GST Issues

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 26

[REG-103841-99]

RIN 1545-AX08

GST Issues

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking and notice of public hearing.

-----------------------------------------------------------------------

SUMMARY: This document contains proposed regulations relating to the

application of the effective date rules of the generation-skipping

transfer (GST) tax imposed under chapter 13 of the Internal Revenue

Code. The proposed regulations provide guidance with respect to the

type of trust modifications that will not affect the exempt status of a

trust. In addition, the proposed regulations clarify the application of

the effective date rules in the case of property transferred pursuant

to the exercise of a general power of appointment. The proposed

regulations are necessary to provide guidance to taxpayers so that they

may properly determine if chapter 13 of the Code is applicable to a

particular trust.

DATES: Written and electronic comments must be received by February 16,

2000. Outlines of topics to be discussed at the public hearing

scheduled for March 15, 2000 at 10:00, must be received by February 23,

2000.

ADDRESSES: Send submissions to: CC:DOM:CORP:R (REG-103841-99), room

5226, Internal Revenue Service, POB 7604, Ben Franklin Station,

Washington, DC 20044. Submissions may also be hand delivered Monday

through Friday between the hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:R

(REG-103841-99), Courier's Desk, Internal Revenue Service, 1111

Constitution Avenue, NW., Washington, DC. Alternatively, taxpayers may

submit comments electronically via the internet by selecting the ``Tax

Regs'' option on the IRS Home Page, or by submitting comments directly

to the IRS internet site at http://www.irs.gov/tax__ regs/reglist.html.

The public hearing will be held in room 2615, Internal Revenue Service

Building, 1111 Constitution Avenue, NW., Washington, DC.

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations,

James F. Hogan, (202) 622-3090; concerning submissions of comments, the

hearing, and/or to be placed on the building access list to attend the

[[Page 62998]]

hearing, Michael L. Slaughter, (202) 622-7180 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

The GST tax provisions were enacted as part of the Tax Reform Act

of 1986 (TRA), Pub. L. 99-514, 1986-3 (Vol. 1) C.B. 1, 634. Under

section 1433(a) of the TRA, the GST tax generally applies to all

generation-skipping transfers made after October 22, 1986, the date the

TRA was enacted.

Section 1433(b)(2) of the TRA exempts transfers from certain trusts

from the GST tax. Hereinafter, a trust that is exempt under section

1433(b)(2) is referred to as an ``exempt trust.''

First, under section 1433(b)(2)(A) of the TRA, the GST tax does not

apply to any transfer from a trust that was irrevocable on September

25, 1985, to the extent the transfer is not made out of additions to

the trust after September 25, 1985 (the day before the House Ways and

Means Committee began considering the bill containing the GST

provisions). Under Sec. 26.2601-1(b)(1)(ii) of the Generation-skipping

Transfer Tax Regulations, a trust created on or before September 25,

1985, is considered irrevocable on that date unless: (1) The settlor

retained a power that would cause the trust to be included in the

settlor's gross estate for federal estate tax purposes by reason of

section 2038 of the Code, if the settlor had died on September 25,

1985; or (2) the property held in the trust is a life insurance policy

transferred by the insured and the insured possessed, on September 25,

1985, any incident of ownership that would have caused the value of the

trust to be included in the insured's gross estate under section 2042

of the Code if the insured had died on September 25, 1985.

Second, under section 1433(b)(2)(B) of the TRA, as amended by the

Technical and Miscellaneous Revenue Act of 1988, the GST tax does not

apply to any generation-skipping transfer under a will or revocable

trust executed before October 22, 1986, if the decedent died before

January 1, 1987.

Third, under section 1433(b)(2)(C) of the TRA, the GST tax does not

apply to any generation-skipping transfer under a trust to the extent

such trust consists of property included in the gross estate of a

decedent or reinvestments thereof, but only if the decedent was, on

October 22, 1986, under a mental disability to change the disposition

of the decedent's property and did not regain competence to dispose of

the property before death.

