Real Property, Trust and Estate Law Journal

The Uniform Basis Rules and Terminating Interests in Trusts Early

by F. Ladson Boyle, Howard M. Zaritsky & D. Ryan Wallace

F. Ladson Boyle is the Charles E. Simons, Jr. Distinguished Professor Emeritus of Federal Law at the University of South Carolina School of Law. Howard M. Zaritsky is a retired estate planning attorney. He can be reached through D. Ryan Wallace, JD, LLM, CPA, is an associate with Sojourner, Caughman, and Thomas, LLC, Columbia, SC. The authors thank Jonathan G. Blattmachr, Austin W. Bramwell, and Steven B. Gorin for their input, although all mistakes and errors are solely the authors’. In addition, the authors thank the student editorial board of the Real Property, Trust and Estate Law Journal at the University of South Carolina School of Law for their hard work to make this a good article, and in particular Tony Doxey, Ross Scarborough, and Lauren Egan. F. Ladson Boyle, Howard M. Zaritsky & D. Ryan Wallace All Rights Reserved

Authors' Synopsis:

The resolution of income tax issues that may arise for trust beneficiaries who dispose of temporal interests in trusts remains relatively obscure. Additional issues exist for subsequent interest holders; the methods that the Code and Regulations prescribe for establishing, maintaining, and potentially recovering basis for successor owners of interests in a trust are not well developed.

In some instances, the trust instrument creating a temporal interest will supply a suitable path for early termination and distribution of assets. In those cases, Subchapter J of the Code typically governs the transaction and provides that terminating the trust and distributing its assets be treated as nonrecognition events. However, one must look beyond the confines of Subchapter J when trust beneficiaries participate in the disposition without a settlor-provided power to do so. The Internal Revenue Service has consistently applied in letter rulings a different tax regime other than the income tax rules provided in Subchapter J of the Code; gain may be realized and recognized under section 1001, which often brings into play the uniform basis rules.

The uniform basis rules reflect the concept that property acquired by gift or from a decedent has a single or uniform basis, whether multiple persons receive an interest in the property and whether directly or through a trust, and the individual interests have a basis that it is a proportional part of the uniform basis. The uniform basis rules of section 1001(e)(1) often deny the seller of a life or term interest in a trust any recovery of basis unless all interests in the trust are transferred to a third party for consideration. On the other the hand, the uniform basis rules permit a remainder beneficiary to recover basis in a sale, whether or not the life or term interest is also transferred. Besides these two basic rules, there are many nuances to the tax consequences of uniform basis rules and some interesting issues to evaluate when considering the sale of an interest in a trust, or the commutation or early termination of a trust, and how holders of transferred interests are treated for income tax purposes.

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