A GRAT must be drafted to comply with the requirements set forth in the applicable Treasury Regulations under Section 2702. Unfortunately, the regulations don’t resolve all issues, such as whether there’s a minimum or maximum term for a GRAT, or whether a GRAT remainder interest must have a minimum value. Another uncertainty is the consequence, if any, of a GRAT that isn’t administered in accordance with its terms.
For example, the GRAT annuity must be paid within 105 days of its due date.1 In Atkinson v. Commissioner2, the U.S. Tax Court stated that a lifetime charitable remainder annuity trust (CRAT) includible in the decedent’s gross estate wasn’t a “qualified” CRAT under IRC Section 664 because no annuity payments were made to the decedent-annuitant during her lifetime even though the trust agreement required such payments to be made. In affirming the Tax Court, the U.S. Court of Appeals for the Eleventh Circuit stated, “Accordingly, since the CRAT regulations were not scrupulously followed through the life of the trust, a charitable deduction is not appropriate.” Thus, a perfectly drafted CRAT lost its charitable deduction because the trustees failed to administer the trust in accordance with its terms. The court implied that a CRAT that fails to make any distributions to the annuitant creates an unfair income tax advantage because funds aren’t being distributed to the taxpayer and subjected to current income taxation. In addition, a CRAT that accumulates all its assets is an end-run around the private foundation rules because even a private foundation is required to make minimum contributions to charity annually. A CRAT that fails to make annuity payments, but retains its tax-exempt status, gains an unfair income tax advantage without providing current benefits to charity.
Ensure Payments Are Made
Although the policy issues relating to CRATs and GRATs may be different, the IRS in audits has contended that, when the annuity isn’t paid within the 105-day grace period, the GRAT fails to qualify and the entire value of the property transferred to the GRAT is subject to gift tax.
Source: Make GRAT Payments to Avoid Subjecting Assets to Gift Tax