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

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The attribution of stock ownership to constructive owners is a highly important feature of US domestic and international tax law. The Internal Revenue Code (“IRC”) §318 contains complex constructive ownership rules concerning corporate stock; these rules vary depending on a specific §318 relationship. This article focuses on an important category of §318 relationships – trusts. Since these rules are very broad, I will discuss today only the §318 downstream trust attribution rules; the upstream rules and important exceptions to both sets of rules will be covered in later articles.

§318 Trust Attribution: Downstream vs. Upstream Attribution

Similarly to other §318 attribution rules, there are two types of §318 trust attribution: downstream and upstream. The downstream attribution rules attribute the ownership of corporate stocks owned by a trust to its beneficiaries. The upstream attribution rules are exactly the opposite: they attribute the ownership of corporate stocks owned by beneficiaries to the trust. As I stated above, this article focuses on the downstream attribution.

§318 Downstream Trust Attribution: Attribution from Trust to Beneficiary

Under §318(a)(2)(B)(i), corporate stocks owned, directly or indirectly, by or for a trust are considered owned by the trust’s beneficiaries in proportion to their actuarial interests in the trust.

Notice that the size of the actuarial interest does not matter. Moreover, §318(a)(2)(B) will apply even if the beneficiary does not have any present interest in a trust, but only a remainder interest (also calculated on an actuarial basis). This rule is the exact opposite of the §318 estate attribution rules.

Furthermore, the decision to attribute shares based on the actuarial interest, rather than actual one, may result in a paradoxical result where stocks are attributed to a person who will never become the actual owner of the shares.

§318 Downstream Trust Attribution: Determination of Actuarial Interest

Treas. Reg. §1.318-3 stated that, in determining a beneficiary’s actuarial interest in a trust, the IRS will use the factors and methods prescribed (for estate tax purposes) in 26 CFR § 20.2031-7.

The attribution of shares from the trust to its beneficiary should be made on the basis of the beneficiary’s actuarial interest at the time of the transaction affected by the stock ownership.

§318 Downstream Trust Attribution: Unstable Proportionality

The adoption of the attribution of stock based on the actuarial interest in a trust creates a constant calculation problem for beneficiaries, because the actuarial interest of the beneficiary in a trust varies from year to year. The variation of actuarial interest means that the number of shares attributed from a trust to its beneficiary will change every year.

For example, the actuarial interest of a beneficiary with a life estate in a trust will decrease every year as he ages. On the other hand, the actuarial interest of the owner of the remainder interest in the trust will increase with each year. Hence, the number of stocks attributed to the life tenant will decrease each year, while the attribution of stocks to the holder of the remainder interest will increase each year.

§318 Downstream Trust Attribution: Special Presumption Concerning Power of Appointment

Based on 95 Rev. Proc. 77-37, §3.05 (operating rules for private letter rulings), the IRS has adopted a special presumption with respect to when children will be considered beneficiaries for the purpose of §318 trust attribution rules. In order to understand this rule, we need to describe the setting in which it will most likely apply.

Oftentimes, estate plans are set up where the surviving spouse will have a life interest in a trust’s income and a power of appointment over the trust corpus. In such situation, estate planners often insert a clause that, if a spouse fails to exercise the power of appointment, the trust corpus will automatically go to the children.

In this situation, the IRS stated that, absent evidence that the power of appointment was exercised differently, it is presumed that it was exercised in favor of the children. By adopting this presumption, the children are immediately considered beneficiaries for the purpose of the stock attribution rules under §318.

§318 Downstream Trust Attribution: Planning to Avoid Attribution

In order to prevent the application of the trust attribution rules under §318, a beneficiary must renounce his entire interest in the trust. See Rev. Rul. 71-211. Such renunciation is valid only if it is irrevocable and binding under local law.

§318 Downstream Trust Attribution: Special Case of Voting Trusts

Under Rev. Rul. 71-262 and CCA 200409001, §318(a)(2)(B) does not apply in the context of a voting trust (i.e. where trustee has the right to vote the stock held in trust, but the dividends are paid to the certificate holder). This is because the certificate holder is deemed to be the owner of the shares and there is no attribution of ownership from the trust.

