President Obama signed the Surface Transportation and Veterans Health Care Choice Improvement Act of 2015 (the Act) into law on July 31, 2015.1 The Act was effective immediately and affects all United States Estate (and Generation-Skipping Transfer) Tax Returns (Form 706) filed after July 31, 2015. Section 2004 of the Act added a new subsection (f) to Internal Revenue Code Section 1014, added a new Section 6035 to the IRC and amended IRC Sections 6662 and 6724.
Summary of Statutory Provisions
IRC Section 1014(f)(1) provides that the basis of property acquired or having passed from a decedent shall not exceed the final value of such property as determined for estate tax purposes or, if the final value hasn’t been determined, the value of that property as reported on a statement furnished under new Section 6035. The mandate of Section 1014(f)(1) applies, however, only to property whose inclusion in the decedent’s estate increases estate tax liability.2
Section 6035(a) imposes reporting requirements on those who are required to file an estate tax return. If an estate tax return must be filed under IRC Section 6018,3 the reporting party must also provide a statement4 to the Internal Revenue Service and to each person acquiring any interest in property included in the decedent’s gross estate identifying the value of each interest in such property as reported on the return. Such a statement must be furnished at the time prescribed in regulations but no later than the earlier of: (1) 30 days after the estate tax return’s due date (including extensions, if any); or (2) 30 days after the estate tax return is filed.5 If valuation or other adjustments are made after a statement is filed, a supplemental statement must be filed within
30 days of the date of the adjustment.6
There’s a peculiar mismatch between the scope of Section 1014(f) and the associated reporting requirements of Section 6035. The Section 6035 reporting requirements are triggered in all cases in which the value of the estate exceeds the Section 6018 threshold, but, if a given estate (regardless of its aggregate value) generates no estate tax liability,7 Section 1014(f) is entirely inapplicable, and so the Section 6035 reporting requirements serve no substantive purpose.
Proposed Regulations
On March 4, 2016, the Department of the Treasury published in the Federal Register proposed regulations providing guidance regarding the basis consistency and information reporting rules of Sections 1014(f) and 6035.8 The proposed regulations, when published as final regulations, will apply to property acquired from a decedent or by reason of the death of a decedent whose estate tax return required by Section 6018 is filed after July 31, 2015. Unfortunately, the proposed regulations contain a few exceptionally onerous and problematic provisions as summarized below.
Zero Basis Rules
Proposed Regulations Section 1.1014-10(c)(3) provides rules regarding determination of the final value of property for purposes of establishing its basis under Section 1014(f). Regarding the final value of property that was discovered after the estate tax return was filed or was otherwise omitted, Prop. Regs. Section 1.1014-10(c)(3)(i)(B) sets out a hard and fast rule that, if such property isn’t reported on an initial or supplemental estate tax return before expiration of the period of limitation on assessment of estate tax, the final value of such property is zero—without regard to the basis of such property in the hands of the decedent and without regard to whether inclusion of such property in the estate would increase estate tax liability. In a similar but not identical manner, if an estate tax return required by Section 6018 isn’t filed, Prop. Regs. Section 1.1014-10(c)(3)(ii) states that the final value of all property that would’ve generated estate tax is zero until an estate tax return reporting such property is filed and its value is determined in estate tax proceedings—again, without taking into consideration the basis of such property immediately before the decedent’s death. In cases in which no fraud is involved, these zero basis rules are unreasonably harsh and punitive, and, in any event, innocent beneficiaries are left to suffer the consequences. The zero basis rules should be scrapped.
All Property Rule
Prop. Regs. Section 1.6035-1(c)(3) provides that, if the executor hasn’t determined, by the due date prescribed for furnishing the statement required by Section 6035(a),9 what property will be used to satisfy each beneficiary’s interest in the estate, the executor must report on the statement for each beneficiary all of the property that under any conceivable circumstance could be used to satisfy that beneficiary’s interest. This proposed rule puts undue pressure on an executor, particularly when administering a large estate, to make decisions within a very short period of time about which beneficiaries will receive particular assets. It might be argued that the rule is compelled by the underlying statute,10 but the answer to such an argument lies in IRC Section 6081, which confers on the Treasury Secretary the power to “grant reasonable extensions of time for filing any return, declaration, statement, or other document…”11 Indeed, the IRS could offer a mechanism enabling executors to obtain an automatic extension of time to furnish the Section 6035(a) statement.12 When Prop. Regs. Section 1.6035-1(c)(3) is finalized, it should articulate the ready availability of extensions of time to provide the statement.