Numerous taxpayers have requested private letter rulings regarding

the effect that a proposed modification or construction will have on an

exempt trust for GST tax purposes. In rulings in this area, the IRS has

held that a modification will not cause the trust to lose its exempt

status if the modification does not result in any change in the

quality, value, or timing of any beneficial interest under the trust.

Although the statute does not specifically address modifications to

trusts that are exempt under section 1433(b)(2) of the TRA, Treasury

and the IRS believe that a trust that is modified such that none of the

beneficial interests change can be viewed as the same trust that was in

existence on September 25, 1985.

The majority of the ruling requests received by the Service concern

proposed modifications intended to enable the trust to adapt to changed

circumstances or to enable the trustee to administer the trust

properly. These proposed modifications often are not inconsistent with

the purpose of the TRA effective date provisions. Accordingly, as

discussed below, these proposed regulations adopt a more liberal

standard with respect to changes that may be made to the trust without

the loss of exempt status. Treasury and the IRS intend that the

regulations, when finalized, provide sufficient guidance concerning

modifications that the need for private letter rulings will be greatly

diminished. Comments are requested regarding whether the proposed

regulations will achieve this result.

In addition, the proposed regulations clarify the application of

the effective date provisions when the exercise or lapse of a general

power of appointment over an otherwise grandfathered trust results in

property passing to a skip person.

Explanation of Provisions

1. Modifications to Trusts

The proposed regulations provide guidance regarding the types of

modifications, constructions, and settlements of controversies that

will not cause a trust to lose its exempt status. However, the rules

contained in these proposed regulations apply only for GST tax

purposes. Thus, the rules do not apply in determining, for example,

whether a modification will result in a gift for gift tax purposes, or

may cause inclusion of the trust assets in the gross estate, or may

result in the realization of gain for purposes of section 1001 of the

Code.

Under the proposed regulations, a court order in a construction

proceeding that resolves an ambiguity in the terms of a trust

instrument will not cause the trust to lose its exempt status. The

judicial action, however, must involve a bona fide issue and the

court's decision must be consistent with applicable state law that

would be applied by the highest court of the state. Commissioner v.

Estate of Bosch, 387 U.S. 456 (1967). Construction proceedings

determine a settlor's intent as of the date the instrument became

effective, and thus, a court order construing an instrument that

satisfies these requirements does not alter or modify the terms of the

instrument.

Similarly, under the proposed regulations, a court-approved

settlement of a bona fide controversy relating to the administration of

a trust or the construction of terms of the governing instrument of a

trust will not cause a trust to lose its exempt status. This will be

the case, however, only if the settlement is the product of arm's

length negotiations, and the settlement is within the range of

reasonable outcomes under the governing instrument and applicable state

law addressing the issues resolved by the settlement. See Ahmanson

Foundation v. United States, 674 F.2d 761 (9th Cir. 1981); Estate of

Suzuki v. Commissioner, T.C. Memo. 1991-624. For example, A and B are

the sole remainder beneficiaries of a trust established by their

parent. They disagree as to the portion of the remainder each is

entitled to under the terms of the trust when the trust terminates. A

settlement dividing the corpus equally among A, B, and C, B's child and

the grandchild of the parent who established the trust, would not be

considered within the range of reasonable outcomes because C is not a

potential remainderman under any construction of the trust agreement.

The proposed regulations also address the situation in which a

trustee distributes trust principal to a new trust for the benefit of

succeeding generations. In some cases, the governing instrument grants

the trustee broad discretionary powers to distribute principal to or

for the benefit of the trust beneficiaries, outright or in trust. Under

these circumstances, distributions by the trustee to trusts for the

benefit of trust beneficiaries will not cause the original trust or the

new trusts to lose exempt status provided the vesting of trust

principal is not postponed beyond the perpetuities period applicable to

the original trust.

Finally, under the proposed regulations, a trust may be modified

and remain exempt for GST purposes. The modification, however, must not

shift a beneficial interest in the trust to any beneficiary who

occupies a lower generation (as defined in section 2651)

[[Page 62999]]

than the person or persons who held the beneficial interest prior to

the modification and must not extend the time for vesting of any

beneficial interest in the trust beyond the period provided for in the

original trust.

