND GIFT TAX SAVINGS FROM SIMPLETRANSACTIONS: TRANSFERS OF UNDIVIDED INTERESTS

IN REAL PROPERTY YIELD DISCOUNTSBy

MUNFORD R. YATES, JR.

Gift-giving ofundivided interests in land isan uncomplicated way ofobtaining valuation dis­counts. Favorable developments in case law makethese transfers increasingly attractive, and planningopportunities abound in a variety of fact patters in­cluding uses with other techniques. This article ex­plores the tax-saving advantages, the current status ofthe law, some factors relating to discounts and someplanning possibilities in connection with this kind ofplanning which promises to become a basic tool ofevery planner.

I. Advantages

Discounted gifts leverage donor's annual ex­clusion by removing from donor's estate value in ex­cess of the exclusion amount. For instance, assum­ing a 20% discount, $12,500 in value can be shel­tered by a $10,000 exclusion. Similarly, where anasset in a decedent's estate is entitled to a valuationdiscount, the value otherwise exposed to estate taxeswill be reduced: A $1,250,000 asset would have avalue of $1,000,000 after a 20% discount.

Gifts of undivided interests in real propertylproduce a double advantage - both the value of thefractional interest given away and that ofthe frac­tional interest retained are discounted. Thus, assum­ing a 20% discount, gifts by donor to each of donor'sfour children of a .9615% interest in a parcel of realproperty valued at $1,300,000 will have a value fortransfer tax purposes of approximately $10,000 each,even though approximately $12,500 in underlyingvalue is being given away to each donee. Upondonor's later death, assuming static underlying val­ues and a 20% discount, donor/decedent's 96.154%interest, worth approximately $1,250,000 ofunderly­ing value, would be valued at approximate'ly$1,000,000 for transfer tax purposes. Accordingly,on these facts and assumptions, one set of four an­nual exclusion gifts will eliminate not just $40,000but $300,000 ofvalue from donor/decedent's estate.

This planning technique can be implementedby a simple deed and the resulting co-ownershipfonn does not normally require extra tax returns or

8

specialized legal or accounting assistance.2

TI. State of the Law

Valuation discounts for transfers ofundi­vided interests in real property have been the subjectofcase law for over 80 years.3 Throughout this pe­riod, not unpredictably, the Internal Revenue Service,on a variety of grounds, has resisted such discounts.Most recently the position has been that any discountshould be limited to the cost of a partition action.4

This position has been thoroughly rejected by everycourt that has dealt with the subject.5 For instance,in Estate ofBarge,6 a gift tax case in which the onlyissue was the proper discount ofa gift of a 25 percentundivided interest in timberland, the Tax Court re­fused to rely on the cost ofpartition of the property,but based its opinion on the present value of the ex­pected cash flows from the future harvesting of tim­ber until partition would be likely to occur, arrivingat a value equivalent to a 26 percent discount.7

In the most recent case of Estate of Williamsv. Commissioner,S the Tax Court likewise rejectedthe cost-of-partition limitation and discounted thevalue of gifts ofone-half interests in two parcels oftimberland by 20 percent for lack ofmarketabilityand an additional 30 percent for lack of control, ap­plying the discounts seriatim for an effective 44 per­cent discount. The large size of the discount reflectsthe fact that the government submitted no appraisaltestimony on the magnitude of the discount, but, in­stead, conceding a mere five percent discount, con­tended that taxpayer failed to meet the burden ofproofbecause taxpayer had offered no evidence ofactual sales of fractional interests. In rejecting thiscontention, the court emphasized that a banker credi­bly testified that banks generally will not lend moneyto the owner of a fractional interest in real propertywithout the consent ofthe co-owners and that the in­ability of the appraisers to find sales of fractional in­terests in comparable real property showed that therewas no market for fractional interests in such realproperty. The court further noted favorably the testi­mony by taxpayer's appraiser that the holder ofa

fractional interest in real property lacks control be­cause such holder cannot manage it unilaterally.9

After Williams, and its immediate an­tecedents, the issue is not whether a discount will beallowed, but based on the facts ofeach particularcase, what will be the size of an appropriate dis­count.lO

III. Rationales For Discounts

The premise for fractional interest discountsis that each tenant-in-common, regardless of the sizeof such tenant's interest, is entitled to possess anduse the co-owned property and, without resort to par­tition, cannot "oust" the other co-owners. ll Thisforced sharing .of access (rather than lack of access)has the potential to create significant confusion andupheaval.12 Further, since even a co-tenant with thesmallest fractional interest has a right to operate theproperty subject to the identical right ofeach oftheother co-owners, all co-owners must agree to all de­cisions related to the property if the operation is to bea success. A co-tenant thus has a veto, and disagree­ments can lead to gridlock.13 Judgment creditors ofany co-tenant may secure a lien on such tenant's un­divided interest and compel partition. In addition,the identity of a co-tenant can change with death ordivorce. FinaJly, as noted in the Williams case,14 fi­nancial institutions will not provide a loan on undi­vided interest property where the property is the solecollateral unless all undivided interest holders signthe loan documents.

With the foregoing disadvantages in mind,why would a hypothetical willing buyer15 purchase afractional interest without a sizable discount?

Each co-tenant, even one with just a minor or"sliver" interest, has the power to compel partition.The right of partition cuts both ways. It is valuableto the co-tenant desiring partition, less so to those infavor of the status quo. In a partition action, thecourt may partition the real property in kind, underwhich the property is physically divided in equitableproportions.

16If, however, division in kind is incon­

venient, !he court may alternatively allot the entireproperty to a co-tenant who will accept it and pay tothe other co-tenants cash for their pro-rata shares. Asa final possibility, if division in kind is inconvenientand the interests ofall co-tenants will be promotedby a sale ofthe entire property, the court may order asale and a pro-rata division of the proceeds.17 Wheremore than one co-tenant entitled to partition seeksallotment of the entire property to himself, a Virginia

9

trial court does not abuse its discretion in refusingallotment to either of them and ordering the propertyto be sold. 18

Once the partition action begins, absentagreement of all co-tenants, the sales process is outof the hands of each co-tenant, and whether a co­tenant agrees to the bid subsequently confirmed bythe court is irrelevant. 19 As in any judicial sale, thetrial court can accept bids until the final decree is en­tered.

20 In practice once the special commissioner ofsale has been authorized by the court to sen the prop­erty,21 such commissioner solicits bids over a reason­able period of time and generally accepts the highestnon-contingent, reasonable bid subject to confirma­tion by the court. In such a system, a co-tenant hasno veto but is limited to outbidding the highest bid­der. To say that such co-tenant is a "willing seller"is problematic. Also, since the period of bidding islimited in practice, taking the property off the marketuntil it improves is usually not an alternative. Be­cause the sales process is placed outside the controlof any co-tenant in a partition action, in many casesthe mere threat of partition will cause the co-tenantsto agree to sell the property.

