IRS Acts to Put a Stop to Type of ‘Abusive’ Charitable Trust

The Internal Revenue Service has moved to shut down a controversial form of charitable remainder trust that is designed to help wealthy donors avoid paying capital-gains taxes on assets that have appreciated in value.

The technique, nicknamed a “chutzpah” or “full Monty” trust for its brash approach to using charitable trusts to shelter assets from taxes, has been marketed mainly by for-profit financial planners and accounting companies, according to the National Committee on Planned Giving (The Chronicle, July 15).

In regulations it proposed last month, the I.R.S. said that the trusts are “no less abusive” than so-called accelerated charitable remainder trusts, which Congress effectively stopped several years ago. Promoters of those trusts promised donors that they could quickly recoup most of their trust principal largely tax-free by manipulating the timing of payments to donors or to the people designated as beneficiaries.

Chutzpah trusts use complicated borrowing or similar techniques in an effort to help donors reduce capital-gains taxes on highly appreciated assets. Donors contribute the assets to a charitable trust, which in turn obtains money from a third party and uses it to pay the donor.

Promoters of the plans have argued that the payments to donors can be largely tax-free because the trust has had little or no income. The reason for that, they have said, is that the trust has borrowed the money being paid to the donor or obtained it through similar means.

The proposed rules effectively ignore such arguments and treat the payout as a sale of assets that is subject to capital-gains taxes.

The new regulations would apply to payouts made to donors after October 18, 1999. But the I.R.S. said it might challenge transactions made before that date. The tax service also noted that under some circumstances, it could impose a penalty under rules that bar people from using a charitable trust for private benefit. The service also said that some trusts could have taxable unrelated-business income.

Reaction to the proposed regulations was favorable among estate-planning experts who have worried that questionable arrangements like the chutzpah trust could lead the I.R.S. to impose harsh rules on many forms of giving.

“It seems they’ve done a nice job of trying to address the problem without impacting other forms of gifts,” said Reynolds Cafferata, a Los Angeles estate-planning lawyer.

The regulations appeared in the October 21 issue of the Federal Register, Pages 56718 to 56720. (The full text of the regulations is available.)

Comments on the I.R.S. proposal may be submitted to CC:DOM: CORP:R (REG-116125-99), Room 5226, Internal Revenue Service, POB 7604 Ben Franklin Station, Washington 20044.

Comments also may be sent to the I.R.S. electronically by following the instructions on the revenue service’s Web site at http://www.irs.ustreas.gov/tax_regs/regslist. html.