§318 Downstream Trust Attribution: Grantor Trusts and Employee Trusts

While it is beyond the scope of this article to describe them in detail, there are special rules that apply to the attribution of stock from grantor trusts and employee trusts. I will discuss these rules in more detail in the future.

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If you are considered an owner or a beneficiary of a foreign trust, contact Sherayzen Law Office for professional help with your US tax compliance issues. Our firm is highly experienced in US international tax law, including foreign trust compliance. We have also helped taxpayers around the world with their offshore voluntary disclosures involving foreign trusts.

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§318 Upstream Estate Attribution | International Tax Lawyer & Attorney

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This article continues a series of articles concerning the constructive ownership rules of the Internal Revenue Code (“IRC”) §318. Today’s focus is on the §318 upstream estate attribution rules.

§318 Estate Attribution Rules: Downstream Attribution vs. Upstream Attribution

There are two types of the IRC §318 estate attribution rules: downstream and upstream. In a previous article, I discussed the downstream attribution rules concerning attribution of ownership of corporate stocks held by an estate to its beneficiaries. This brief article focuses on the upstream attribution rules, which means rules governing the attribution to the estate of corporate stocks held by its beneficiaries.

§318 Upstream Estate Attribution: Main Rule

The IRC §318(a)(3)(A) states the general rule for the upstream estate attribution of beneficiaries’ corporate stock: irrespective of the proportion of his beneficiary interest in the estate, all corporate stocks owned directly or indirectly by a beneficiary are deemed to be owned by the estate.

Notice the difference here between the downstream and the upstream estate attribution rules. §318 downstream estate attribution rules attribute the ownership of corporate stock proportionately from an estate to its beneficiaries. The upstream attribution rules under §318, however, completely disregard the proportionality rule; instead, all of the stocks of a beneficiary are attributed to the estate even if he has only 1% interest in the estate.

For example, let’s suppose that W owns 100 shares in corporation X; then, H dies and leaves one-tenth of his property to W. Due to the fact that W is a beneficiary of H’s estate, the estate constructively owns all of W’s 100 shares in X.

§318 Upstream Estate Attribution: No Re-Attribution

I already stated this rule in another article on estate attribution, but it is also important to re-state it here. §318 estate attribution rules contain a prohibition on re-attribution of stocks. Under §318(a)(5)(C), a beneficiary’s stock constructively owned by an estate through the operation of the §318 estate attribution rules cannot be attributed to another beneficiary.

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If you have questions concerning US business tax in general and US international business tax law specifically, contact Sherayzen Law Office for professional help. We are a highly-experienced tax law firm that specializes in US international tax law, including offshore voluntary disclosures, US international tax compliance for businesses and individuals and US international tax planning.

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§318 Estate Beneficiary Definition | US International Tax Law Firm

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The Internal Revenue Code (“IRC”) §318 contains corporate stock attribution rules between an estate and its beneficiaries. In order to apply these rules correctly, one must understand how §318 defines “beneficiary” for the purposes of upstream and downstream estate attribution rules. This articles will introduce the readers to this §318 estate beneficiary definition.

§318 Estate Beneficiary Definition: General Rule

Treas. Regs. §1.318-3(a) defines “beneficiary” for the purposes of §318 attribution rules (on a separate note, pursuant to Rev. Rul. 71-353, the attribution rules for the personal holding company provisions, collapsible corporation provisions (now repealed), and affiliated group provisions also use this definition of a beneficiary).

Treas. Regs. §1.318-3(a) states that “the term beneficiary includes any person entitled to receive property of a decedent pursuant to a will or pursuant to laws of descent and distribution.” Hence, in order to be considered a beneficiary under §318 , a person must have a direct present interest in the property of the estate or in income generated by that property.

Moreover, a person entitled to property not subject to administration by the executor is not a beneficiary for purposes of the §318 estate attribution rules unless the property is subject to the executor’s claim for a share of the federal estate tax.