Not only does the partition process lead to aforced sale, it is also fraught with the possibility ofhigh costs22 and significant delays.23 The prospect ofdelay depresses the investment desirability due to theuncertainty ofwhat the underlying property willlikely be sold for at the end of the partition process.Since the property in partition is tied up over an ex­tended period oftime during which market condi­tions may fluctuate, opportunities for favorable salesmay be lost. Several studies, including one involvingprivate placement of Rule 144 stock (forced holdingperiod of two years - 24% discount), a later one in­volving 160 Rule 144 securities (overaH average dis­count 20%, those companies with less then $10 mil­lion in market value having an average discount of31%), and one involving liquidating secondary mar­ket limited partnerships (discount 26%), have inanalogous situations attempted to quantify the dis­count associated with forced time delay similar tothat inherent in the partition process.24

In summary a willing buyer will not purchasean undivided co-ownership interest for a price equalto the overall value of the property times the amountofthe percentage interest, but will insist upon a dis­count because forced sharing of control is intrinsic toa tenancy-in-common and there is uncertaintywhether a sale in partition, due to its forced nature

and the costs and delays involved, will yield a pricetruly reflective offair market value.

IV. Application of Discounts

Although not entirely free from discussion,25in a gift tax setting under current law, discounts areapplied with "blinders" on, that is, you look simplyat what is being transferred, not who is doing thetransferring or who is getting the transfer26 or the ex­istence of other transfers by or to the same persons orwhat is being retained.27 Accordingly, where theowner of an undivided 50 percent interest in realproperty gives the interest to the other 50 percent co­owner, such gift would be viewed in isolation, and itsvalue for gift tax purposes would be entitled to a dis­count.

On the other hand, an undivided interesttransferred at death will be aggregated for estate taxvaluation purposes with all other interests owned atdeath by decedent in the same property.28 Thus,fractionalization ofdecedent's interest in a parceloccurring post-death will not result in discounts invaluing the parcel on decedent's estate tax retum.29

For example, where decedent devises equal percent­ages of decedent's vacation home to decedent's chil­dren, the full fair market value of the home will beincludible in decedent's estate.

Similar to the gift tax situation, decedent'sproperty is valued without regard to the identity ofthe beneficiary. The principle as stated in Propstra v.United States30 is as follows:

Because the estate tax is a tax on theprivilege of transferring propertyupon one's death, the property to bevalued for estate purposes is thatwhich the decedent actually transfersat his death rather than the interestheld by the decedent before death orthat held by the legatee after death.'31

In an earlier case, Estate ofLee v. Commissioner,32cited in Propstra,33 the Tax Court had declined to ag­gregate, for purposes of determining whether dece­dent had a controlling interest, decedent's 50 percentundivided interest in common stock with a like inter­est owned by her husband-beneficiary.34 In Estate.ofAndrews v. Commissioner,35 the Tax Court refusedto attribute decedent's siblings' 80 percent stock in­terest to decedent, holding that the value of dece­dent's 20% interest was entitled to a combined 60%

10

discount for lack of control and lack ofmarketabil­ity.36

In Estate ofPiJlsbury v.Commissioner,37 theTax Court, in allowing a 15 percent discount, statedthat it would not apply attribution principles to com-

, bine a 77 percent undivided interest in real propertyheld in trust for decedent with the other 23 percentinterest held by the same trustee for the benefit ofissue of decedent's late spouse.38 Finally in the Es­tate ofBonner Vo> Commissioner,39 the Fifth Circuitheld that the value of undivided fractional interests inreal and personal property owned outright by dece­dent were entitled to a fractional interest valuationdiscount for estate tax purposes inasmuch as suchinterests did not have to be aggregated with the re­maining interests (in such property) which were heldby a QTIP trust established for decedent's benefit byhis wife and included in decedent's estate under Sec.2044 ofthe Internal Revenue Code.

V. Size of Discounts

Discount percentages in cases allowing frac­tional interest discounts have ranged from 5 to 60percent, with quite a few decisions at 10 percent and

40 h15 percent. More recently, t e spread seems to bebetween 15 to 20 percent.41 Setting the size of thediscount is largely a matter ofexpert opinion; how­ever, one nationally known planner simply obtains anappraisal of the value of the overall property, multi­plies the ownership percentage by such overall valueand then discounts by 20 percent (without using anexpert for the discount).42

Any appraiser hired to determine an appro­priate discount in a given case should be thoroughlyfamiliar with discount strategies related to more so­phisticated techniques.43 In particular, the appraisershould be sensitive to the time value ofmoney andhave knowledge of relevant studies related to forcedholding periods.44 In addition, the appraiser shouldhave facility with various valuation methodologiesincludingthe capitalization ofcash flow and holdingcompany methods., The appraiser should consultwith a lawyer who has expert knowledge concerningtenancies-in-common and the partitioning process inthe locality of the property. Besides developing adata base concerning the ease ofdivisibility of theparcel in question, sales ofcomparable fractional in­terests, if any, the availability of financing for theinterest and costs, time and forced control issues, theappraiser should note any special difficulties related

to the size, type and use of the property and the num­ber ofowners and their percentage interests.45

VI. Planning Observations

In every potentially taxable estate, the plan­ner should consider advising the client to fractional­ize real property. As between spouses, suitable re­gard should be given to converting all survivorshiptenancies46 to tenancies-in-common.47 At the deathof the first spouse, the bypass trust can then befunded with discounted undivided interests maximiz­ing the use ofthe shelter. The funding of the QTIPshare with an undivided interest will permit a dis­count in connection with the valuation of that interestat the death of the survivor.48

Fractionalizing a residence between spouseswho both live there should not cause any transfer taxdifficulty, but fractionalizing a residence between adonor-parent and a child may cause inclusion in theparent's estate as a retained interest under Code Sec­tion 2036 (a)(I).49

As noted at the beginning, annual exclusiongifts of undivided interests in real property leveragethe exclusion and depress the value ofthe interestretained.50 Transfel;s of undivided interests in realproperty to minors can be made through the VirginiaUniform Transfers To Minors Act.51

With regard to the assessment of the tax risksassociated with gifts of"sliver" undivided interestsby the dying client, note should be taken ofEstate ofM h C .. 52 h· .. d 53urn y v. ommlSSloner, a muc crItICIze casein which the Tax Court disallowed a minority dis­count for a 49.6 percent stock interest where dece­dent had given .9 percent of the stock to each oftwochildren eighteen days before her death (reducing herholdings from 51.4 to 49.6 percent). In direct oppo­sition to the Estate of Murphy decision and withoutmentioning it, the Tax Court in Estate ofFrank v.Commissioner54 permitted a discount (combined45%) for decedent's 32.14 percent block of stock re­maining after he gave 18.16 percent of the stock tohis wife just two days before his death, the transfershaving been effected through a power of attorneyheld by decedent's son. The Frank case involvedtransfer of an 18.16 percent block rather than a 1.8percent block ofstock as in Murphy; however, it isdifficult to see how this main distinguishing factcould produce opposite results.55 Since at worstdeath-bed gifts of undivided interests will be re­spected even if the discounts are disallowed, and atbest discounts will be allowed on both the gifts and

11

decedent's retained undivided interest, it is hard tosee any downside with regard to this manner ofgift­ing~

Where each spouse transfers a fractional in­terest in the family home to such spouse's qualifiedpersonal residence trust (QPRT),56 the value ofthegift (the remainder interest) will be entitled to a dis-·count. A single homeowner can get the same resultby establishing two (or more) QPRTs each to containa fractional interest in the home.57

Enhanced discounts for partnership interestsin a family limited partnership (FLP) would be avail­able where the FLP owns an undivided· interest inreal property as a tenant-in-common.

