2514(e) Crummey Powers: The Ultimate Guide to Form 709

Examining a third alternative structure of Crummey power

This is a continuation of the series on preparing Form 709. For the first article in this series and a series index, click here.

Table of Contents:

1. Intro and Recap

2. Gift Tax Annual Exclusion

3. Spousal ETIP Rule

4. Taxable Distribution Rule

5. Conclusion

Intro and Recap

In prior discussions on Crummey powers, we have visited a common problem.  Crummey powers are created to maximize the gift tax annual exclusion, currently $18,000 per donee.  But, getting there with a transfer to a discretionary trust requires a temporary override of the trustee’s discretion in the form of a withdrawal right.  Since the purposes of the trust require this window to be temporary, this means the withdrawal right cannot last forever.  Unfortunately, when this withdrawal right goes away, whether by lapse of time or by affirmative release, this is treated as a gift from the holder of the withdrawal right to the other trust beneficiaries. 

There is one exception, however – there is no “deemed” gift if the withdrawal right does not completely go away by lapse of time.  (We don’t avoid deemed gift treatment for most affirmative releases of the withdrawal right before this lapse of time.)  The problem is that the portion for which there is no deemed gift treatment is usually smaller than the gift tax annual exclusion.  Under IRC Section 2514(e), this amount is limited to (1) $5,000, or if greater, (2) 5% of the total amount which could have been withdrawn (except as we will explore below with a spousal withdrawal right).  

Even if everything I write confuses you, we can agree on one point - $18,000 is greater than $5,000.  The last two articles on Crummey powers have discussed what we do with this $13,000 spread – primarily from a GST tax perspective. 

The most frequent choice is a hanging power, in which case the withdrawal right continues with respect to this excess $13,000.  If, in the following calendar year there is another gift subject to a Crummey right, we would add up to an additional $18,000 (using the current gift tax annual exclusion).  At that point, the beneficiary can withdraw up to $31,000 (the $13,000 carried over plus the new $18,000).  Then, at the end of year 2, $5,000 of this $31,000 would lapse – leaving $26,000 to carry over to the next year.  The amount that can be withdrawn would then continue to build up, net of a $5,000 lapse each year, until it exceeds $100,000, at which point the higher annual lapse limitation – 5% - would kick in until the cumulative withdrawal right drops back down below $100,000. 

Notwithstanding the lapse portion, we must allocate $18,000 of GST exemption to each such withdrawal right.

Alternatively, instead of allowing a cumulative withdrawal right to build up for the general principal of the trust, we can isolate these lapses – using a separate share trust for the sole lifetime benefit of the Crummey power holder, coupled with a limited or general power of appointment to create inclusion in the power holder’s gross estate.  This avoids deemed gift treatment, while also allowing a switch back to a discretionary trust structure (which can be of benefit in states where creditor protection for a withdrawal right is limited to the gift tax annual exclusion), while also avoiding the need to allocate GST exemption to the transfers subject to each withdrawal right (as such rights, to the extent of the gift tax annual exclusion, are automatically assigned an inclusion ratio of zero).

What if, however, there was a way to avoid all of these headaches?  What if we were to just limit the withdrawal right to $5,000, or 5% of a contribution amount?  Perhaps that would create a little more certainty.  But, there are a few problems that arise with such a limited power - especially when there is a spousal beneficiary.