Subsequent Transfers Rules
Regarding property reported or required to be reported within a Section 6035(a) statement, Prop. Regs. Section 1.6035-1(f) states that, if the recipient of such property from the estate distributes or transfers13 such property to a “related transferee,”14 the recipient must, within 30 days thereafter, file with the IRS a supplemental statement and provide a copy to the transferee. If the transfer of property occurs before the property’s final value has been determined in the decedent’s estate tax proceedings, the recipient must provide the executor with a copy of the supplemental statement, and, then, when the final value of the property has been determined, the executor is to provide yet another statement to the transferee. Thus, under this regime, completely untethered from Section 6035, the transferee receives conflicting statements—one from the recipient and another from the executor of an estate of which the transferee isn’t a beneficiary. If such subsequent transfer rules are to be implemented, they should originate in statutory language—not be regulated into existence without foundation.
What to Do?
The proposed regulations were published seven months after the effective date of the Act. In the ensuing six years, IRS officials have stated publicly numerous times their intention to finalize the basis consistency rules “soon” or by particular dates that passed long ago. Additionally, the IRS’ Priority Guidance Plan for every year since 2017 has stated the IRS’ intention to issue final regulations under Sections 1014(f) and 6035. If it takes the IRS more than six years to produce final regulations it considers a “priority,” when does the IRS feel obligated to complete its routine projects?
While we continue to wait on final basis consistency regulations, it should be remembered that proposed regulations, as such, unlike final regulations, absolutely don’t have the force of law.15 Thus, taxpayers can’t be penalized in any way for failing to follow them, and it may be contended that the portions of the proposed regulations discussed above don’t deserve to be followed. That said, the underlying statutory provisions, Sections 1014(f) and 6035, obviously do have the force of law and must be respected and followed. Executors should interpret and implement those provisions reasonably and do their very best to adhere to the statutory directives.
Endnotes
1. Public Law 114-41.
2. Internal Revenue Code Section 1014(f)(2).
3. Under IRC Section 6018(a), the executor is required to file if the gross estate exceeds the basic exclusion amount plus adjusted taxable gifts made by the decedent after Dec. 31, 1976. Under Section 6018(b), if the executor is unable to make a complete return, recipients or beneficiaries of the decedent’s property may be required to file.
4. Form 8971, Schedule A.
5. IRC Section 6035(a)(3)(A).
6. Section 6035(a)(3)(B).
7. Because of the estate tax marital or charitable deduction, for example.
8. REG-127923-15.
9. See Section 6035(a)(3) and Proposed Regulations Section 1.6035-1(d)(1).
10. Section 6035(a)(3)(A).
11. IRC Section 6081(a).
12. See, e.g., Form 4768.
13. In a transaction in which a related transferee determines its basis, in whole or in part, by reference to the recipient’s basis.
14. A “related transferee” means any member of the transferor’s family as defined in IRC Section 2704(c)(2), any controlled entity as defined in IRC Section 2710(b)(2) and any trust of which the transferor is a deemed owner for income tax purposes. Prop. Regs. Section 1.6035-1(f).
15. Zinniel v. Commissioner, 883 F.2d 1350 (7th Cir. 1989), aff’g 89 T.C. 357 at 369 (proposed regulations “carry no more weight than a position advanced on brief” (quoting F.W. Woolworth Co. v. Comm’r, 54 T.C. 1233, 1265 (1970)); see also LeCroy Research Sys. Corp. v. Comm’r, 751 F.2d 123, 127 (2d Cir. 1984). (“Proposed regulations are suggestions made for comment; they modify nothing.”)