In making fractional interest gifts with en­cumbered property, the amount ofthe encumbrancemay be deducted.58

Finally, planning consideration should begiven to maximizing the number ofco-tenants anddecreasing the percentage retained as these factorsmay influence the size of the discount permitted.59

VII. Conclusion

The law is clear at present that a valuationdiscount is properly applicable both to the gift ofanundivided interest in real property and to the valua­tion of an undivided interest in real property remain­ing in decedent's estate at death. Discounts in the 15to 20 percent range involve little tax risk. It is ex­pected that experienced discount appraisers familiarwith the disadvantages oftenancies-in-common, in­cluding forced access and forced sale issues, will beutilized more frequently in the future resulting in in­creased discounts.

Transfer tax planning using fractional inter­est gifts is relatively inexpensive, simple and quickto implement and easy to explain and understand.Such planning is appropriate in a wider range of situ­ations than more sophisticated techniques. As a re­sult, use of and uses for this flexible planning toolwill multiply.

Munford R Yates, Jr., is a partner in Yates& Yates, LLP, a Fairfax lawfirm specializing in es­tate, gift andfiduciary income tax planning, trustand estate administration and contested estate andtrust matters. He is a graduate ofthe University ofVirginia School ofLaw and is a former Chair oftheWills, Estates & Trusts Section ofthe Fairfax BarAssociation.

ENDNOTES

1. As used here, an "undivided interest" refersto an interest in a tenancy-in-common and is usedinterchangeably with "fractional interest." UnderVirginia law, such an interest generally is created bya deed to two or more grantees without survivorshiplanguage, see VA. CODE ANN. § 55-20 (Michie 1995),or by will or by operation of law, see, e.g., VA. CODEANN. § 20-111 (Michie 1995). Residuary beneficia­ries under a will take real estate passing by the resid­uary clause as tenants-in-common ("co-tenants"). Atypical gift deed creating a tenancy-in-common fol­lows as Exhibit 1. Undivided interests need not beequaL

2. There are, ofcourse, disadvantages with atenancy-in-common. These disadvantages account inpart for the valuation discount and will be noted else­where in this article.

9. Even though the size of the discount inWilliams is an apparent aberration, the emphasis bythe court on lack ofcontrol and the historic difficultyof selling an undivided interest in real property istypical of recent cases. See, e.g., Estate ofCervin v.Commissioner, 68 T.C.M. (CCH) 1115, T.C. Memo1994-550 (20% discount). For a case permjtting acombined discount of30 percent for fractional inter­ests and lack of marketability in valuing gifts ofun­divided interests in New York real property, seeLeFrak v. Commissioner, 66 T.C.M. (CCH) 1297,T.C. Memo 1993-526.10. Richard Covey, Remarks at a Seminar con-cerning "Valuation Discounts: What's Available andHow to Get Them" 24 (May 6, 1998)(transcriptavailable from the National Law Foundation).

11. See, generally, Overbyv. White, 245 Va.446 (1993); Chosar Corp. v. Owens, 235 Va. 660(1988).

6. 73 T.C.M. (CCH) 2615, T.C. Memo 1997-180.

5. Richard Covey, Remarks at a Seminar con-cerning "1997 Taxpayer ReliefAct and Other Impor­tant Estates, Gifts and Trusts Developments" 131

. (Oct. 15, 1997)(transcript available from. the Na­tional Law Foundation).

3. For a comprehensive review of the history ofthe case law up to 1993 (including a chart showingdiscounts allowed in each case) see John Braswell,"Valuing Fractional Interests in Real Estate for Fed­eral Estate and Gift Tax Purposes: A Current Assess­ment of the Law," 34 TAX MGMT. MEMORANDUM 275(1993).

7. For a discussion of Barge, see John Bogdan­ski, "Valuing Undivided Interests: A New Approachto an Old Problem," 24 ESTATE PLAN. 495 (Dec.1997); for criticism of the mathematical correctnessof the Barge result, see Lance Hall, "Should The IRSSurrender Cost-to-Partition Discounts for UndividedInterests?," VALUATION STRATEGIES (Jan-Sept. 1998) at25.

Section 2512 provides that if a giftis made in property, its value at thedate ofthe gift shall be consideredthe amount of the gift. The valueof the property is the price atwhich such property would changehands between a willing buyer anda willing seller, neither being un­der any compulsion to buy or tosell, and both having reasonableknowledge ofrelevant facts. Thevalue ofa particular kind of prop­erty is not the price that a forcedsale of the property would pro­duce.

See VA. CODE ANN. § 8.01-81 (Michie 1992).16.

12. Hall, supra note 7, at 26; see generally JohnBogdanski, ESTATE TAX VALUATION, 5-4 to 5-7 (1996).

14. Williams, supra note 8.

13. Hall, supra note 7, at 26.

15. See Treas. Reg. § 25.2512-1 (as amended in1992):Tech. Adv. Mem. 93-36-002 (May 28, 1993).4.

8.59.

75 T.C.M. (CCH) 1758, T.C. Memo 1998-17. VA CODE ANN. § 8.01-83 (Michie 1992).

18. Thrasherv. Thrasher, 202 Va. 594 (1961);Shotwell v. Shotwell, 202 Va. 613 (1961) (both de-

12

cided under a prior version of VA. CODE ANN. § 8.01­83, subsequent changes to which would not effect theholding in either case). In Shotwell the minority co­tenant held a 1/8 interest.

19. Virginia Code sections related to partitionare found at VA. CODE ANN. §§ 8.01-81 to 8.01-93(Michie 1992); those related to judicial sales gener­ally at VA. CODE ANN. §§ 8.01-96 to 8.01-113(Michie 1992).

20. See, e.g., Austin v. Dobbins, 219 Va. 930(1979).

21. After findings that partition-in-kind cannotbe conveniently made and that the interests ofthe co­tenants will be promoted by a sale of the entire prop­erty. VA. CODE ANN. § 8.01-83 (Michie 1992).

22. Such costs may include filing fees, servicefees, fees of the commissioner in chancery, court re­porter fees, bond premiums, title fees, grantor's tax,commissioner of accounts fees, commissioner of salefees, attorneys fees, appraisal fees, surveyor fees, ad­vertising fees and the like and may exceed 7% ormore of the value o(the property.

23. Even though in Virginia the partition processcan be sped up by referral to a commissioner inchancery, and the length of time involved may varyfrom jurisdiction to jurisdiction, a contested partitionsuit involving discovery would require at least ninemonths before the sale is authorized, followed by aperiod when bids are received, one is accepted and aconfirmation decree entered. If an appeal is takenfrom such decree, then the process would involve an­other year at least. It would be hard to imagine acontested partition action including an appeal beingcompleted in less than two years in Virginia. A re­view of recent reported partition cases involving ap­peals indicates that the time lapse may be evengreater: Upton v. Hall, 225 Va. 168 (1983) re­mandedforfurther proceedings (four years until rul­ing of Supreme Court of Virginia); Quillen v. Tull,226 Va. 498 (1984) (in excess of four years untilSupreme Court affirmance of trial court decree);Sensabaugh v. Sensabaugh, 232 Va. 250 (1986)rev 'd and remanded (seven years until ruling); andSmith v. Woodlawn Constr.Co., 235 Va. 424 (1988)rev'd and remanded (in excess ofnine years). Be­cause of delay potential, logically any purchaser in apartition action would, make the contract offer con-

13

tingent on settlement within a reasonable time, andan appeal would have the effect ofvoiding any suchcontract further delaying the process.

