[Federal Register Volume 62, Number 246 (Tuesday, December 23, 1997)]
[Rules and Regulations]
[Pages 66987-66989]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-33356]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Parts 25 and 602

[TD 8743]
RIN 1545-AU12


Sale of Residence From Qualified Personal Residence Trust

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations permitting the 
reformation of a personal residence trust or a qualified personal 
residence trust in order to comply with the applicable requirements for 
such trusts. The final regulations also provide that the governing 
instruments of such trusts must prohibit the sale of a residence held 
in the trust to the grantor of the trust, the grantor's spouse, or an 
entity controlled by the grantor or the grantor's spouse.

DATES: The regulations are effective December 23, 1997.

FOR FURTHER INFORMATION CONTACT: Lane Damazo (202) 622-3090 (not a 
toll-free number).

SUPPLEMENTARY INFORMATION:

Paperwork Reduction Act

    The collection of information contained in these final regulations 
has been reviewed and approved by the Office of Management and Budget 
in accordance with the Paperwork Reduction Act (44 U.S.C. 3507) under 
control number 1545-1485. Responses to this collection of information 
are required in order to ensure the proper collection of the gift tax.
    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless the collection of 
information displays a valid control number.
    The estimated annual burden per respondent/recordkeeper varies from 
3 hours to 3.25 hours, depending on individual circumstances, with an 
estimated average of 3.1 hours.
    Comments concerning the accuracy of this burden estimate and 
suggestions for reducing this burden should be sent to the Internal 
Revenue Service, Attn: IRS Reports Clearance Officer T:FP, Washington, 
DC 20224, and to the Office of Management and Budget, Attention: Desk 
Officer for the Department of the Treasury, Office of Information and 
Regulatory Affairs, Washington, DC 20503.
    Books or records relating to this collection of information must be 
retained as long as their contents may become material in the 
administration of any internal revenue law. Generally, tax returns and 
tax return information are confidential, as required by 26 U.S.C. 6103.

Background

    On April 16, 1996, the IRS published in the Federal Register a 
notice of proposed rulemaking (formerly PS-004-96) at 61 FR 16623. The 
IRS received written and oral comments on the proposed regulations and 
held a public hearing on July 24, 1996. This document adopts final 
regulations with respect to this notice of proposed rulemaking.
    Comments with respect to Sec. 25.2702-5(a)(2) indicated that the 
procedure permitting reformation of trust instruments will be helpful 
to taxpayers and practitioners. It was suggested that an additional 
reformation period be made available for trusts for which the gift tax 
return due date had passed before the regulations became effective. 
Accordingly, under the final regulations, the trustees of trusts 
created before January 1, 1997, are granted a 90-day period after these 
regulations become final in which to reform the trust.
    Some of the comments concerning the amendments to Sec. 25.2702-5(b) 
and (c) agreed that the restrictions in the proposed regulations on the 
sale of the personal residence after the termination of the grantor's 
retained interest in a personal residence trust or a qualified personal 
residence trust further the intent of Congress in enacting section 
2702(a)(3)(A)(ii). Other comments stated that the restrictions were not 
supported by the statute. Treasury and the IRS continue to believe that 
these regulations are consistent with the intent of Congress and carry 
out the purpose of the personal residence exception to section 2702.
    Other comments suggested that the final regulations should contain 
an exception permitting the sale of the residence to the grantor if the 
need arises. Treasury and the IRS believe, however, that a rule of this 
nature is not necessary, since a grantor may lease the residence after 
the retained term from a trust or individual to which the

[[Page 66988]]

residence passes after the expiration of the initial term. The right to 
lease the residence may be expressly set forth in the trust document 
creating the personal residence trust. If the residence is leased for 
its fair market value rental, the grantor will not retain the economic 
benefit of the property for purposes of section 2036(a), since the 
grantor will be paying adequate consideration for the use of the 
property. However, if the residence is leased from a trust that is a 
grantor trust with respect to the grantor, the IRS under some 
circumstances may contend that the grantor has retained the economic 
benefit of the property.
    Commentators raised a concern that because the regulations prohibit 
the transfer of the residence to the grantor, or the grantor's spouse, 
etc., the trust could not provide for a reversionary interest or a 
testamentary power of disposition, taking effect at the grantor's death 
prior to the expiration of the trust term, nor could the trust provide 
for a remainder interest in fee for the grantor's spouse (e.g., 
remainder outright to spouse, or remainder to child, but if child 
predeceases termination of the trust, then to spouse.) The final 
regulations permit dispositions to the spouse.
    Finally, commentators objected to the statement in the preamble to 
the proposed regulations to the effect that if the IRS finds a pre-
effective date trust to be inconsistent with the purposes of section 
2702, the IRS, by established legal doctrines, may treat the trust as 
non-qualifying. Treasury and the IRS wish to clarify that the IRS will 
apply these regulations only to post-effective date trusts. 
Nevertheless, Treasury and the IRS have the authority to apply 
established legal doctrines to disqualify a pre-effective date trust in 
cases where the statutory purpose has clearly been violated.

