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Overcoming Late IRC Section 1041 Transfer Presumption | IRS Lawyer & Attorney

In a previous article, I discussed that a late IRC Section 1041 transfer between former spouses is presumed to be unrelated to the cessation of the marriage. This means that such a transfer may not be considered tax-free for US tax purposes. In this article, I would like to explain what a late IRC Section 1041 transfer is and how to overcome the presumption that it is not related to the cessation of the marriage.

What is a Late IRC Section 1041 Transfer?

A transfer of property between ex-spouses is not taxable as long as it is “incident to divorce”. 26 U.S.C. §1041(a)(2). Temporary regulations state that such a transfer of property will be considered as incident to divorce as long as it occurs within one year of the date of the cessation of marriage or if this transfer is related to the cessation of marriage. Treas Reg §1.1041-1T(b), Q&A-6.

As I indicated in a previous article, a transfer of property is related to the cessation of marriage if it is done pursuant to a divorce or separation instrument and “occurs not more than 6 years after the date on which the marriage ceases”. Treas Reg §1.1041-1T(b), Q&A-7. If the transfer of property between ex-spouses occurs after six years of the cessation of marriage, then it is considered a late IRC Section 1041 transfer. Id.

Late IRC Section 1041 Transfer: Presumption that the Transfer if Not Related to Marriage

A late IRC Section 1041 transfer gives rise to a presumption that the transfer is not related to the cessation of marriage. Id. In other words, if an ex-spouse transfers a property to another ex-spouse more than six years after the cessation of their marriage, then the IRS will assume that the transfer is not related to the marriage.

Late IRC Section 1041 Transfer: Rebuttal of the Presumption

Luckily for US taxpayers, this presumption is not absolute and can be rebutted. “This presumption may be rebutted only by showing that the transfer was made to effect the division of property owned by the former spouses at the time of the cessation of the marriage.” Id.

The temporary Treasury regulations emphasize that the presumption can be rebutted by establishing two facts. First, the transfer was made late “because of factors which hampered an earlier transfer of the property, such as legal or business impediments to transfer or disputes concerning the value of the property owned at the time of the cessation of the marriage”. Id. Second, “the transfer is effected promptly after the impediment to transfer is removed.” Id.

Late IRC Section 1041 Transfer: PLRs Indicate Anticipation of Transfer in a Divorce Decree as the Crucial Factor

The IRS has issued a number of Private Letter Rulings (“PLRs”) on the issue of a late IRC Section 1041 transfer. Overall, the PLRs seem to follow an important trend in determining whether a taxpayer is successful in his rebuttal of the aforementioned presumption.

The key factor that appears in these PLRs seems to be whether a transfer of property (or an option to transfer a property) was part of the divorce decree. In other words, the most important question is whether this transfer of property was anticipated by the terms of the divorce decree. If it was and there is a good justification for the delay of the transfer of property, then the IRS is likely to rule that Section 1041 applies and the transfer would be deemed tax-free for federal income tax purposes.

Of course, it is highly important that a tax attorney review the situation to determine the likelihood that the IRS will agree on both points: anticipation of transfer in the divorce decree and the good reason for the delay of the transfer.

Contact Sherayzen Law Office for Professional Help Concerning Late IRC Section 1041 Transfers

If you are engaged in a divorce or you are an attorney representing a person who is engaged in a divorce, contact Sherayzen Law Office for experienced help with respect to taxation of transfers of property to an ex-spouse as well as other tax consequences of a divorce proceeding.

Who is Required to File IRS Form 1041

IRS Form 1041 (“U.S. Income Tax Return for Estates and Trusts”) is used by a fiduciary of a domestic decedent’s estate, trust, or bankruptcy estate for a number of important reporting reasons. It is utilized to report income, deductions, gains, losses, and related items of an estate or trust; income that is either accumulated or held for future distribution or distributed currently to its beneficiaries; any income tax liability of the estate or trust; and employment taxes on wages paid to household employees. (It is also used to report the Net Investment Income Tax from Form 8960, line 21, on the Tax Computation section under Schedule G).

This article will cover the basics of who is required to file IRS Form 1041 for decedent’s estates and trusts in general; it is not intended to convey tax or legal advice. If you have further questions regarding filing IRS Form 1041, please contact Sherayzen Law Office, Ltd.

Who Must File IRS Form 1041?

In general, the fiduciary (or one of the joint fiduciaries) for a decedent’s domestic estate must file IRS Form 1041 if the estate has gross income for the tax year of $600 or more, or if it has a beneficiary who is a nonresident alien.

An estate is considered to be a “domestic” estate if it is not a foreign estate; a foreign estate is one in which its income is from sources outside the United States that is not effectively connected with the conduct of a U.S. trade or business, and is not includible in gross income. Note that fiduciaries of foreign estates file Form 1040NR, U.S. Nonresident Alien Income Tax Return, rather than IRS Form 1041.