24. Hall, supra note 7, at 27-28.

25. See, e.g., Bogdanski, supra note 12, at 5-10to 5-11.

26. Covey, supra note 5, at 134-5.

27. Howard Zaritsky, "Sauce For The Goose?IRS rejects Discount Based on Aggregating SeparateGifts," 24 ESTATE PLAN. 344 (Sep. 1997)(analyzingimplications of Tech. Adv. Memo 97-19-001 (Nov.19, 1996». See also Estate of Minihan v. Commis­sioner, 88 T.C. 492 (1987); Rev. Rut 93-12, 1993-1CB202.

28. Zaritsky, supra note 27, at 340.

29. Post-death fractionalization may be disas­trous if such interests are used to fund a marital orcharitable share. In such case the values of such in­terests should be discounted resulting in a marital orcharitable deduction which is less than the propor­tionate value of the interest distributed. To avoidthis result, in cases. where a full marital or charitablededuction .is desired, the estate planning documentsshould mandate, or at least permit, non-pro-rata dis­tributions.

30. 680 F.2d 1240 (9th Cir. 1982).

31. Id., at 1250. In Propstra, in refusing to apply"unity ofownership" principles, the Ninth Circuitemphasized that the "willing seller" in the "fair mar­ket "alue" definition ofTreas. Reg. § 25.2512-1, seesupra note 15, is a hypothetical seller related to noone, and, therefore, the valuation analysis should notinclude consideration of the identity, personality orobjectives ofany co-tenant.

32. 69 T.C.860(1978).

33. Propstra, supra note 30, at 1252.

34. See Bright v. United States, 658F.2d 999(5th Cir. 1981), for a similar result.

35. 79 T.C. 938 (1982).

36. See EstateofBergv. Commissioner, 61T.C.M. (CCH) 2949, T ..C. Memo 1991-279, for asimilar result.

37. 64 T.C.M. (CCH) 284, T.C. Memo 1992-425.

38. See Mooneyham v. Commissioner, 61T.C.M. (CCH) 2445, T.C. Memo 1991-178, for asimilar result.

39. 84 F.3d 195 (5th Cir. 1996). For a thought-ful discussion ofthis case see Farhad Aghdami,"Fractional Interest Discount Opportunities After Es­tate ofBonner," 13 TR. & EST. NEWSL. 2 (Fall 1996).

40. Bogdanski, supra note 12, at 5-12.

41. Covey, supra note 5 at 131.

42. Id., at 134. Assuming the appraisal of theoverall property is accurate (and the discount taken isless than 50 percent), no penalty for substantial trans­fer tax valuation understatement (value per return 50percent or less ofcorrect value) under I.R.C. § 6662(1986)(as amended), would be expected.

43. Such as valuation of limited partnership·("FLP") and limited liability company ("LLC") inter...ests.

44. Hall, supra note 7, at 27-28.

45. Where the fractional interests are large_ enough and the values high enough to justify the ex­

pense, it is the writer's current practice to:hire a reale&tate appraiser to appraise the overall value of theproperty and a.separate appraiser for the discount.The last two discount appraisals obtained appraisedthe discounts ofundivided interests at 40 percent and45 perce(lt.

46. Currently no discounts appear to be availablewith respect to survivorship tenancies. Estate ofYoung v. Commissioner, 110 T.C. 297 (1998).

47. Assuming no asset protection or divorce is-sues are present.

48. For reasons set forth in note 29, the maritaldeduction share should not be funded with a partialinterest created out ofan unfractionalized asset at the

14

time of funding. Assuming no fiduciary duty is vio­lated, creation of a fractional interest out of an un­fractionalized QTIP asset during the administrationofthe QTIP trust, such as by distributing a "sliver"interest from the QTIP to the surviving spouse,would permit discounting ofthe partial interest re­tained in the QTIP at the survivor's death.

49. Rev. Rul. 70-155, 1970-1 C.B. 189; Estate ofLinderme, 52 T.C. 305 (1969). For a possible solu­tion where the child will reside with the parent, seeEstate ofRoemer v. Commissioner, 46 T.C.M.(CCH) 1176, T.C. Memo 1983-500.

50. Where the property to be fractionalized has alow basis for income tax purposes, an analysis com­paringestate·tax savings to the capital gains tax re­sulting from the loss of the basis "step-up" underI.R.C. § 1014 (1986) should be prepared in connec­tion with advice concerning gifts in excess ofthe an­nual exclusion.

51. See VA. CODE ANN. § 31-45(A)(5) (Michie1997).

52. 60 T.C.M. (CCH) 645, T.C. Memo 1990-4'72.

53. See, e.g. Bogdanski supra note 12, at 4-81 to4-82; Richard Covey, "Sophisticated Estate Planning& Drafting Technologies," 38-41 (Oct. 16,199.7)(outline available from National Law Founda­tion). In effect the Murphy court disregards the re­peal in 1981 by amendments to I.R.C. § 2035 of thethree year rule.

54. 69 T.C.M. (CCH) 2255, T.C. Memo 1995-132.

55. Despite Frank, the IRS continues to citeMurphy. See Bogdanski, supra note 12, at 4-84(suppl.).

56. A QPRT is a specific exception to the valua-tion rules ofl.R.C. § 2702 (1986). SeeI.R.C. §2702(a)(3)(A)(ii) (1986).

57. For a comprehensive treatment ofthis tech­nique, including comparisons ofamounts oftaxablegifts where sizes of the fractional interests trans­ferredand the duration of the QPRTsvary, seeGilliand, "Fractional Interests Make a Better QPRT,"

REAL PROP., PROB. & TR. J. 146, 174-191 (Spring1997).

58. LeFrak, supra note 11, at 1301. The use ofencumbered property is problematic. At the least,the principal portion of the mortgage paid by donorin excess of donor's proportionate share of the prop­erty would constitute a further gift.

59. See generally Braswell, supra note 3, at 284.

15

FUNDING REVOCABLE LIVING TRUSTSFOR MARRIED CLIENTS WITH ESTATE TAX EXPOSURE

ByMartha Leary ~otelo, Esq.

Donna Esposito Fincher, Esq.Patrick J. Vaughan, Esq.

I. SCHEDULE OF ASSETS - BEFORE FUND­INGTRUST

to minimize estate taxes, manage your assets in theevent of your incapacity, avoid probate and preserveyour privacy. Since you are each serving as a co­trustee of your own trust, the proper employer identi­fication number for John's trust is his social securitynumber, and the proper employer identification num­ber for Elizabeth's trust is her social security number.

As we discussed, you each have an estate taxexemption which in 1998 is equal to $625,000. Thisamount will increase steadily for the next severalyears, until the year 2006, at which time the estate taxexemption amount will equal $1,000,000. We recom­mend that you prepare for the increase in the estatetax exemption by funding each of your trusts asclosely as possible to the $1,000,000 level. Not onlywill this ensure that you have taken full advantage ofthe estate tax exemption available to each of you infuture years, it also allows for the management ofyour assets by your successor trustees in the event ofyour incapacity.