2. Exercise of a General Power of Appointment After September 25, 1985

In Simpson v. United States, 183 F.3d 812 (8th Cir. 1999), the

decedent exercised a testamentary general power of appointment granted

under a marital trust that was created in 1966. Pursuant to the

decedent's exercise of the general power of appointment, the property

passed to her grandchildren who were skip persons under section 2612.

The court concluded that the transfer to the grandchildren was exempt

from the GST tax under section 1433(b)(2)(A) of the TRA, because the

transfer was ``under a trust'' that was irrevocable on September 25,

1985.

The facts in Simpson are similar to those presented in Peterson

Marital Trust v. Commissioner, 78 F.3d 795 (2nd Cir. 1996). In

Peterson, the decedent had a testamentary general power to appoint

property in a pre-September 25, 1985 marital trust created under her

husband's will. Rather than appointing the property outright, the

taxpayer allowed the power to lapse and the property passed to her

husband's grandchildren, who were skip persons under section 2612. The

court concluded that the transfer was subject to the GST tax. The court

noted that the effective date provisions in section 1433(b)(2) of the

TRA were ``designed * * * to protect those taxpayers who, on the basis

of pre-existing rules, made arrangements from which they could not

reasonably escape and which, in retrospect, had become singularly

undesirable.'' Peterson Marital Trust, at 801 (footnote omitted). The

court concluded that there was no basis to apply the protection

provided in section 1433(b)(2) to the marital trust because the

arrangement could have been changed to avoid the GST tax through the

exercise of the decedent's general power of appointment.

Treasury and the IRS believe that there is no substantive

difference between the situation in Simpson where property passed

pursuant to the exercise of a general power of appointment and the

situation in Peterson Marital Trust where property passed pursuant to a

lapse of a general power of appointment. An individual who has a

general power of appointment has the equivalent of outright ownership

in the property. Estate of Kruz v. Commissioner, 101 T.C. 44, 50-51,

59-60 (1993). The value of the property subject to the general power is

includible in the powerholder's gross estate at death under section

2041(a). In either case, the powerholder can avoid the consequences of

the GST tax by appointing the property to nonskip persons. Therefore,

as the court noted in Peterson Marital Trust, there is no basis for

exempting such dispositions from the GST tax under the TRA effective

date provisions.

Accordingly, the proposed regulations clarify that the transfer of

property pursuant to the exercise, release, or lapse of a general power

of appointment created in a pre-September 25, 1985 trust is not a

transfer under the trust, but rather is a transfer by the powerholder

occurring when the exercise, release, or lapse of the power becomes

effective, for purposes of section 1433(b)(2)(A) of the TRA.

Special Analysis

It has been determined that this notice of proposed rulemaking is

not a significant regulatory action as defined in EO 12866. Therefore,

a regulatory assessment is not required. It also has been determined

that section 553(b) of the Administrative Procedure Act (5 U.S.C.

chapter 5) does not apply to these regulations, and because these

regulations do not impose a collection of information on small

entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not

apply. Therefore, a Regulatory Flexibility Analysis is not required.

Pursuant to section 7805(f) of the Internal Revenue Code, the

regulations will be submitted to the Small Business Administration for

comment on their impact on small business.

Comments and Public Hearing

Before these proposed regulations are adopted as final regulations,

consideration will be given to any written (a signed original and eight

(8) copies) or electronic comments that are submitted timely (in the

manner described in ADDRESSES) to the IRS. Treasury and the IRS

specifically request comments on the clarity of the proposed

regulations and how they can be made easier to understand. All comments

will be available for public inspection and copying.

A public hearing has been scheduled for March 15, 2000 at 10:00

a.m. in room 2615, Internal Revenue Building, 1111 Constitution Avenue,

NW, Washington, DC. Due to building security procedures, visitors must

enter at the 10th Street entrance, located between Constitution and

Pennsylvania Avenues, NW. In addition, all visitors must present photo

identification to enter the building. Because of access restrictions,

visitors will not be admitted beyond the immediate entrance area more

than 15 minutes before the hearing starts. For information about having

your name placed on the building access list to attend the hearing, see

the FOR FURTHER INFORMATION CONTACT section of this preamble.