§318 Estate Beneficiary Definition: Certain Specific Cases

This definition of beneficiary produces interesting results in some specific cases which are actually quite common.

Let’s first see the result of the application of the §318 estate beneficiary definition to life estates. A person with a life estate in estate property is a beneficiary. On the other hand, if a person owns only a remainder interest (i.e. an interest that vests only after the death of the life tenant), then he is not a beneficiary.

A beneficiary of life insurance proceeds is not considered a beneficiary for the §318 estate attribution rule purposes. This is because this is not a property subject to administration by the executor.

Similarly, an executor or administrator is usually not a beneficiary simply by virtue of occupying either of these positions. The main exception to this rule is a situation where an executor or administrator is otherwise considered a beneficiary.

Finally, a residuary testamentary trust presents a very interesting and complex issue. Under Rev. Rul. 67-24, it may be treated as a beneficiary of an estate before the residue of the estate is actually transferred to it. Moreover, it appears that such a trust (in that case, it was an unfunded testamentary trust) needs to worry about the §318(a)(3)(B) trust attribution rules.

§318 Estate Beneficiary Definition: Cessation of Beneficiary Status

It is important to note that §318 estate attribution rules cease to operate with respect to a person who stops being a beneficiary. See Tres. Reg. §1.318-3(a). There is an exception to this rule though: pursuant to Rev. Rul. 60-18, a residuary legatee does not stop being a beneficiary until the estate is closed. “Residual legatee” is a person named in a will to receive any residue left in an estate after the bequests of specific items are made.

When does a person stop being a beneficiary for the purposes of §318? Treas. Reg. Reg. §1.318-3(a) sets forth the following criteria that must be met for a person to no longer be considered a beneficiary: (a) the person has received all property to which he is entitled; (b) ”when he no longer has a claim against the estate arising out of having been a beneficiary”; and (c) “when there is only a remote possibility that it will be necessary for the estate to seek the return of property or to seek payment from him by contribution or otherwise to satisfy claims against the estate or expenses of administration”.

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If you have questions concerning US business tax in general and US international business tax law specifically, contact Sherayzen Law Office for professional help. We are a highly-experienced tax law firm that specializes in US international tax law, including offshore voluntary disclosures, US international tax compliance for businesses and individuals and US international tax planning.

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§318 Downstream Estate Attribution | International Tax Lawyer & Attorney

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This article continues a series of articles on the Internal Revenue Code (“IRC”) §318 constructive ownership rules. Today, the topic is §318 estate attribution rules – i.e. attribution of ownership of corporate stock from estate to its beneficiaries and vice versa. Since this is a long topic, I will divide it into three articles. This article focuses on the §318 downstream estate attribution rules.

§318 Estate Attribution Rules: Two Types

There are two types of the IRC §318 estate attribution rules: downstream and upstream. The downstream attribution rules attribute the ownership of corporate stocks owned by an estate to its beneficiaries. On the other hand, the upstream attribution rules attribute the ownership of corporate stocks owned by beneficiaries to the estate. As I stated above, this article focuses on the first type – i.e. §318 downstream estate attribution rules.

§318 Downstream Estate Attribution: Attribution from Estate to Beneficiary

Under the IRS §318(a)(2)(A), corporate stock owned directly or indirectly by or on behalf of an estate is deemed to be owned proportionately by its beneficiaries. It is very important to understand that the actual disposition of estate property by the testator does not matter to the proportionate attribution of estate property between the beneficiaries. Thus, even if the will demands that all corporate stocks be inherited by only one beneficiary, the ownership of these stocks will be attributed to all beneficiaries in proportion to their respective interests in the estate.

Three questions arise with respect to the application of this §318 downstream estate attribution rule: (1) What stocks are considered to be owned by the estate? (2) Who is deemed to be a beneficiary of an estate? and (3) How does the proportionality rule work?