Below you will find the following:I. Schedule of Assets - Before Funding

TrustsII. Retitling RecommendationsIII. Schedule ofAssets - After Funding Trusts

Authors ~ Note: In the Spring Trusts andEs­tates Newsletter~ we discussed the issues presented infunding revocable living trusts for single clients. Incontinuation ofthat theme~ we now look at the issuesraised when married clients with estate tax exposurefund their revocable living trusts. While some ofthebasic issues for funding married clients' trusts arethe same asfunding a single client's trust, specialattention must be paid to the division ofassets be­tween the two married clients' trusts to ensure thatthe clients take full advantage oftheir available es­tate tax exemptions. Additionally, planningfor mar­ried clients with estate tax exposure who have signif­icant assets in either individual retirement accounts(HlRAs'') or other qualified retirementplans pre­sents complicated income and estate tax issues thatmust be thoroughly analyzed when funding their re­vocable living trusts.

You've been assisting John and ElizabethJones, retired married clients ages 68 and 64 respec­tively, with their estate planning arrangements. Johnand Elizabeth have three children. They have a com­bined net worth of $2,000,000. Their primary goalsare to minimize estate taxes, avoid probate complica­tions, preserve family privacy and streamline the set­tlement of their affairs in the event of their incapacityor death. On your advice, they have executed estateplanning documents consisting of revocable livingtrusts (which include credit shelter trusts upon thefirst death and continuation trusts for the benefit ofthe children·of a deceased child), pour-over wills,durable general powers ofattorney and advance med­ical directives. The revocable living trusts are de­signed to shelter both of their federal estate tax ex­emptions (i.e., applicable exclusion amounts). Johnand Elizabeth have asked for your recommendationson how to retitle their assets to properly fund theirrevocable living trusts.

To: John and Elizabeth JonesNow that you have executed your estate plan­

ning documents, you should fund your revocableliving trusts to maximize their usefulness as a vehicle

16

John's IRA --Traditional(3)John's IRA -- Roth(3)Virginia Residence(net)(2)North Carolina Beach Condo(2)Stocks and Bonds(1)Life Insurance on John's Life(3)Mutual Funds(1)Partnership Interest(1)Certificates ofDeposit(1}Installment Note(1)U.S. Savings Bonds(l)Checking Account(1)Tangible Personal Property(l)

Total Assets

$600,000100,000350,000200,000200,000100,000250,000

50,00050,000

25,00025,00010,00040,000

$2,000,000

Assets are titled asfollows:

(1) Joint tenants with right of survivorship(2) Tenants by the entirety with right of

survivorship(3) Primary beneficiary = spouse; alternate

beneficiary = children

II. RETITLING RECOMMENDATIONS

JOHN'S IRA (Traditional)John's traditional IRA equals roughly one­

third ofyour combined assets. John will begin takinghis required minimum distributions from this accountin approximately three years. In determining howJohn's required minimum distributions will be calcu­lated, John has the option of using his life expectancyand that ofa designated beneficiary.

John may name Elizabeth, his revocableliving trust l or your children as the beneficiary ofhistraditional IRA. If Elizabeth is the beneficiary ofJohn's IRA, she can elect to roll-over the IRA into anIRA in her own name and defer the payment ofincome taxes.2 When Elizabeth reaches the age whenshe must receive her required minimum distributions,(i.e., April 1 of the calendar year following the calen­dar year in which she reaches the age of 70-1/2), shecan elect to have the distributions calculated basedher life expectancy and the life expectancy of adesignated beneficiary (i.e., your oldest child). Adesignated beneficiary will be treated as no more thanten years younger than Elizabeth.3

If Elizabeth is the beneficiary of John's IRA,however, John's trust may not contain enough assetsto use up all of his available estate tax exemption.With Elizabeth's consent, John could name his revo­cable living trust as the beneficiary. John can still useElizabeth's life expectancy to calculate his requiredminimum distribution.4 The trust, however, does nothave the right to roll-over the IRA into an IRA inElizabeth's name. If John dies before the requiredmandatory distributions have begun, distributionsfrom the IRA will have to be paid within a five-yearperiod after John's death or over Elizabeth's lifeexpectancy.5 If he dies after the required mandatorydistributions have begun, the IRA funds must bedistributed at least as rapidly as under the method ofdistribution in effect on the date of John's death.6

Since an individual's income tax rates aregenerally lower than the estate tax rate, it may makesense to have John's trust pay some income taxes onhis IRA rather than have Elizabeth's estate pay estate

17

taxes on any IRA funds rolled over to· her. Beforereaching this conclusion, however, the potential es­tate ·tax liability of Elizabeth's estate needs to bedetermined. Since we cannot predict at this time thesize of Elizabeth's estate, or even which spouse willdie first, we recommend that John designate Eliza­beth as primary beneficiary and John's trust as alter­nate beneficiary of his IRA. Thus, if Elizabeth sur­vives John, she will have the option of either (i)rolling over the IRA into her own IRA and deferringincome taxes; or (ii) disclaiming some or all of theIRA to further fund John's trust and fully utilize hisestate tax exemption.

Designating your children as the beneficia­ries of John's IRA would enable you to minimize, tothe extent possible, the size of the distributions thathe will receive from his IRA. John can' have theamount of the required distributions calculated basedon his life expectancy and your oldest child's lifeexpectancy (subject to the ten-year rule). UponJohn's death, the children could elect to receive dis­tributions based on the oldest child's life expectancyand continue the deferment of the payment of income

7taxes. ,Naming your children as the beneficiaries of

John's IRA; however, will prevent Elizabeth fromhaving access to these funds if she survives John andneeds the IRA assets for her support. Additionally, ifJohn dies first and the amount in the IRA exceedsJohn's estate tax exemption, estate taxes will have tobe paid on the excess amount.

You might consider separating the IRA intoseveral IRAs, one for Elizabeth and one for each ofthe children. You must separate the IRA, however,before John starts receiving his required minimumdistributions. This would allow you to place a signif­icant amount of the IRA assets into an IRA withElizabeth as primary beneficiary and the trust as thealternate beneficiary. - You could then place smalleramounts into IRAs for each ofthe children. The mainbenefit of this strategy is that upon John's death, eachchild could electto receive distributions based on hisor-her-life expectancy.

IRA (Roth)In .February of 1998, you converted some of

the assets in John's traditional IRA to his Roth IRAand you are in the process of converting more assetsbefore April 15, 1999. You are planning to pay theincome taxes resulting from the conversion over thetax years 1998 through 2001, rather than solely in1998.

