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  • OCTOBER 2007

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On July 27, 2007, Treasury issued proposed regulations that would address the issue of costs incurred by an estate or non-grantor trust, and whether and to what extent those would be subject to the 2% floor for miscellaneous itemized deductions under Code Section 67(a).  Prop. Reg. §1.67-4.  This is the issue in the now famous Rudkin [1] case.  These regulations reflect, in many ways, the basic views of the Rudkin court.  The new regulations, if adopted, add an additional level of complexity to the process.  They require an “unbundling” by the taxpayer of the charges related to the trust or estate in order to identify the portion of the fees representing services that are unique to estates and trusts from those that are not. A cost incurred that is unique is not subject to the 2% floor; others are.           

The regulations identify a non-exclusive list of “unique” services that are not subject to the floor as “fiduciary accounts, judicial or quasi-judicial filings required as part of the administration of the estate or trust; fiduciary income tax and estate tax returns; the division or contribution of income or corpus to or among beneficiaries.”  Non-unique services include “custody or management of property; advice on investing for total return; gift tax returns; the defense of claims by creditors of the decedent or grantor; and the purchase, sale, maintenance, repair, insurance or management of non-trade or business property.”  Prop. Reg. §1.67-4(b).           

Similarly, fiduciary or trustee fees must be unbundled.  If a single fee is paid by an estate of trust to cover both trustee fees and investment and other fees, the estate or trust has to break those down and identify the part that is “unique to estate and trusts and is thus not subject to the 2-percent floor.”  The regulations say that “any reasonable method to allocate the single fee, commission or expense” can be used.  Prop. Reg. §1.67-4(c).             

One trust officer reported that his/her bank is already trying to provide statements of fees and costs that are unbundled, as best it can, given the uneven reasoning behind the regulations.  What concerns some tax preparers is that the Supreme Court decision on the matter probably will not be issued before the due date for fiduciary income tax returns for 2007.  If that occurs, questions will arise and be unresolved on how investment adviser fees should be reported.  This concern with this particular issue is hightened by the new return preparer penalties under Section 6694.  The new “more likely than not” standard may not be met if the return tries to claim deductions in excess of what Rudkin and the proposed regulations allow.  Presumably, some preparers will disclose whatever position they take on an attached Form 8725, as long as they think they have a reasonable basis for the provision.  And those preparers in the 2 nd Circuit who have to live with the Rudkin decision probably will not be able to argue for any position other than one that the proposed regulations and Rudkin seem to set forth.

Steve Akers pointed out, in a recent presentation to the Dallas Estate Planning Council, that the issuance of these proposed regulations came less than two weeks after the U.S. Supreme Court granted certiorari in the Rudkin appeal (now known as Knight v. Commissioner at the Supreme Court level).  He also reported that he talked to Treasury officials in September about the timing.  They said the regulations were ready to go before that, but that they pondered whether issuance would raise some suspicions regarding timing.  As Mr. Akers pointed out, “apparently, they got over that.

[1] William L. Rudkin Testamentary Trust v. Commissioner, 467 F3d 149 (2nd Cir. 2006).



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