SCOTUS Reports

Tag: Power to Revoke

  • Whitely v. Commissioner, 6 T.C. 1016 (1946): Taxability of Trust Income When Beneficiary Holds Power to Revoke

    6 T.C. 1016 (1946)

    A beneficiary who possesses the power to revoke a trust is treated as the owner of the trust corpus for tax purposes and is therefore taxable on the trust’s income, even if that income is designated for charitable purposes or would otherwise be considered a gift.

    Summary

    Whitely created five trusts, funded by her husband, that provided her with $18,000 annually. She argued this was a non-taxable gift. Furthermore, she claimed income designated for charity was not taxable to her. The Tax Court held that because Whitely possessed the power to revoke the trusts entirely, she was effectively the owner of the trust assets. As such, she was taxable on all of the trust income, regardless of whether some of it was distributed as a purported gift to her or set aside for charitable purposes. The court emphasized that the power to revoke equated to ownership for tax purposes.

    Facts

    Whitely’s husband created five trusts in 1937, each containing a provision to pay Whitely $300 per month ($18,000 annually in total). The trust instruments also granted Whitely the “full power and authority to cancel or revoke this trust at any time in whole or in part.” The trusts also allocated some income to religious, charitable, and educational purposes. Whitely reported some of the trust income in her tax returns but excluded the $18,000 annual payments, claiming they were gifts, and the charitable contributions. The Commissioner assessed deficiencies, arguing that Whitely’s power to revoke made her taxable on all trust income.

    Procedural History

    The Commissioner assessed deficiencies against Whitely for the tax years 1939, 1940, and 1941. Whitely petitioned the Tax Court for a redetermination, arguing that the $18,000 annual payments were non-taxable gifts and that the income set aside for charity was not taxable to her. The Tax Court ruled in favor of the Commissioner, holding that Whitely’s power to revoke the trusts made her taxable on all of the trust income. Whitely appealed. The specific appellate outcome is not detailed in this document.

    Issue(s)

    1. Whether Whitely is taxable on the income of the five trusts created by her husband, given her power to revoke the trusts.
    2. Whether the assessment of a deficiency for 1939 is barred by the statute of limitations.

    Holding

    1. No, because Whitely possessed the power to revoke the trusts, making her the equivalent of the owner of the trust corpora for tax purposes.
    2. No, because the amount of unreported income taxable to Whitely exceeded 25% of the reported gross income, and the notice of deficiency was mailed to her within five years after her return was filed.

    Court’s Reasoning

    The court reasoned that Whitely’s power to revoke the trusts at any time gave her substantial dominion and control over the trust assets. It cited several cases, including Richardson v. Commissioner, Ella E. Russell, Jergens v. Commissioner, and Mallinckrodt v. Nunan, where beneficiaries with similar powers were deemed taxable on trust income. The court distinguished Plimpton v. Commissioner, where the beneficiary’s control was limited by the discretion of other trustees. The court emphasized that the power to revoke, acting alone, equated to ownership for tax purposes. Specifically, the court stated that in cases like Whitely’s, the taxpayer-beneficiary, “acting alone and without the concurrence of any one else, had the right to acquire either the corpus or income of the trust at any time.” Because of this power, the court concluded that Whitely was taxable on all income, nullifying her claims of a non-taxable gift and charitable deductions. The court also held the statute of limitations did not bar assessment because the unreported income exceeded 25% of her gross income, invoking Section 275(c) of the I.R.C.

    Practical Implications

    This case reinforces the principle that the power to revoke a trust carries significant tax consequences. It establishes that a beneficiary with such power is treated as the owner of the trust assets for tax purposes, regardless of how the trust income is distributed. Attorneys drafting trust instruments must carefully consider the tax implications of granting beneficiaries the power to revoke. Granting this power can negate the intended tax benefits of establishing a trust, such as shielding income from the beneficiary’s taxable income or facilitating charitable contributions. Later cases have cited Whitely to support the proposition that control over trust assets, even without direct ownership, can lead to tax liability. Taxpayers should be aware that the IRS scrutinizes trust arrangements where beneficiaries retain significant control, such as the power to revoke, and will likely treat them as the owners of the trust assets for tax purposes. The case also highlights the importance of accurate income reporting to avoid extending the statute of limitations.

