Grantor Trusts and Powers to Revoke

Exploring IRC Section 676

Table of Contents

1. Where We Left Off

2. Powers to Revoke, Versus Revocable Trusts

3. Key Parties

4. Interactions Between Powers

5. Termination of Right to Revoke, and ING Trusts

6. Rights of Reversion, Versus 676(b)

7. Key Points for Practitioners

Where We Left Off

In prior discussions, we covered the substitution power – which can perhaps best be described as a two-way power. The grantor can reacquire property in the trust, but only by substituting property of equivalent value.

What if, however, the grantor could reacquire trust property without substituting equivalent value (a one-way power)? Might this still create a grantor trust? And, in the process, might it put us into odd territory with several shades of gray?

This is where IRC Section 676 enters the picture, which as we will discuss usually causes rights to revoke a trust to be a grantor trust power. For purposes of this article, we will occasionally reframe this right to revoke as a right to revest consistent with the statutory language of IRC Section 676(a):

The grantor shall be treated as the owner of any portion of a trust, whether or not he is treated as such owner under any other provision of this part, where at any time the power to revest in the grantor title to such portion is exercisable by the grantor or a non-adverse party, or both.

Powers to Revoke, Versus Revocable Trusts

Often, it is assumed that any “revocable” trust is a grantor trust under IRC Section 676(a). This is mostly accurate, but it is also important to remember that the grantor trust rules were initially created in order to solve certain pre-1986 income-shifting abuses. What passes as “revocability” in common estate planning nomenclature often refers to the ability to revoke or change the terms of a trust. However, true revocability as reflected in the grantor trust rules looks to the ability of the grantor, or even a non-adverse party, to revest title to a “portion” of a trust in the grantor under IRC Section 676(a).

It is important to recognize that it is possible for a grantor to hold a 676(a) power over what might be traditionally known as an irrevocable trust. What truly constitutes a power to “revoke” is often taken for granted when we compare state-level property law to what the grantor trust rules expressly provide. In fact, it may be possible under modern trust law for a non-adverse party, or even a grantor, to unintentionally hold what might otherwise be considered a power to revoke under IRC Section 676(a). If we dig into Treas. Reg. 1.676(a)-1, we find that:

If the title to a portion of the trust will revest in the grantor upon the exercise of a power by the grantor or a nonadverse party, or both, the grantor is treated as the owner of that portion regardless of whether the power is a power to revoke, to terminate, to alter or amend, or to appoint.

It is also important to note that the grantor trust rules, and in particular IRC Section 676(a), speak to the possibility that the grantor may be the deemed income tax owner of only a portion of the trust. This further highlights the possibility of a power to “revoke” being created under a trust instrument that is otherwise created (or intended to be created) as an irrevocable trust.

In other words, even if a power to “revoke” is not present, other powers present in the trust might be recast as rights to “revest” a portion of the trust in the grantor. This can, in a sense, allow the Service to wield 676 as a “backup” grantor trust power.