§318 Downstream Estate Attribution: Stocks Owned by Estate

Treas. Regs. §1.318-3(a) defines when an estate is deemed to be an owner of corporate stock for the §318 attribution purposes. It states that corporate stocks (as well as any other property) shall be considered as owned by an estate if “such property is subject to administration by the executor or administrator for the purpose of paying claims against the estate and expenses of administration.” This is the case even if the legal title to the stock vests immediately upon death in the decedent’s heirs, legatees, or devisees under local law. Id.

§318 Downstream Estate Attribution: Definition of a Beneficiary

I address the definition of a beneficiary for the §318 attribution purposes in more detail in another article. Here, I will only state the general rule.

Treas. Regs. §1.318-3(a) states that “the term beneficiary includes any person entitled to receive property of a decedent pursuant to a will or pursuant to laws of descent and distribution.” Hence, in order to be considered a beneficiary under §318, a person must have a direct present interest in the property of the estate or in income generated by that property.

§318 Downstream Estate Attribution: Proportionality

As in many other cases concerning attribution proportionality, there is very little guidance from the IRS and Treasury regulations concerning determination of a beneficiary’s proportionate interest in an estate. Hence, an attorney has a considerable freedom in determining the reasonable methodology with respect to the application of the proportionality requirement. It appears that one method may be particularly acceptable to the IRS: measuring the relative values of each beneficiary’s interest.

§318 Downstream Estate Attribution: No Re-Attribution

Similarly to many other IRC provisions concerning constructive ownership, §318 estate attribution rules contain a prohibition on re-attribution of stocks. Under §318(a)(5)(C), a beneficiary’s stock constructively owned by an estate through the operation of the §318 estate attribution rules cannot be attributed to another beneficiary.

§318 Downstream Estate Attribution: Example

Let’s conclude this article with an illustration of how the §318 downstream estate attribution rules actually work. The proposed hypothetical scenario is as follows: an estate owns 100 of the total 200 outstanding shares of X, a South Dakota C-corporation; A is entitled to 50% of the property of the estate and actually owns 24 shares of X; B owns 36 shares of X and has a life estate in the other 50% of the estate; and C owns 40 shares of X and only has a remainder interest in the estate after the death of B. Here is how the §318 estate attribution constructive rules would work in this case:

A actually owns 24 shares of X and constructively owns another 50 shares of X through his 50% beneficiary interest in the estate. In other words, A’s total ownership of X equals 74 shares.

B actually owns 36 shares of X and constructively owns another 50 shares of X through his life estate; his total number of shares of X equals 86.

Finally, C owns 40 shares of X only. He does not have any constructive ownership of any shares of X, because his remainder interest in the estate is not a present interest in the estate; hence, he is not a beneficiary of the estate.

Contact Sherayzen Law Office for Professional Help With §318 Downstream Estate Attribution Rules

The constructive ownership rules of §318 are crucial to proper identification of US tax reporting requirements with respect domestic and especially foreign business entities. Hence, if you a beneficiary of an estate or an executor/administrator of an estate that owns stocks in a domestic or foreign corporation, contact Sherayzen Law Office for professional help with §318 estate attribution rules.

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2020 SDOP Eligibility Requirements | SDOP Tax Lawyer & Attorney

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In a recent article, I mentioned that Streamlined Domestic Offshore Procedures (“SDOP”) will continue to be the most important voluntary disclosure option in 2020 for US taxpayers who reside in the United States. However, not all taxpayers will qualify to participate in the 2020 SDOP. In this article, I will discuss the main 2020 SDOP eligibility requirements.

2020 SDOP Eligibility Requirements: Background Information

The IRS introduced Streamlined Domestic Offshore Procedures in June of 2014 as part of the most radical overhaul of offshore voluntary disclosure process since the introduction of the Offshore Voluntary Disclosure Program (“OVDP”) in 2009.

The IRS created SDOP first to supplement OVDP, not to replace it. The idea was to mitigate the OVDP’s rigidity by streamlining the voluntary disclosure process for taxpayers who non-willfully failed to comply with US international tax requirements.

Almost from the start, SDOP grew in popularity and quickly eclipsed OVDP. Tens of thousands of taxpayers utilized this option to lower IRS penalties in a relatively (i.e. relative to OVDP) fast and painless way. As a result, SDOP continues to exist even today while the 2014 OVDP was closed in September of 2018.