If John dies before all of the taxes have beenpaid, Elizabeth, as the surviving spouse, may elect tocontinue the payment ofthe taxes over the remainderof the four-year period so long as she is the solebeneficiary of all of John's Roth IRA's.s Otherwise,any portion of the conversion amount for which taxeshave not been paid will be included in John's taxableincome for the tax year that includes his date ofdeath.9

In order for any distributions from the RothIRA to be non-taxable, the amounts in the Roth IRAmust be held for a period of five years. 10 Thisfive-year time period begins to run on the first day ofthe tax year in which the first contribution is made tothe Roth IRA. II Thus, you could contribute fundsanytime from January 1, 1998 to April 15, 1999 andthe five-year taxable period begins on January 1,1998.12 Since you made your first contribution inFebruary 1998, your five-year taxable period will endon January 1, 2003. This five-year taxable periodapplies to any funds you may contribute in later taxyears. For example, if you contribute funds in theyear 2000, you may also withdraw those funds with­out tax in the year 2003.13 If John should die beforethe end of the five-year taxable period and Elizabethis the beneficiary of the IRA, she will have the rightto treat the Roth IRA as her own and the five-yeartaxable period could continue from the January 1,1998 date.14

John is not required to take any distributionsfrom his Roth IRA during his lifetime.I5 John's rightto defer distributions from the Roth IRA passes toElizabeth as the surviving spouse if she is the solebeneficiary of "the Roth IRA. 16 Thus, if Elizabeth is

~ the beneficiary, the amount in the IRA can continueto grow income tax-free for the benefit of your chil­dren. If any other beneficiary is designated to receivethe Roth IRA, the account must be distributed (i) byDecember 31 of the year containing the fifth yearanniversary of John's death, or (ii) over the lifeexpectancy of the designated beneficiary.17 If youname John's trust as the beneficiary, the life ex­pectancy of the trust's oldest beneficiary, most likelyElizabeth, will be used to calculate the distribution.

Until the five-year taxable period ends in theyear 2003, Elizabeth should be the primary benefi-

.ciary of the Roth IRA with John's trust as the alter­nate beneficiary. After that time period, you shoulddetermine whether the Roth IRA will be needed tofund John's trust to take full advantage of his estatetax exemption. If his trust is not fully funded, youshould designate John~s trust as the beneficiary of the

18

Roth IRA in order to shield the Roth IRA from estatetaxes. Given the significant advantages to designat­ing Elizabeth as the beneficiary of the Roth IRA, youshould carefully monitor the assets in John's trust sothat if at a later date you no longer need the Roth IRAto fund John's trust for estate tax purposes, you canchange the beneficiary designation back to Elizabeth ..

Virginia ResidenceYour residence is encumbered by a $100,000

mortgage. It is our understanding that you may wantto refinance this mortgage or obtain a home equityloan in the near future. Under federal law, you mayretitle your residence to your trusts without any riskthat your lender may exercise its option under thedue-on-sale clause as long as you remain the benefi­ciary of the trusts and continue to occupy your resi­dence.. 1s

Since you intend to refinance or obtain ahome equity loan on your residence, we recommendthat you execute a new deed conveying an undividedone-half interest in your residence to each of you astenants in common. Lenders are often reluctant andsometimes even refuse to make a loan secured byproperty which is titled to a trust. Even if the lenderdoes not refuse to make the loan, the lender willimpose additional requirements before agreeing to theloan which will complicate settlement. Additionally,some title insurance' companies may deny claims onthe basis that the properties were transferred into a

hI I· · 19revoca e IVlng trust.Fortunately, Virginia law provides a method

of transferring real property upon death which by­passes traditional probate and allows title to vestautomatically upon death.20 The filing of the willwithout the appointment of an executor has the sameeffect as if a deed were recorded. Therefore, youshould not be concerned that the failure to re-deedyour residence into your trusts will cause unnecessaryprobate complications upon your death.

Notwithstanding the above, ifyou decide thatyou would rather have your residence transferred intoyour trusts, you should note that the transfer will nottrigger any recordation tax in Virginia.21 Also, thetransfer of the property to your trusts will have noimpact on your ability to take advantage of the$500,000 capital gain exclusion for married personswho have resided in their homes for two out of thelast five years.22

North Carolina Beach CondominiumAt this time~ your beach condominium is free

and clear of any mortgage. If you do not intend tomortgage the property in the future, you should exe­cute a new deed transferring an undivided one-halfinterest in the property to each of your trusts. UnlikeVirginia, North Carolina requires probate proceed­ings to transfer your property upon death. By trans­ferring title to the property to your trusts now, yourestate will not have to undergo ancillary probateproceedings in North Carolina with respect to thisproperty.

You should contact an attorney in North Car­olina (or if you prefer, we will contact one for you)to assist in the preparation of a new deed. A NorthCarolina attorney should prepare the new deed toensure compliance with North Carolina law and toascertain any tax consequences resulting from thetransfer.

If you intend to mortgage your North Car­olina beach condominium, we recommend that youdo not transfer the property into your trust until afteryou obtain the mortgage. As mentioned above,lenders are often reluctant and sometimes even refuseto grant a loan against property which is owned by atrust. If you use the beach condominium only foryour personal purposes, you can transfer the propertyto your trust after you obtain the mortgage withoutrequesting the lender's approval.23 If you use thebeach condominium as a rental property, you mustobtain the lender's approval before retitling the prop­erty to your trust. Failing to obtain the lender'sapproval before retitling rental property to your trustscould result in the lender exercising its option underthe due-on-sale clause.

You should also keep in mind the possibilitythat the transfer of the property to the trusts mayresult in a denial of coverage by your title insurancecompany. You should review your policy and contactyour insurance provider to determine whether cover­age will continue if you transfer the property. If theinsurance provider indicates that such coverage willcease then you should inquire about the cost of pur­chasing an "Additional Insured" endorsement.

Stock and BondsYour stocks and bonds should be evenly di­

vided between your two trusts to the extent possible.While you do not have to hold the exact ·same securi­ties in each trust account, you should try to balancethe value and type of securities in the accounts. Forinstance, you do not want to transfer all of the higherrisk securities into one ofthe trust accounts and all ofyour more conservative investments into the other

19

account because the value of the accounts may in­crease ·or decrease disproportionately. Currently,you have a brokerage account which holdsthe major­ity of your securities. You also hold a few stockcertificates outside ofyour brokerage account.

With regard to your brokerage account, youshould· contact your broker and instruct him or her toestablish a new account in the name of each of yourtrusts. Your broker will probably want to see certainpages of your trusts in order to verify that the trustsare valid, to ascertain the trustees and to determinethe extent of the trustees' powers. Your broker willsend you whatever paperwork is necessary to estab­lish the new accounts. Your broker will take care oftransferring the stocks and bonds from your existingaccount to the new trust accounts.

You have two options with respect to reti­tling the stock certificates that are not in the broker­age account. You can contact the transfer agent foreach stock to request a new certificate in the name ofone of the trusts, or you can transfer these stocks toyour broker. to be held in one of the new brokerageaccounts and let your broker handle the retitling. Ifyou contact the transfer agent directly, you will bearthe responsibility of making sure the new stockcertificates are issued properly. Like your broker,the transfer agent will probably want to see certainpages of your trusts in order to verify that the trustsare valid, to ascertain the trustees and to determinethe extent ofthe trustees' powers.

The appropriate wording for retitling yourbrokerage account and the stock certificates toJohn's trust is:

John Jones Trust dated October 15, 1998,John Jones and Elizabeth Jones, Trustees,either ofwhom may act independently.

The appropriate wording for retitling yourbrokerage account and the stock certificates toElizabeth's trust is:

Elizabeth Jones Trust dated October 15, 1998,Elizabeth Jones and John Jones, Trustees,either of whom may act independently.

Life InsuranceJohn should be the owner of the ·Iife insur­

ance policy insuring his life and: his trust should bedesignated ·as the beneficiary of the policy upon hisdeath as follows:

Trustees of John Jones Trust dated' October'15, 1998.

