The Treasury Department and the IRS released final regulations on July 8 identifying certain arrangements claiming to be charitable remainder annuity trusts as “listed transactions,” a specific type of abusive tax shelter that the IRS has formally identified as a tax-avoidance scheme.
Material advisors and certain participants in these listed transactions are required to file disclosures with the IRS and are subject to penalties for failure to disclose. Businesses and individuals must file Form 8886, Reportable Transaction Disclosure Statement, to disclose information for each reportable transaction in which they participate. Material advisors must use Form 8918, Material Advisor Disclosure Statement, to disclose information about reportable transactions.
“The Internal Revenue Service remains vigilant and is watching out for tax-avoidance schemes,” IRS CEO Frank Bisignano said in a statement. “Taxpayers should not forget that the IRS will continue to combat abusive tax shelters and transactions.”
The final regulations describe a transaction in which taxpayers purport to eliminate ordinary income and/or capital gain on the sale of property.
The final regulations adopt the proposed regulations issued in March 2024 without change, according to a tax news alert from Big Four accounting firm KPMG.
According to the IRS, in abusive transactions of this type, property with a fair market value in excess of its basis, for example, interests in a closely held business, and/or assets used or produced in a trade or business, is transferred to a purported CRAT, which then sells the property and uses some or all of the net proceeds to purchase a single premium immediate annuity.
By misapplying the rules under sections 72 and 664 of the Internal Revenue Code, the taxpayer, or beneficiary, claims that the CRAT annuity is taxable to the recipient only to the extent of the income portion of the SPIA annuity payment, the IRS says.
“Only the specific CRAT transaction that Treasury and the IRS consider to be abusive with the characteristics described in the final regulations (and substantially similar transactions) are considered listed transaction(s),” KPMG said in the tax news alert. “CRAT transactions without those specific characteristics are not considered listed transactions under the final regulations.”
Tax attorney Jason Galek wrote the following post on LinkedIn about the final rules:
A final regulation set for publication confirms what careful practitioners have long advised. You cannot launder capital gain out of a charitable remainder annuity trust by routing it through a commercial annuity.
The IRS has now listed the structure as a reportable transaction. The scheme involves funding a purported CRAT with appreciated property, selling the property inside the trust, buying an annuity with the proceeds, and reporting the payments as if the trust distribution rules did not apply.
Listing changes the stakes. Participants and material advisors face mandatory disclosure obligations and penalties for silence.
One welcome clarification for the charitable sector. A charity named as remainder beneficiary is not a participant in the listed transaction simply by holding that interest. Educating a donor about legitimate charitable remainder trusts does not create material advisor exposure.
Charitable remainder trusts remain excellent planning vehicles when structured and reported correctly. The line between planning and abuse has rarely been drawn this clearly. If a strategy only works because a distribution rule is ignored, it does not work.
The regulations went into effect today, July 9.
Photo credit: gregobagel/iStock
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