The rules of 26 CFR 601.601(a)(3) apply to the hearing. Persons

that wish to present oral comments at the hearing must submit comments

by February 16, 2000, and submit an outline of the topics to be

discussed and the time to be devoted to each topic (signed original and

eight (8) copies) by February 23, 2000. A period of 10 minutes will be

allotted to each person for making comments. An agenda showing the

scheduling of the speakers will be prepared after the deadline for

receiving outlines has passed. Copies of the agenda will be available

free of charge at the hearing.

Drafting Information

The principal author of these proposed regulations is James F.

Hogan, Office of the Chief Counsel, IRS. Other personnel from the IRS

and Treasury Department participated in their development.

List of Subjects in 26 CFR Part 26

Estate taxes, Reporting and recordkeeping requirements.

Proposed Amendments to the Regulations

Accordingly, 26 CFR part 26 is proposed to be amended as follows:

PART 26--GENERATION-SKIPPING TRANSFER TAX REGULATIONS UNDER THE TAX

REFORM ACT OF 1986

Paragraph 1. The authority citation for part 26 continues to read

in part as follows:

Authority: 26 U.S.C. 7805 * * *

Paragraph 2. In Sec. 26.2600-1 the Table is amended under

Sec. 26.2601-1 by revising the entry for paragraphs (b) and (b)(4) and

adding an entry for paragraph (b)(5) to read as follows:

Sec. 26.2600-1. Table of contents.

Sec. 26.2601-1. Effective dates.

* * * * *

(b) Exceptions.

* * * * *

(4) Retention of trust's exempt status in the case of

modifications, etc.

(5) Exceptions to additions rule.

Paragraph 3. Section 26.2601-1 is amended as follows:

[[Page 63000]]

1. Adding four sentences to the end of paragraph (b)(1)(i).

2. Redesignating paragraph (b)(4) as paragraph (b)(5).

3. Adding a new paragraph (b)(4).

4. Paragraph (c) is amended by adding a new sentence to the end of

the paragraph.

The additions read as follows:

Sec. 26.2601-1 Effective Dates.

* * * * *

(b) * * *

(1) * * *

(i) * * * Further, the rule in the first sentence of this paragraph

(b)(1)(i) does not apply to a transfer of property pursuant to the

exercise, release, or lapse of a general power of appointment that is

treated as a taxable transfer under chapter 11 or chapter 12. The

transfer is made by the person holding the power at the time the

exercise, release, or lapse of the power becomes effective, and is not

considered a transfer under a trust that was irrevocable on September

25, 1985. See Sec. 26.2601-1(b)(1)(v)(B) regarding the treatment of the

release, exercise, or lapse of a power of appointment that will result

in a constructive addition to a trust. See Sec. 26.2652-1(a) for the

definition of a transferor.

* * * * *

(4) Retention of trust's exempt status in the case of

modifications, etc. (i) In general. This paragraph provides rules for

determining when a modification, judicial construction, settlement

agreement, or trustee action with respect to a trust that is exempt

from the generation-skipping transfer tax under paragraphs (b)(1),

(b)(2), or (b)(3) of this section (hereinafter referred to as an exempt

trust) will not cause the trust to lose its exempt status. The rules

contained in this paragraph (b)(4) are applicable only for purposes of

determining whether an exempt trust retains its exempt status for

generation-skipping transfer tax purposes. The rules do not apply in

determining, for example, whether the transaction results in a gift

subject to gift tax, or may cause the trust to be included in the gross

estate of a beneficiary, or may result in the realization of capital

gain for purposes of section 1001 of the Code.