If a life insurance company requires you toidentify the specific trustees~ identify the trustee(s)who will serve following John's death.

Designating John's trust (rather than Eliza­beth or your children) as the beneficiary of your lifeinsurance policy win allow John to further fund histrust for estate tax purposes and ensure that, upon thedeath of the second of you, your children or otherbeneficiaries will receive the proceeds in accordancewith the trust arrangements you have made on theirbehalf.

Mutual FundsYou should transfer $175,000 ofyour mutual

funds into Elizabeth's trust and the balance intoJohn's trust. The greater value to Elizabeth's trustwill compensate for the $100,000 of life insuranceinsuring John's life which will fund his trust upon hisdeath. If your mutual funds are held in your broker­age account, you should contact your broker andinstruct him or her to transfer your holdings into thenew brokerage accounts registered in the names ofyour trusts. Your broker will send you any paper­work necessary to complete the transfer.

Ifyou deal directly with the transfer agent foryour mutual funds, you should request the transferagent to retitle the mutual funds into the names ofyour trusts. The transfer agent will probably want tosee certain pages of the trusts in order to verify thatthe trusts are valid, to ascertain the trustees and todetermine the extent of the trustees' powers under thetrusts.

The appropriate wording for retitling the mu­tual funds to your trusts is the same as for retitling thestocks and bonds to your trusts.

Partnership InterestJohn owns a fifteen percent (150/0) interest as

a limited partner in a limited partnership. You shouldtransfer this interest into John's trust. The partner­ship .agreement requires the generalparbJer to ap­prove any transfer of your partnership interest. Youshould contact the general partner of the limitedpartnership and request his or her assistance in as­signing your limited partnership interest to your trust.

The appropriate wording for the assignmentofJohn's partnership interest is:

John Jones Trust established October 15, 1998,John Jones and Elizabeth Jones, Trustees,either ofwhom may act independently.

20

Certificates ofDepositYou should fund Elizabeth's trust with the

certificates ofdeposit ("CDs") in order to balance theassets in her trust with John's trust since John's trustis funded with John's interest in the partnership. One

. option is to retitle the CDs into Elizabeth's trust bycompleting new signature cards which change thetitle to .both of you as trustees of Elizabeth's trust.The appropriate wording for retitling the CDs toElizabeth's trust is as follows:

Elizabeth Jones Trust dated October 15, 1998,Elizabeth and John Jones, Trustees,either ofwhom may act independently.

The other option is to designate Elizabeth'strust as the "Pay on Death" or "P.O.D." beneficiary ofthe CDs. The appropriate wording for designatingElizabeth's trust as the P.O.D. beneficiary of the CDsis as follows:

Trustees ofElizabeth Jones Trust dated Octo­ber 15, 1998.

Please note that before you change the title toyour CDs, you should ask the bank whether thechange in title will trigger any forfeiture of interest.If so, you should wait until the CDs mature beforeretitling them to Elizabeth's trust.

u.s. Savings BondsYour savings bonds are titled in both of your

names as joint tenants with right of survivorship withone-half of the bonds registered with John's socialsecurity number and one-half of the bonds registeredwith Elizabeth's social security number. Title to thebonds should be changed in order to ensure that theypass into the trusts and do not pass automatically tothe surviving spouse. Accordingly, you should re­move Elizabeth's name on the bonds which are regis­tered with John's social security number and, like­wise, remove John's name on the bonds which areregistered with Elizabeth's social security number.The spouse whose name remains on the bond shouldthen designate his or her trust as the P.O.D. benefi­ciary of the bonds or retitle the bonds into his or herown trust. Retitling the bonds to the trust will nottrigger the recognition of deferred income on thebond because the owner of the bonds bas notchanged. The spouse whose social security numberwas originally assigned to on the bond is consideredh .c.. 24t e owner lor Income tax purposes.

The appropriate wording for designatingJohn's trust as the P.O.D. beneficiary is as follows:

Trustees of John Jones Trust dated October15, 1998.

The appropriate wording for designatingElizabeth's trust as· the P.O.D. beneficiary is as fol­lows:

Trustees ofElizabeth Jones Trust dated Octo­ber 15, 1998.

Installment NoteFive years ago, you loaned money to one of

your children to establish her own business. Shesigned a promissory note agreeing to pay the loanback over 15 years. You are both the payees of thenote. Yon should endorse an undivided one-halfinterest in the installment note to each of your trustsas follows:.

As to an undivided one-half interest,pay to the order of John Jones Trust estab­

lished October 15, 1998,John Jones and Elizabeth Jones, Trustees,either ofwhom may act independently

As to an undivided one-half interest,pay to the order of Elizabeth Jones Trust

established October 15, 1998,Elizabeth Jopes and John Jones, Trustees,either ofwhom may act independently.After you insert this wording, you should

sign and date the endorsement.

Checking AccountsYou should continue to own your checking

account as joint tenants with right of survivorshipThe relatively small amount ofcash that you maintainin this account will not be needed to· fund your trustsfor estate tax purposes. Changing the title of yourchecking account will complicate the direct depositarrangements you presently have for your pensionsand your government benefits. The account will passby right ofsurvivorship the surviving spouse upon thedeath of the first spouse to die without any probatecomplications. The checking account will be aprobate asset in the estate of the surviving spouse.Therefore, after the first spouse dies, the survivingspouse should designate his or her trust as the P.O.D.beneficiary of this account to avoid probate upon thedeath of the surviving spouse.

Tangible Personal PropertyIn general, it is not necessary to transfer title

to your tangible personal property (e.g., clothing,jewelry, household goods, personal effects and auto-

21

mobiles) to your trusts while both ofyou are living ifthese assets are not needed to fund your trusts forestate tax purposes. You should write a letter ofinstructions to your executor indicating how youwould like specific items (not otherwise specificallybequeathed) distributed upon your death.25 This lettermust describe the items and intended· beneficiarieswith reasonable certainty and be signed by you. It isnot necessary for your letter to be witnessed or nota­rized. You may alter or amend this letter of instruc­tions at any time without having to modify your willor trust. When the first spouse dies, we recommendthat the surviving spouse assign his or her·interest inthe tangible personal property to his or her trust toavoid probate upon the second death. We will behappy to prepare such an assignment for you.

CONCLUSIONWe strongly encourage you to retitle your

assets in accordance with the recommendations setforth above, in order to fully maximize the usefulnessof the estate planning documents we prepared foryou.

m. SCHEDULE OF ASSETS AFTER FUNDING TRUST

John & John's Elizabeth'sElizabeth Trust Trust

John's IRA --Traditional(l) $600,000John's IRA -- Roth(l) 100,000Virginia Residence(net)(2) 175,000 175,000North Carolina Beach Condo(3) 100,000 100,000Stocks and Bonds(4) 100,000 100,000Life Insurance on John's Life(5) 100,000Mutual Funds(4) 75,000 175,000Partnership Interest(8)50,OOOCertificates ofDeposit(6) or (7) 50,000U.S. Savings Bonds(7) 12,500 12,500Installment Note(8) 12,500 12,500Checking Account(9) 10,000TanKible Persoual Prqperty(9) 4Q.QQQ

Total Assets 750,000 625,000 625,000

Recommended Retitling Measures:

(1) Designate Elizabeth as primary beneficiary and John's trust as secondary beneficiary.(2) Deed property to John and Elizabeth as tenants in common.(3) peed property to the two trusts as tenants in common.(4) Establish brokerage account in the name ofeach trust and divide as indicated.(5) Designate John's trus~ as beneficiary(6) Reissue in name oftrust(s).(7) Designate trust(s) as P.O.D. beneficiary.(8) Endorse to trust(s).(9) No change now. After first spouse dies, designate trust of surviving spouse as P.O.D. beneficiary for

checking account and assign tangible personal property to trust of surviving spouse.