Special Analyses

    It has been determined that this Treasury decision is not a 
significant regulatory action as defined in EO 12866. Therefore, a 
regulatory assessment is not required. It has also been determined that 
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) 
does not apply to these regulations, and, because these regulations do 
not impose on small entities, a collection of information requirement, 
the Regulatory Flexibility Act (5 U.S.C. chapter 6), does not apply. 
Therefore, a Regulatory Flexibility Analysis is not required. Pursuant 
to section 7805(f) of the Internal Revenue Code, the Notice of Proposed 
Rulemaking preceding these regulations was submitted to the Small 
Business Administration for comment on their impact on small business.

Drafting Information

    The principal author of these regulations is Dale Carlton, Office 
of the Chief Counsel, IRS. Other personnel from the IRS and Treasury 
Department participated in their development.

List of Subjects

26 CFR Part 25

    Gift taxes, Reporting and recordkeeping requirements.

26 CFR Part 602

    Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

    Accordingly, 26 CFR part 25 is amended as follows:

PART 25--GIFT TAX; GIFTS MADE AFTER DECEMBER 31, 1954

    Paragraph 1. The authority citation for part 25 continues to read 
in part as follows:

    Authority: 26 U.S.C. 7805 * * * 

    Par. 2. Section 25.2702-5 is amended as follows:
    1. Paragraph (a) heading and text are redesignated as paragraph 
(a)(1) heading and text and paragraph (a)(2) is added.
    2. In paragraph (b)(1), five sentences are added after the third 
sentence.
    3. Paragraph (c)(5)(ii)(C) is revised.
    4. Paragraph (c)(9) is added.
    The additions and revisions read as follows:


Sec. 25.2702-5  Personal residence trusts.

    (a) * * *
    (2) Modification of trust. A trust that does not comply with one or 
more of the regulatory requirements under paragraph (b) or (c) of this 
section will, nonetheless, be treated as satisfying these requirements 
if the trust is modified, by judicial reformation (or nonjudicial 
reformation if effective under state law), to comply with the 
requirements. In the case of a trust created after December 31, 1996, 
the reformation must be commenced within 90 days after the due date 
(including extensions) for the filing of the gift tax return reporting 
the transfer of the residence under section 6075 and must be completed 
within a reasonable time after commencement. If the reformation is not 
completed by the due date (including extensions) for filing the gift 
tax return, the grantor or grantor's spouse must attach a statement to 
the gift tax return stating that the reformation has been commenced or 
will be commenced within the 90-day period. In the case of a trust 
created before January 1, 1997, the reformation must be commenced 
within 90 days after December 23, 1997 and must be completed within a 
reasonable time after commencement.
    (b) * * * (1) * * * In addition, the trust does not meet the 
requirements of this section unless the governing instrument prohibits 
the trust from selling or transferring the residence, directly or 
indirectly, to the grantor, the grantor's spouse, or an entity 
controlled by the grantor or the grantor's spouse, at any time after 
the original duration of the term interest during which the trust is a 
grantor trust. For purposes of the preceding sentence, a sale or 
transfer to another grantor trust of the grantor or the grantor's 
spouse is considered a sale or transfer to the grantor or the grantor's 
spouse; however, a distribution (for no consideration) upon or after 
the expiration of the original duration of the term interest to another 
grantor trust of the grantor or the grantor's spouse pursuant to the 
express terms of the trust will not be considered a sale or transfer to 
the grantor or the grantor's spouse if such other grantor trust 
prohibits the sale or transfer of the property to the grantor, the 
grantor's spouse, or an entity controlled by the grantor or the 
grantor's spouse. In the event the grantor dies prior to the expiration 
of the original duration of the term interest, this paragraph (b)(1) 
does not apply to the distribution (for no consideration) of the 
residence to any person (including the grantor's estate) pursuant to 
the express terms of the trust or pursuant to the exercise of a power 
retained by the grantor under the terms of the trust. Further, this 
paragraph (b)(1) does not apply to any outright distribution (for no 
consideration) of the residence to the grantor's spouse after the 
expiration of the original duration of the term interest pursuant to 
the express terms of the trust. For purposes of this paragraph (b)(1), 
a grantor trust is a trust treated as owned in whole or in part by the 
grantor or the grantor's spouse pursuant to sections 671 through 678, 
and control is defined in Sec. 25.2701-2(b)(5)(ii) and (iii). * * *
* * * * *
    (c) * * *
    (5) * * *
    (ii) * * *
    (C) Sale proceeds. The governing instrument may permit the sale of 
the residence (except as set forth in paragraph (c)(9) of this section) 
and may permit the trust to hold proceeds from

