Minimizing a personal representative's personal liability to pay taxes.

• Author: Carroll, William C.
• Position: Part 2

Part I of this article, published in the November Journal, described the various federal and state tax obligations of a decedent and a decedent's estate and outlined how federal and state law can hold the personal representative (PR) personally liable for these obligations. In this Part II, the authors recommend steps for a PR to take to minimize personal liability for these federal and state tax obligations. It is imperative that counsel for the PR implement steps to identify and mitigate against these liabilities.

Steps Applicable to Both Federal and State Tax Obligations

First and foremost, the PR should file timely and complete tax returns for periods prior to the decedent's death. In that regard, a PR must gather all of the decedent's tax and financial information to enable the PR to complete this task accurately.

The first few steps in this important exercise are basic and intuitive. The PR should collect and review the decedent's federal income tax reporting information (e.g., 1099s) and prior federal (and state, if applicable) income and gift tax returns for the three years preceding death. Florida intangible tax returns for the three years prior to death should also be gathered and reviewed. The decedent's mail should be forwarded to the PR or the PR's counsel to ensure that any income tax reporting information is sent to the proper party. Form 56, Notice Concerning Fiduciary Relationship, must be filed with the Internal Revenue Service (see discussion below). The PR should also review all of decedent's records to identify any correspondence and/or notices from the IRS or the Florida Department of Revenue (FDOR). If an accountant had previously prepared the decedent's tax returns, the PR should meet with the accountant to discuss all tax issues. In connection with meeting with the decedent's accountant (if any), the PR should determine who will prepare the income (individual and fiduciary), estate, gift, and intangible tax returns. To the extent that there is any question that one or more returns may not have been filed with the IRS, it may be appropriate to request a transcript of such tax return and/or a copy of such return (using Forms 5406-T and 5406).

As the administration of the estate progresses, it is not uncommon for the PR to uncover information that causes the PR to suspect that prior gift tax returns are either inaccurate or incomplete, or were perhaps never filed as required. Even if the PR has gift tax returns in hand, he or she should review the returns for the proper allocation of the generation-skipping tax exemption. (1) If the PR determines that prior gift tax returns were inaccurate, incomplete, or not filed as required, or that the generation-skipping tax exemption was improperly allocated or not allocated at all, the PR needs to determine how to rectify these mistakes and omissions.

The PR should promptly estimate the necessary cash requirements of the estate for the payment of the decedent's debts (including existing tax liabilities), estate taxes, and administration expenses. The PR should then take prompt steps to raise the cash necessary to meet the obligations of the estate through the sale of estate assets, if necessary. (2) Because of the step-up in basis, (3) raising cash can usually occur without substantial adverse tax consequences to the estate. Once the PR has raised sufficient cash, the funds should be retained by the estate in conservative cash or cash equivalent investments such as money market accounts or short-term Treasury obligations.

Steps Applicable to Federal Tax Obligations

Because of the relatively short time horizon for the administration of a decedent's estate (generally two to three years), a PR will want to be sure that he or she is aware of all of the federal tax issues early on in the administration, and that these issues are resolved before the PR makes final distributions (or any sizable interim distributions).

Generally, the IRS has three years to assess any deficiencies on income, estate, or gift tax returns filed by the decedent and/or the PR. (4) Thus, various assessment periods can run well beyond the typical time frame for settling an estate. Therefore, it is incumbent on the PR to take whatever steps are available to shorten the time period the IRS has to assess any such deficiencies and to be discharged from personal liability for any such potential deficiencies.

The Internal Revenue Code provides several mechanisms a PR can use to his or her advantage either to shorten the time periods in which IRS may assess tax deficiencies or to request a discharge from personal liability for the payment of such taxes.

Notice of Fiduciary Capacity

Treas. Reg. [section] 301.6903-1(a) and (b) state that every fiduciary is required to give notice in writing to the IRS that he or she is acting for another in a fiduciary capacity. The PR can use Form 56 (Notice Concerning Fiduciary Relationship) to provide the required notice. Importantly, if a notice of fiduciary capacity is not filed with the IRS, a notice of deficiency will not be sent directly to the PR, and any notice of deficiency that the IRS sends to the last known address of the decedent is considered sufficient (permitting the IRS to assess the tax and demand payment immediately upon expiration of the 90-day deficiency notice period, even if the PR may never have received the notice). (5) Additionally, with respect to the assessment of personal liability against the PR under 31 U.S.C. [section] 3713(b), in the...