In addition, the fiduciary (or one of the joint fiduciaries) of domestic trusts that are taxable under Internal Revenue Code (“IRC”) Section 641 must file the form if the trust has any taxable income for the tax year, if it has gross income of $600 or more (regardless of whether it has taxable income), or if it has a beneficiary who is a nonresident alien.

A trust is considered to be “domestic” if a U.S. court is able to exercise primary supervision over the administration of the trust (the “court test”), and one or more U.S. persons have the authority to control all substantial decisions of the trust (the “control test”). Additionally, a trust may be treated as a domestic trust (other than a trust treated as wholly owned by the grantor) if it was in existence on August 20, 1996, was treated as a domestic trust on August 19, 1996, and elected to continue to be treated as a domestic trust.

Trusts that are not considered to be domestic trusts will be deemed foreign trusts, and the trustees for such trusts file Form 1040NR instead of IRS Form 1041, and a foreign trust with a U.S. owner may also be required to file Form 3520-A, (“Annual Information Return of Foreign Trust With a U.S. Owner”). Further, if a domestic trust becomes a foreign trust, it will be treated as having transferred all of its assets to a foreign trust, except to the extent that a grantor or another person is treated as being the owner of the trust when the trust becomes a foreign trust (See IRC Section 684 for more information).

Contact Sherayzen Law Office for Help With the IRS Form 1041, Estate and Trust Tax Compliance

Tax compliance for trusts and estates often involves many complex issues, and you are advised to seek the advice of a tax attorney. Eugene Sherayzen, an experienced international tax attorney of Sherayzen Law Office, Ltd. can assist you in all of your tax and legal needs.

New Deduction Phase-outs for 2013 Tax Returns

Upper-income US taxpayers should be aware that new deduction phase-out IRS rules in effect for 2013 tax returns to be filed in 2014 may increase their tax liabilities or reduce refunds. Two new important changes for high-earning individuals or couples are the new itemized deduction phase-outs and personal and dependent exemption deduction phase-outs. Because of these changes in the deduction phase-out rules, along with other new IRS rules that we have covered in previous articles, the necessity for proper tax planning will only increase in future years.

This article will briefly explain the changes in the deduction phase-out rules; it is not intended to convey tax or legal advice. Please consult a tax attorney if you have further questions. Sherayzen Law Office, PLLC can assist you in all of your tax and legal needs.

New Itemized Deduction Phase-Out Changes

Under the new US tax rules, the amount of itemized deductions that high-earning individuals or couples may take on Form 1040 is subject to a phase-out limitation. Specifically, allowable itemized deductions will be reduced by 3% of the amount of adjusted gross income (AGI) above the certain income thresholds (however, this reduction will not exceed 80% of the original total amount of a taxpayer’s itemized deductions).

The income thresholds are the following: $250,000 for single individuals, $300,000 for married filing jointly couples, $150,000 for married filing separately couples, and $275,000 for heads of households. As an example, consider a married couple filing jointly with AGI of $500,000, and $50,000 of original itemized deductions for Schedule A. Because their AGI is $200,000 over the income threshold, their allowable itemized deductions will be reduced by 3% of the excess ($200,000 multiplied by 3%, equaling $6,000). Thus, their allowable itemized deductions will be reduced to $44,000.

New Personal and Dependent Exemption Deduction Phase-Out Changes

While under the general IRS rule, the amount that taxpayers may deduct for each applicable exemption increased from 2012 (at $3,800) to 2013 (now $3,900), certain taxpayers may lose some or all of the benefit of their exemptions if their AGI exceeds certain thresholds under the new Personal Exemption Phase-out (PEP). Under this rule, the dollar amount of each personal exemption must be reduced from its original value by 2 percent for each $2,500 or part of $2,500 ($1,250 for married filing separately) that AGI is above the above specified income thresholds.
For 2013 tax year returns, the phase-out starts at the following amounts: $250,000 for single individuals, $300,000 for married filing-jointly couples and qualifying widowers, $150,000 for married filing separately returns, and $275,000 for heads of households. If taxpayer’s AGI exceeds these applicable amounts by more than $122,500 ($61,250 for married filing separately returns), their deductions for exemptions amount will be reduced to zero.

Contact Sherayzen Law Office for Help With Your Tax and Estate Planning

Combined with the new 3.8% Medicare surtax on investment income and the new 0.9% Medicare surtax on salaries and self-employment income earned by certain high-earning individuals, and the increased threshold amount for Schedule A itemized medical expense deductions, the new phase-out rules detailed in this article will dramatically impact many taxpayers. Professional tax planning may help lower your future tax liabilities.

This is why you need to contact the experienced tax law firm of Sherayzen Law Office to help you create a thorough tax plan aimed at taking advantages of the various provisions of the U.S. tax code.