2020 SDOP Eligibility Requirements: Five Main Eligibility Requirements

In order to quality to participate in the SDOP, taxpayers must meet all of the following requirements: (1) US residence; (2) US tax return filing compliance; (3) US international tax noncompliance; (4) non-willfulness; and (5) no IRS examination. Let’s discuss each requirement in more detail.

2020 SDOP Eligibility Requirements: US Residence

In order to participate in SDOP, a taxpayer must be a US tax resident who did not meet any of non-residence tests of Streamlined Foreign Offshore Procedures. This requirements applies differently to two categories of taxpayers.

The first category consists of US citizens and US permanent residents (i.e. “green card” holders). In order to satisfy the 2020 SDOP eligibility requirements, these taxpayers must have a US abode and must not physically reside outside of the United States for more than 329 full days in each of the past three years. I explore what this means further in a future article on Streamlined Foreign Offshore Procedures.

The second category of taxpayers includes all individuals who are not US citizens and US permanent residents. In order for these individuals to be eligible to participate in SDOP, they must satisfy the substantial presence test in each of the past three years. Generally, under 26 U.S.C. §7701(b)(3), an individual meets the substantial presence test if the sum of the number of days on which such individual was present in the United States during the current year and the 2 preceding calendar years (when multiplied by the applicable multiplier) equals or exceeds 183 days. There are many exceptions to this rule, but they are outside of the scope of this article.

2020 SDOP Eligibility Requirements: Filing of US Tax Returns

In order to participate in the SDOP, a taxpayer must have previously filed a US tax return for each of the most recent three years for which the US tax return due date (or properly applied for extended due date) has passed. There is an exception to this rule for situations where a taxpayer’s income was below the tax return filing threshold and he was not required to file the tax return for that year.

2020 SDOP Eligibility Requirements: International Tax Noncompliance

An SDOP disclosure must have some relationship to US international tax noncompliance. A taxpayer must have failed to report income from a foreign financial asset and must have failed to file FBAR or any other US international information return, such as Forms 3520, 3520-A, 5471, 8865, 8938, 8621, 926, et cetera.

2020 SDOP Eligibility Requirements: Non-Willfulness

This is the most important and most difficult eligibility requirement for participating in SDOP: taxpayer’s violations of US international tax law must be non-willful. Moreover, they must be non-willful with respect to each aspect of the voluntary disclosure: FBARs, each international information return and foreign income. In other words, if a taxpayer was non-willful with respect to non-filing of Form 5471, but willful with respect to non-filing of FBARs, then, his entire eligibility to participate in SDOP is compromised.

SDOP provides the following definition of non-willfulness: “non-willful conduct is conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law.” Obviously, proving non-willfulness is a matter highly dependent on facts and requires an individual approach to each client’s case. It is the job of an international tax attorney to make good use of the facts and determine whether non-willfulness can be established.

2020 SDOP Eligibility Requirements: Taxpayer Not Subject to Examination

Finally, a taxpayer who wishes to participate in SDOP must not be subject to an IRS civil examination or an IRS criminal investigation. Whether all relevant years are subject to an examination or just a few of them is irrelevant; it does not even matter whether the examination is focused on a particular international information return. In all of these cases, the taxpayer will most likely lose eligibility to conduct his voluntary disclosure through SDOP.

Contact Sherayzen Law Office for Professional Help With the Determination of Whether You Satisfied the 2020 SDOP Eligibility Requirements

If you have undisclosed foreign accounts or any other offshore assets and you wish to know whether you are eligible to participate in the 2020 SDOP, contact Sherayzen Law Office for professional legal help. Our experienced international tax law firm will thoroughly analyze your case, determine your SDOP eligibility, examine all alternative voluntary disclosure options and skillfully prepare the necessary tax and legal documents necessary to complete your offshore voluntary disclosure.

We have helped hundreds of US taxpayers with their offshore voluntary disclosures, and we can help you!

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