Qualifying trust transfers for split-gift treatment.

• Author: Swindle, William R.

Section 2513 of the Internal Revenue Code of 1986, as amended, allows a married couple to treat gifts made by one spouse as if the gift is made one-half by each spouse. These gifts are commonly referred to as split-gifts. In this article, the spouse making the gift or transfer will be referred to as the "donor spouse" while the other spouse will be referred to as the "nondonor spouse."

Most estate planning practitioners are informed about the application of the split-gift rules to outright or direct gifts, but many are not as familiar with the split-gift rules addressing gifts to trusts. In that regard, the split-gift rules can become quite complicated when the nondonor spouse is a beneficiary of the recipient trust. This article briefly discusses the basic split-gift requirements and then addresses in detail the application of the split-gift rules to transfers to irrevocable trusts. Any reference in this article to a "trust" refers to an irrevocable trust.

There are a number of potential advantages to split-gifts. Split-gifts allow the use of both spouses' Code [section] 2503(b) annual exclusion amounts (currently $12,000 per donee) even though the gift is made by one spouse. Additionally, a married couple can effectively apply both spouses' Code [section] 2505(a) lifetime exclusion amount (currently $1,000,000 per donee) to a gift by an individual spouse. Finally, split-gifts can minimize gift tax liability through the use of each spouse's graduated gift tax rates.

Split-gift Rules: Basic Requirements

All gifts must satisfy certain requirements to qualify for split-gift treatment. First, both spouses must be U.S. citizens or residents. (1) Next, the spouses must be married to each other at the time of the gift. (2) If the spouses subsequently divorce (or a spouse dies later that year), they are still eligible for split-gifts if neither spouse remarries by the end of that year. (3) Additionally, both spouses must consent to treat the transfer as a split-gift on IRS Form 709 (federal gift tax return). (4) The split-gift election applies to all gifts made by either spouse during the year and cannot be made on a selective basis. (5)

Finally, the donor spouse must transfer the subject property to a third party to qualify for split-gift treatment. (6) Accordingly, a direct or indirect gift to the donor's spouse will not qualify for split-gift treatment. This is a fairly easy rule to apply to outright gifts. In that situation, the transfer qualifies for split-gift treatment if the nondonor spouse is not a donee of the transfer. For example, assuming all of the requisite criteria are satisfied, a $24,000 outright or direct gift from father to son qualifies for split-gift treatment. The nondonor spouse is not directly or indirectly a recipient of this gift.

Transfers to Trusts

The requirement that the transfer must be made to a third party to qualify for split-gift treatment also applies to indirect gifts, including transfers to trusts. Does a transfer from the donor spouse to a trust qualify for split-gift treatment? The answer is that it depends entirely on the trust's terms.

This is a simple determination if the nondonor spouse is not a trust beneficiary. In that circumstance, the donor spouse's entire transfer to a trust qualifies for split-gift treatment. For example, assume that the donor spouse is the grantor of a trust, and the nondonor spouse is not a trust beneficiary. Assume further that the donor spouse's three adult children are the trust beneficiaries and that the donor spouse transfers $72,000 to the trust. Again, if all of the necessary requirements are satisfied, the entire $72,000 transfer qualifies for split-gift treatment.

Unfortunately, many trust situations are not that straightforward. Frequently, the donor spouse establishes a trust with multiple beneficiaries and one of the beneficiaries is the nondonor spouse. In that case, the transfer is in part a gift to the nondonor spouse and in part a gift to the third-party beneficiaries.

Treasury Regulations [section] 25.2513-1(b)(4) states that when a spouse transfers property to his or her spouse and to third parties, the transfer qualifies for split-gift treatment only if the interest transferred to third parties is ascertainable and severable from the interest transferred to the spouse. The portion of the transfer allocated to the third-party beneficiaries qualifies for split-gift treatment while the portion allocated to the nondonor spouse does not qualify for split-gift treatment. If the respective portions of the transfer allocable to the nondonor spouse and to the third parties cannot be ascertained, then none of the transfer qualifies for split-gift treatment.

Treasury Regulations [section] 25.2513-1(b)(4) can be easily applied to certain situations when the donor spouse is a trust beneficiary. Assume the same facts set forth above, except that the transfer to the trust is $77,000 and the nondonor spouse has a power to withdraw $5,000 while each child has the power to withdraw $24,000 of the transfer. These trust withdrawal powers are generally structured as Crummey (7) powers.

In this case, the interest of the third-party beneficiaries is ascertainable and severable from the interest of the nondonor spouse. Accordingly, the $5,000 that is subject to the nondonor spouse's withdrawal power is not eligible for split-gift treatment, but the $72,000 that can be withdrawn by the children qualifies for split-gift treatment. (8) The portion of the gift allocated to the nondonor spouse might qualify for the Code [section] 2503(b) annual...