§318 Grantor Trust Attribution | Foreign Trust Tax Lawyer & Attorney

In previous articles, I discussed the §318 downstream and upstream attribution rules; in that context, I also mentioned that there were special rules concerning grantor trusts and tax-exempt employee trusts. This article will cover the special §318 grantor trust attribution rules.

§318 Grantor Trust Attribution: Definition of Grantor Trust

A grantor trust is any trust which, under the IRC §§671–677 and 679, is taxed as if owned in whole or in part by the trust’s creator. This means that the grantor (or “settlor”) must include all items of income, deduction, and credit which are attributable to that portion of the trust property of which he is deemed the owner.

§318 Grantor Trust Attribution: Downstream and Upstream Attribution to Grantors

The grantor trusts are subject to both, upstream and downstream attribution of stocks. Under §318(a)(2)(B)(ii) (downstream attribution), the grantor constructively owns all stocks owned directly or indirectly by the trust. Under §318(a)(3)(B)(ii), the trust constructively owns all stocks owned by the grantor.

§318 Grantor Trust Attribution: Interaction With Other §318 Attribution Rules

Surprisingly, there is no IRS guidance on how the special §318 grantor trust rules interact with other §318 trust attribution rules. At first, it appears that other constructive ownership rules would apply only to beneficiaries of a trust other than the grantor.

This, however, is not at all certain; an opposite conclusion can be reached that the Congress intended the exclusive application of its special grantor trust attribution rules. Hence, in some situations, it would not be a frivolous position for a taxpayer to state that the grantor trust rules of §318 replace all other §318 trust attribution rules with respect to grantor trusts.

§318 Grantor Trust Attribution: Illustration

Let’s illustrate the operation of the §318 grantor trust attribution rules with an example. Here are the hypothetical facts: G, an individual, creates Trust T; under §676, he is treated as owner of Trust T because he reserved the right to revoke the trust; there are two beneficiaries, A and B (nephews of G), who have a 50% vested interest in T. X, a C-corporation, has issued 100 shares and divided them equally (i.e. 25 shares each) between four shareholders, G, X, A and B. The issue is determination of ownership of X shares under the §318 trust attribution rules.

Let’s begin with G. He actually owns 25 shares and is deemed to own all shares owned by the grantor trust T. In other words, G owns a total of 50 shares.

T actually owns 25 shares and constructively owns all of G’s 25 shares. Its further ownership of X’s shares will depend on whether the general §318 downstream trust attribution rules supplement the §318 grantor trust rules. If they do, then T would be deemed a constructive owner of another 50 shares of X stock held by A and B – i.e. T will be deemed to a 100% owner of X. If, however, the special §318 grantor trust rules replace the other grantor trust attribution rules, then T’s ownership will stay at 50 shares total.

Similarly, if the grantor trust rules supplement other trust attribution rules, then A and B each will be deemed to own 50% of X through their 50% beneficiary interest in T. If the grantor trust rules overrule all other §318 trust attribution rules, then there will be no attribution of T’s stock to the beneficiaries and vice-versa.

A final note on this example. A and B would not be deemed to own any of G’s shares due to §318(a)(5)(C) prohibition on re-attribution of G’s stocks to the beneficiaries because these stocks were already attributed to the trust.

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