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Income with Respect to a Decedent

Income with respect to a decedent ("IRD") consists usually of cash which has accrued to a decedent, but which has not been paid at the time of his or her death. Unpaid compensation, retirement plan distributions, dividends and interest comprise IRD. IRD often carries with it unfavorable tax consequences since it retains the same character in the hands of the recipient that it would have if it were paid to the decedent prior to death. Unlike most distributions from a decedent's estate which are received tax-free, the person receiving IRD pays regular income tax on the distribution.

The recipient of IRD is allowed a deduction if any estate tax was paid on the IRD. This deduction is computed by calculating the estate tax with and without the IRD included as part of the estate. For example: Assume an estate has $600,000 of property and a $300,000 pension plan. The estate pays no tax on the property, but has a tax of $100,000 on the estate once the pension plan (which is considered IRD) is included. Therefore, the recipient of the IRD will have a deduction equal to one-third of the payment received.

If, however, a charity receives the IRD, it will pay no tax. Therefore, why not attempt to transfer items with IRD to a charity and distribute the non-taxable portions of the estate to individual beneficiaries? If properly structured, this technique will work.

A Qualified Personal Residence Trust ("QPRT")

The tax code permits the transfer of a principal residence or second residence to a trust, with the donor retaining the right to use the home for a term of years. Once that term expires, the beneficiaries of the trust own the home outright. Although the donor makes a gift of the house immediately, for gift tax purposes, the gift is much less than the fair market value of the house. To illustrate: A gift of a $1,000,000 house by a person 70 years old who retains the right to live in the house for 10 years thereafter could be as low as $350,000 (depending on interest rates at the time the gift is made). A donor can "leverage" his or her 600,000 unified estate and gift tax credit by using this technique.

There are several drawbacks to using a QPRT. First, if the donor dies within the term of the trust, the gift reverts to the donor's estate and the transaction is unwound. Second, if the donor survives the term of the trust, ownership is transferred to the beneficiaries and the donor could lose his or her home. To protect against this occurrence, the donor could provide that he or she will lease the home from the trust or beneficiaries at the end of the term. Finally, the beneficiaries receive the donor's basis in the home, which could be quite low. On the contrary, if the beneficiaries received the home upon the donor's death, the basis in the home will be adjusted to the fair market value on the date of the decedent's death (or on the alternate valuation date which is 6 months after the date of death).

Use of a QPRT should be considered if the residence or vacation home has a high tax basis. Since the basis of assets are stepped up to fair market value at death, a QPRT could be a valuable tax planning technique for a married couple in which the surviving spouse first inherits the house (at fair market value) and then places the house into a QPRT.

Club Dues

The final regulations defining the term "club" under IRC Sec. 274(3)(3) were issued. In 1993, Congress disallowed deductions for clubs that were organized for business, pleasure, recreation or other social purposes. Following an outcry from the Lion's and Kiwanis Clubs that the definition of a club was overly-broad, the government issued regulations restricting the definition of a non-deductible payment to a club.

The disallowance of dues paid to a club does not apply to: (1) civic or public service organizations such as Kiwanis, Lions, Rotary, Civitan, and similar organizations; (2) professional organizations such as bar associations and medical associations; and (3) certain organizations that are similar to professional organizations, specifically, business leagues, trade associations, chambers of commerce, boards of trade, and real estate boards, provided these organizations do not conduct entertainment activities for their members as their principal purpose. In "IRS-talk" this means that if a club meets the exception, its members can deduct the dues paid; but a club cannot otherwise function primarily as a pleasure or entertainment club or facility just to meet the exception.


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**NOTE: The information contained at this site is for educational purposes only and is not intended for any particular person or circumstance. A competent tax professional should always be consulted before utilizing any of the information contained at this site.**