(A) Trustee's discretionary powers. The distribution of trust

principal from an exempt trust to a new trust will not cause the new

trust to be subject to the provisions of chapter 13, if--

(1) The terms of the governing instrument of the exempt trust

authorize the trustee to make distributions to the new trust without

the consent or approval of any beneficiary or court, and

(2) The terms of the governing instrument of the new trust do not

extend the time for vesting of any beneficial interest in the trust in

a manner that may postpone or suspend the vesting, absolute ownership,

or power of alienation of an interest in property for a period,

measured from the date of creation of the original trust, extending

beyond any life in being at the date of creation of the original trust

plus a period of 21 years, plus if necessary, a reasonable period of

gestation. For purposes of this paragraph (b)(4)(i)(A), the exercise of

a trustee's distributive power that validly postpones or suspends the

vesting, absolute ownership, or power of alienation of an interest in

property for a term of years that will not exceed 90 years (measured

from the date of creation of the original trust) will not be considered

an exercise that postpones or suspends vesting, absolute ownership, or

the power of alienation beyond the perpetuities period. If a trustee's

distributive power is exercised by creating another power, it is deemed

to be exercised to whatever extent the second power may be exercised.

(B) Settlement. A court-approved settlement of a bona fide

controversy regarding the administration of the trust or the

construction of terms of the governing instrument will not cause an

exempt trust to be subject to the provisions of chapter 13, if--

(1) The settlement is the product of arm's length negotiations, and

(2) The settlement is within the range of reasonable outcomes under

the governing instrument and applicable state law addressing the issues

resolved by the settlement.

(C) Judicial construction. A judicial construction of a governing

instrument to resolve an ambiguity in the terms of the instrument or to

correct a scrivener's error will not cause an exempt trust to be

subject to the provisions of chapter 13, if--

(1) The judicial action involves a bona fide issue, and

(2) The construction is consistent with applicable state law that

would be applied by the highest court of the state.

(D) Other changes. A modification of the governing instrument of an

exempt trust (including a trustee distribution, settlement, or

construction that does not satisfy paragraphs (b)(4)(i)(A), (B), or (C)

of this subsection) by judicial reformation, or nonjudicial reformation

that is valid under applicable state law, will not cause an exempt

trust to be subject to the provisions of chapter 13, but only if--

(1) The modification does not shift a beneficial interest in the

trust to any beneficiary who occupies a lower generation (as defined in

section 2651) than the person or persons who held the beneficial

interest prior to the modification, and

(2) The modification does not extend the time for vesting of any

beneficial interest in the trust beyond the period provided for in the

original trust.

(E) Examples. The following examples illustrate the application of

this paragraph (b)(4). In each example, assume that the trust

established in 1980 was irrevocable for purposes of Sec. 26.2601-

1(b)(1)(ii) and that there have been no additions to any trust after

September 25, 1985.

Example 1. Trustee's power to distribute principal authorized

under trust instrument. In 1980, Grantor established an irrevocable

trust (Trust) for the benefit of Grantor's child, A, A's spouse, and

A's issue. At the time Trust was established, A had two children, B

and C. A corporate fiduciary was designated as trustee. Under the

terms of Trust, the trustee has the discretion to distribute all or

part of the trust income to one or more of the group consisting of

A, A's spouse or A's issue. The trustee is also authorized to

distribute all or part of the trust principal to one or more trusts

for the benefit of A, A's spouse, or A's issue under terms specified

by the trustee in the trustee's discretion. Any trust established

under Trust, however, must terminate 21 years after the death of the

last child of A to die who was alive at the time Trust was executed.

Trust will terminate on the death of A, at which time the remaining

principal will be distributed to A's issue, per stirpes. In 2000,

the trustee distributed part of Trust's principal to a new trust for

the benefit of B and C and their issue. The new trust will terminate

21 years after the death of the survivor of B and C, at which time

the trust principal will be distributed to the issue of B and C, per

stirpes. The terms of the governing instrument of Trust authorize

the trustee to make the distribution to a new trust without the

consent or approval of any beneficiary or court. In addition, the

terms of the governing instrument of the new trust do not extend the

time for vesting of any beneficial interest in a manner that may

postpone or suspend the vesting, absolute ownership or power of

alienation of an interest in property for a period, measured from

the date of creation of Trust, extending beyond any life in being at

the date of creation of Trust plus a period of 21 years, plus if

necessary, a reasonable period of gestation. Accordingly, neither

Trust nor the new trust will be subject to the provisions of chapter

13 of the Code.