  • Clifford v. Commissioner, 5 T.C. 1018 (1945): Taxing Trust Income to Grantor with Power to Revoke

    5 T.C. 1018 (1945)

    A grantor who retains the power to revoke a trust is treated as the owner of the trust and is taxable on the trust’s income, even if the income is distributed to another beneficiary or set aside for charitable purposes.

    Summary

    The Tax Court addressed whether a grantor was taxable on the income of five trusts she created, where she retained the power to revoke the trusts. The grantor argued that $18,000 paid to her annually was a gift and thus exempt from taxation, and that income set aside for charitable purposes was not taxable to her due to renunciation. The court held that because the grantor had the power to revoke the trusts, she was the equivalent of the owner of the trust corpora and was taxable on the trust’s income. This power made her taxable on the entire trust income, less deductions for charitable contributions.

    Facts

    The petitioner’s husband created five trusts in 1937, with the petitioner as the beneficiary. Paragraph 1 of each trust directed $300 per month be paid to the petitioner. Paragraph 5 granted the petitioner the “full power and authority to cancel or revoke this trust at any time in whole or in part.” The trust income for 1939, 1940, and 1941 was $28,943.62, $25,837.52, and $44,949.46, respectively. The fiduciary reported $10,943.62 of the 1939 trust income as “set aside for religious, charitable, and educational purposes.” In her tax returns for 1940 and 1941, the petitioner reported some of the trust income, but argued that the $18,000 annual payments were gifts and that she had renounced the right to the charitable contributions.

    Procedural History

    The Commissioner of Internal Revenue assessed deficiencies against the petitioner for the years 1939, 1940, and 1941, arguing that the petitioner was taxable on all of the trust income because of her power to revoke the trusts. The petitioner appealed to the Tax Court. The assessment for 1939 was challenged as being barred by the statute of limitations, which depended on whether the unreported income exceeded 25% of the reported gross income.

    Issue(s)

    1. Whether the petitioner is taxable on the income of the five trusts created by her husband, given her power to revoke the trusts.

    2. Whether the assessment of the deficiency for 1939 is barred by the statute of limitations.

    Holding

    1. No, the petitioner is taxable on all income of the five trusts after deductions for charitable contributions; because the petitioner possessed the equivalent of ownership of the corpora of the trusts due to her power to cancel or revoke the trust at any time.

    2. No, the assessment of the deficiency for the year 1939 is not barred by the statute of limitations; because the amount of unreported income taxable to the petitioner is in excess of 25 percent of the reported gross income, and the notice of deficiency was mailed to the petitioner within five years after her return was filed.

    Court’s Reasoning

    The court reasoned that the power vested in the petitioner under paragraph 5 of the trusts, which granted her “full power and authority to cancel or revoke this trust at any time in whole or in part,” made her the equivalent of the owner of the trust corpora. The court relied on cases such as Richardson v. Commissioner, 121 F.2d 1 (where the husband had an unqualified right to revoke the trust); Ella E. Russell, 45 B.T.A. 397 (where the beneficiary could direct the trustees to pay her the principal); Jergens v. Commissioner, 136 F.2d 497 (where the beneficiary had power to alter, amend, or modify the trust or to revoke it); and Mallinckrodt v. Nunan, 146 F.2d 1 (where the beneficiary could request payment of the trust income). The court distinguished Plimpton v. Commissioner, 135 F.2d 482, where the taxpayer-beneficiary could only have certain income distributed to him “in the discretion of the trustees,” of which he was only one.

    Practical Implications

    This case emphasizes that the power to revoke a trust carries significant tax consequences. Even if a beneficiary receives distributions that would otherwise be considered gifts, the grantor who retains the power to revoke the trust will be taxed on the trust’s income. Attorneys should advise clients creating trusts that retaining such powers will likely result in the trust’s income being taxed to them, regardless of how the income is distributed. It clarifies that retaining the power to revoke a trust essentially equates to ownership for tax purposes, distinguishing it from situations where a beneficiary’s access to trust income is subject to the discretion of an independent trustee. The case confirms the IRS’s ability to assess deficiencies beyond the typical statute of limitations if unreported income exceeds 25% of gross income, highlighting the importance of accurate income reporting related to trusts.