Automatic Allocation Rules Applied to Trust Transfers Despite Incorrect Reporting on Form 709

Parents made irrevocable gifts to separate trusts for each of their two children.  The terms of each trust provided for distributions of income and principal to the child, as determined necessary by the Trustee for each child’s health, education, maintenance and support.  When the child attained age 30, the Trustee was directed to pay to or apply for the benefit of the child the entire net income of the child’s trust.  The child had a limited testamentary power of appointment, which could be exercised after the child attained 34 years of age.  Further, if distribution of principal from the child’s trust would result in the imposition of GST taxes, the child had a testamentary general power of appointment as to the balance of the child’s trust.  Absent the exercise of a power of appointment, the child’s trust would be divided into separate shares, by representation, among the child’s living issue, and each share would be held as a separate trust.

Although the Form 709s were timely filed, the transfers were incorrectly reported on Schedule A Part 1, instead of on Schedule A, Part 3, Indirect Skips.  Nevertheless, the IRS ruled in Letter 201924016 that the each of the parents’ respective GST exemptions was automatically allocated to the transfers under the automatic allocation rules of § 2632(c).  Code § 2632(c) provides that if an individual makes an indirect skip during that individual’s lifetime, any unused portion of such individual’s GST exemption will be allocated to the property transferred to the extent necessary to make the inclusion ratio for the property zero.

In some circumstances, however, you may prefer not to rely on the automatic allocations rules, but, rather, affirmatively elect, pursuant to Code § 2632(c)(5)(A)(ii), to treat a trust as a GST Trust with respect to all transfers deemed made by the taxpayer to such trust during the year for which the Form 709 is filed, as well as all future transfers to the Trust. Accordingly, the inclusion ratio of the Trust immediately after the automatic GST allocation will be zero.

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