Example 2. Trustee's power to distribute principal pursuant to

state statute. In 1980, Grantor established an irrevocable trust

(Trust) for the benefit of Grantor's child, A, A's spouse, and A's

issue. At the time Trust was established, A had two children, B and

C. A corporate fiduciary was designated as trustee. Under the terms

of Trust, the trustee has the discretion to distribute all or part

of the trust income or principal to one or more of the group

consisting of A, A's spouse or

[[Page 63001]]

A's issue. Trust will terminate on the death of A, at which time the

trust principal will be distributed to A's issue, per stirpes. Under

a state statute applicable to Trust, a trustee who has the absolute

discretion under the terms of a testamentary instrument or

irrevocable inter vivos trust agreement to invade the principal of a

trust for the benefit of the income beneficiaries of the trust, may

exercise the discretion by appointing so much or all of the

principal of the trust in favor of a trustee of a trust under an

instrument other than that under which the power to invade is

created, or under the same instrument. The trustee may take the

action either with consent of all the persons interested in the

trust but without prior court approval, or with court approval, upon

notice to all of the parties. The exercise of the discretion,

however, must not reduce any fixed income interest of any income

beneficiary of the trust and must be in favor of the beneficiaries

of the trust. In 2000, the trustee distributes one-half of Trust's

principal to a new trust that provides for the payment of trust

income to A for life and further provides that, at A's death, one-

half of the trust remainder will pass to B or B's issue and one-half

of the trust will pass to C or C's issue. Because the state statute

requires the consent of all of the parties, the transaction

constitutes a modification of Trust. However, because the

modification does not shift any beneficial interest in Trust to a

beneficiary or beneficiaries who occupy a lower generation than the

person or persons who held the beneficial interest prior to the

modification, neither Trust nor the new trust will be subject to the

provisions of chapter 13 of the Code.

Example 3. Construction of an ambiguous term in the instrument.

In 1980, Grantor established an irrevocable trust for the benefit of

Grantor's children, A and B, and their issue. The trust is to

terminate on the death of the last to die of A and B, at which time

the principal is to be distributed to their issue. However, the

provision governing the termination of the trust is ambiguous

regarding whether the trust principal is to be distributed per

stirpes, only to the children of A and B, or per capita among the

children, grandchildren, and more remote issue of A and B. The

trustee files a construction suit with the appropriate local court

to resolve the ambiguity. The court issues an order construing the

instrument to provide for per capita distributions to the children,

grandchildren, and more remote issue of A and B living at the time

the trust terminates. The court's construction is consistent with

applicable state law as it would be interpreted by the highest court

of the state and resolves a bona fide controversy regarding the

proper interpretation of the instrument. Therefore, the trust will

not be subject to the provisions of chapter 13 of the Code.

Example 4. Change in trust situs. In 1980, Grantor, who was

domiciled in State X, executed an irrevocable trust for the benefit

of Grantor's issue, naming a State X bank as trustee. Under the

terms of the trust, the trust is to terminate, in all events, no

later than 21 years after the death of the last to die of certain

designated individuals living at the time the trust was executed.

The provisions of the trust do not specify that any particular state

law is to govern the administration and construction of the trust.

In State X, the common law rule against perpetuities applies to

trusts. In 2000, a State Y bank is named as sole trustee. The effect

of changing trustees is that the situs of the trust changes to State

Y, and the laws of State Y govern the administration and

construction of the trust. State Y law contains no rule against

perpetuities. In this case, however, in view of the terms of the

trust, the trust will terminate at the same time before and after

the change in situs. Accordingly, the change in situs does not shift

any beneficial interest in the trust to a beneficiary who occupies a

lower generation (as defined in section 2651) than the person or

persons who held the beneficial interest prior to the transfer.