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ENDNOTES

1. The Internal Revenue Service recently issuedrevised Proposed Regulations regarding the criteria fordesignating a trust as the beneficiary ofan IRA. Re­vised Prop. Treas. Reg. Section 1.401(a)(9)-1. The re­vised Proposed Regulations modify Section 1.401(aX9)­1 ofthe Treasmy Regulations to allow the beneficiariesofa revocable living trust to be treated as a designatedbeneficiary ofthe IRA if: (i) the trust becomes irrevoca­ble upon the employee's death; (ii) the trust is valid un­der state law; (iii) the beneficiaries ofthe trust are iden­tifiable and; (iv) a copy ofthe trust agreement is pro­vided to the plan administrator or certain trust certifica­tion requirements are satisfied.

2. I.R.C. Section 408(d)(3)(C)(ii)(II).

3. If Elizabeth has more than one designatedbeneficiary, the designated beneficiary with theshortest life expectancy, not to exceed ten years, willbe calculated along with her life expectancy. Prop.Treas. Reg. Section 1.401(a)(9)-1(E) Q&A E-5, andProp. Treas. Reg. Section 1.401(a)(g)-2 Q&A 6. Inorder to take advantage of each of the children's lifeexpectancy, Elizabeth could separate the IRA intothree accounts naming each child as the designatedbeneficiary of a different account.

4. Rev. Prop. Treas. Reg. Section 1.401(a)(9)-1Q&AD6.

5. I.R.C. Section 401 (a)(9)(B)(ii) and (iii).

6. I.R.C. Section 401 (a)(9)(B)(i).

7. John's children would need to choose to re-ceive the benefits over the oldest child's life ex­pectancy no late than December 31st of the calendaryear following the calendar year of John's death.I.R.C. Section 401 (a)(9)(B)(iii).

8. I.R.C. Section 408A(d)(3)(E)(ii)(n); Prop.Treas."Reg. Section 1.408A-4 Q&A 11(b).

9. I.R.C. Section 408A(d)(3)(E)(ii)(I).

10. I.R.C. Section 408A(d)(2)(B).

11. Id.; Prop. Treas. Reg. Section 1.408A-6Q&A2.

12. Prop. Treas. Reg. Section 1.408A-6 Q&A 2.

23

13.

14. Prop. Treas. Reg. Section 1.408A-6 Q&A7. Please note that if Elizabeth had her own RothIRA with a five year taxable period ending earlierthen John's, the earlier time period from her ownRoth IRA would apply to the Roth IRA she re­ceives from John. Id.

15. I.R.C. Section 408A (c)(5)(A).

16. Tax Planning and Practice Guide: Roth lRAs(after '98 Technical Corrections) Research InstituteofAmerica, August 6,1998, Paragraph 311, citingForm 5305-RA, Article V (1/98); Form 5305-R Arti­cle V (1/98).

17. I.R.C. 401 (a)(9)(B)(ii) and (iii).

18. Garn-St. Germain Depository InstitutionsAct of 1982. Pub. L. No. 97-320; 96 Stat. 1469; 12U.S.C. Section 1701j-3(d)(8); 12 CFR Section591.5(b)(1 )(vi).

19. See Jonathan Rivin and Thomas J. Stikker;"Title Insurance for Estate Planning Transfers," Probate& Property, May/June 1998. The authors wish to ex­press their thanks to Richard A. Holdennan, Esq. forbringing this article to their attention.

20. Va. Code Ann. Section 64.1-94.

21. Va. Code Ann. Section 58.1-811A(12).

22. , See I.R.C. Section 121 ( as amended by 1997Taxpayer ReliefAct) and Priv. Ltr. Rut. 8006056;Priv. Ltr. Rut. 8007050; Priv. Ltr. Rut. 8025027(interpreting previous Code Sec. 121).

23. Gam-St. Gennain DepositoI)' Institutions Actof 1982. Pub. L. No. 97-320; 96 Stat. 1469; 12 U.S.C.Section 1701j-3(dX8); 12 CFR Section 591.5(bXIXvi).

24. Rev. Rul. 58-2, 1958-1 CB 236

25. In 1995, Virginia Code Section 64.1-45.1 wasenacted to allow a will to incorporate by reference awritten statement or list executed before or after the ex­ecution ofthe will which disposes ofspecific items oftrust tangible personal property. In 1997, a similar pro­vision was enacted for trusts. Va. Code Ann. Section55-7.2.

Virginia State Bar Trusts and Estates Section1998-1999 Board of Governors

A. Kirkland Molloy KelleyChairKaufman & Canoles, P.C.One Commercial PlaceP.O. Box 3037Norfolk, VA 23514-3037(757) 624-3283

Michele A. W. McKinnonVice ChairMcGuire Woods Battle & BootheOne James Center901 East Cary StreetRichnnond, VA 23219-4030(804) 775-1060

Timothy Howard GuareSecretaryMezzullo & McCandlish, P.C.Ste. 1500, 1111 East Main St.P.O. Box 796Richnnond, VA 23218-0796(804) 775-3806

Jo Ann Blair-DavisImmediate Past ChairClark & Stant, P.C.900 One Columbus CenterVirginia Beach, VA 23462(757) 473-5335

Walter William GustNewsletter Edito~Gentry Locke Rakes & Moore10 Franklin Road, SEP.O. Box 40013Roanoke, VA 24022-0013(540) 983-9300

Mark George Ferguson43793 Woodworth CourtAshburn, VA 20147(703) 790-8440

Andrew Henry HookOast & Hook, P.C.P.O. Box 399Portsmouth, VA 23705-0399(757) 399-7506

Thomas Gerard NolanRichmond & Fishburne214 East High StreetP.O. Box 559Charlottesville, VA 22902-0559(804) 977-8590

Mark Steven ShepardWilliams, Mullen, et al.P.O. Box 1320~chtnond,VA 23210-1320(804) 783-6467

Phillip Carson Stone, Jr.Wharton, Adhizer & Weaver100 South Mason StreetP.o. Box 20028lIanisonburg, VA 22801-7528(540) 434-0316

Marie McKenney TaveminiMarie McKenney Tavemini, P.C.Suite 213801 North Fairfax StreetAlexandria, VA 22314(703) 519-0155

Kelly Ann ThompsonEakes & Thompson, PLCSuite 20046 South Glebe RoadArlington, VA 22204-1655(703) 486-2666

Elizabeth L. KellerLiaisonVirginia State BarSuite 1500707 East Main Street~chnnond,VA 23219-2803(804) 775-0516

Virginia State BarEighth & Main Building707 East Main StreetRichmond, VA 23219-2803

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