[[Page 66989]]

the sale of the residence, in a separate account.
* * * * *
    (9) Sale of residence to grantor, grantor's spouse, or entity 
controlled by grantor or grantor's spouse. The governing instrument 
must prohibit the trust from selling or transferring the residence, 
directly or indirectly, to the grantor, the grantor's spouse, or an 
entity controlled by the grantor or the grantor's spouse during the 
retained term interest of the trust, or at any time after the retained 
term interest that the trust is a grantor trust. For purposes of the 
preceding sentence, a sale or transfer to another grantor trust of the 
grantor or the grantor's spouse is considered a sale or transfer to the 
grantor or the grantor's spouse; however, a distribution (for no 
consideration) upon or after the expiration of the retained term 
interest to another grantor trust of the grantor or the grantor's 
spouse pursuant to the express terms of the trust will not be 
considered a sale or transfer to the grantor or the grantor's spouse if 
such other grantor trust prohibits the sale or transfer of the property 
to the grantor, the grantor's spouse, or an entity controlled by the 
grantor or the grantor's spouse. In the event the grantor dies prior to 
the expiration of the retained term interest, this paragraph (c)(9) 
does not apply to the distribution (for no consideration) of the 
residence to any person (including the grantor's estate) pursuant to 
the express terms of the trust or pursuant to the exercise of a power 
retained by the grantor under the terms of the trust. Further, this 
paragraph (c)(9) does not apply to an outright distribution (for no 
consideration) of the residence to the grantor's spouse after the 
expiration of the retained trust term pursuant to the express terms of 
the trust. For purposes of this paragraph (c)(9), a grantor trust is a 
trust treated as owned in whole or in part by the grantor or the 
grantor's spouse pursuant to sections 671 through 678, and control is 
defined in Sec. 25.2701-2(b)(5)(ii) and (iii).
* * * * *
    Par. 3. Section 25.2702-7 is amended as follows:
    1. The first sentence is revised.
    2. A sentence is added at the end of the section.
    The revision and addition read as follows:


Sec. 25.2702-7  Effective dates.

    Except as provided in this section, Secs. 25.2702-1 through 
25.2702-6 apply as of January 28, 1992. * * * The fourth through eighth 
sentences of Sec. 25.2702-5(b)(1) and Sec. 25.2702-5(c)(9) apply with 
respect to trusts created after May 16, 1996.

PART 602--OMB CONTROL NUMBERS UNDER THE PAPERWORK REDUCTION ACT

    Par. 4. The authority citation for part 602 continues to read as 
follows:

    Authority: 26 U.S.C. 7805.

    Par. 5. In Sec. 602.101, paragraph (c) is amended by adding an 
entry in numerical order to the table to read as follows:


Sec. 602.101  OMB Control numbers.

* * * * *
    (c) * * *

                                                                        
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                                                             Current OMB
     CFR part or section where identified and described      control No.
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25.2702-5..................................................    1545-1485
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Michael P. Dolan,
Acting Commissioner of Internal Revenue.

    Approved: December 4, 1997.
Donald C. Lubick,
Acting Assistant Secretary of the Treasury.
[FR Doc. 97-33356 Filed 12-22-97; 8:45 am]
BILLING CODE 4830-01-U