Furthermore, the change in situs does not extend the time for

vesting of any beneficial interest in the trust beyond that provided

for in the original trust. Therefore, the trust will not be subject

to the provisions of chapter 13 of the Code. If, in this example, as

a result of the change in situs, State Y law governed such that the

time for vesting was extended beyond the period prescribed under the

terms of the original trust instrument, the trust would not retain

exempt status.

Example 5. Division of a trust. In 1980, Grantor established an

irrevocable trust for the benefit of his two children, A and B, and

their issue. Under the terms of the trust, the trustee has the

discretion to distribute income and principal to A, B, and their

issue in such amounts as the trustee deems appropriate. On the death

of the last to die of A and B, the trust principal is to be

distributed to the living issue of A and B, per stirpes. In 2000,

the appropriate local court approved the division of the trust into

two equal trusts, one for the benefit of A and A's issue and one for

the benefit of B and B's issue. The trust for A and A's issue

provides that the trustee has the discretion to distribute trust

income and principal to A and A's issue in such amounts as the

trustee deems appropriate. On A's death, the trust principal is to

be distributed equally to A's issue, per stirpes. The trust for B

and B's issue is identical (except for the beneficiaries), and

terminates at B's death at which time the trust principal is to be

distributed equally to B's issue, per stirpes. The division of the

trust into two trusts does not shift any beneficial interest in the

trust to a beneficiary who occupies a lower generation (as defined

in section 2651) than the person or persons who held the beneficial

interest prior to the division. In addition, the division does not

extend the time for vesting of any beneficial interest in the trust

beyond the period provided for in the original trust. Therefore, the

two partitioned trusts resulting from the division will not be

subject to the provisions of chapter 13 of the Code.

Example 6. Merger of two trusts. In 1980, Grantor established an

irrevocable trust for Grantor's child and the child's issue. In

1983, Grantor's spouse also established a separate irrevocable trust

for the benefit of the same child and issue. The terms of the

spouse's trust and Grantor's trust are identical. In 2000, the

appropriate local court approved the merger of the two trusts into

one trust to save administrative costs and enhance the management of

the investments. The merger of the two trusts does not shift any

beneficial interest in the trust to a beneficiary who occupies a

lower generation (as defined in section 2651) than the person or

persons who held the beneficial interest prior to the merger. In

addition, the merger does not extend the time for vesting of any

beneficial interest in the trust beyond the period provided for in

the original trust. Therefore, the trust that resulted from the

merger will not be subject to the provisions of chapter 13 of the

Code.

Example 7. Modification that does not shift an interest to a

lower generation. In 1980, Grantor established an irrevocable trust

for the benefit of Grantor's grandchildren, A, B, and C. The trust

provides that income is to be paid to A, B, and C, in equal shares

for life. The trust further provides that, upon the death of the

first grandchild to die, one-third of the principal is to be

distributed to that grandchild's issue, per stirpes. Upon the death

of the second grandchild to die, one-half of the remaining trust

principal is to be distributed to that grandchild's issue, per

stirpes, and upon the death of the last grandchild to die, the

remaining principal is to be distributed to that grandchild's issue,

per stirpes. In 2000, A became disabled. Subsequently, the trustee,

with the consent of B and C, petitioned the appropriate local court

and the court approved a modification of the trust that increased

A's share of trust income. The modification does not shift a portion

of the income interest to a beneficiary who occupies a generation

lower than the generation occupied by A, B and C, and does not

extend the time for vesting of any beneficial interest in the trust

beyond the period provided for in the original trust. Accordingly,

the trust as modified will not be subject to the provisions of

chapter 13 of the Code. However, the modification increasing A's

share of trust income is a transfer by B and C to A for federal gift

tax purposes.

(ii) Effective date. The rules in this paragraph (b)(4) are

effective as of [INSERT THE DATE OF PUBLICATION IN THE Federal Register

AS A FINAL REGULATION].

* * * * *

(c) * * * The last four sentences in paragraph (b)(1)(i) of this

section are effective as of November 18, 1999.

Robert E. Wenzel,

Deputy Commissioner of Internal Revenue.

[FR Doc. 99-29920 Filed 11-17-99; 8:45 am]

BILLING CODE 4830-01-U