An individual recently raised the question to me as to whether a disclaimer that results in funds passing to a donor-advised fund from a decedent’s estate where the disclaimant is an advisor to the fund constitutes a “qualified disclaimer” under IRC § 2518. The individual expressed concerns that the disclaimant’s ability to recommend distributions from the donor-advised fund to various charities in the capacity as advisor to the fund might be sufficient to cause the disclaimant to be considered to control the disclaimed funds, thereby disqualifying the disclaimer from “qualified disclaimer” status.
As further discussed below, I explained that unlike in the case of a private foundation, where an officer or director has the legal authority to direct distributions to charity, an advisor to a donor-advised fund can only make recommendations regarding distributions to charity, subject to the ultimate approval of the sponsoring organization of the donor-advised fund. As a result, the ultimate authority regarding distributions from the donor-advised fund rests in the hands of the sponsoring organization of the donor-advised fund, not the advisor. The fact that the disclaimant is an advisor to the donor-advised fund will not disqualify the disclaimer from qualified disclaimer status. Therefore, where a testator leaves the residue of his or her estate to a donor-advised fund, individual beneficiaries who disclaim assets that are then passed to the donor-advised fund can serve as advisors to the fund, without disqualifying the disclaimer from qualified disclaimer status under IRC § 2518. This should be contrasted from the situation where the disclaimer causes assets to pass to a private foundation, in which case the disclaimant cannot have any say over the disposition of the disclaimed assets.
Background on Disclaimers Resulting in Funds Passing to Charity
In many cases, where a charity is a residuary beneficiary under a decedent's will or revocable trust or would otherwise receive property under a decedent’s will or revocable trust if a particular noncharitable beneficiary is not living at the time of the decedent’s death, a noncharitable beneficiary may desire to disclaim an interest in property, so that the property will pass to the charity instead. A will or revocable trust of a decedent will often have a specific disclaimer provision designating a charity to receive a disclaimed interest in property otherwise passing to a noncharitable beneficiary, such as “if my daughter disclaims any interest in property otherwise passing to her, the disclaimed interest shall instead pass to the ABC charity.” A disclaimer may also be used with respect to interests outside the probate process, including interests in life insurance and employee benefit plans where, for example, a charity is named as the contingent successor beneficiary. Although the disclaimer is a “post-mortem” planning device, it clearly should be considered in advance (although it often is not), as it allows it allows decedents to give their heirs the flexibility to determine whether they need assets long after a will or revocable trust is drafted when circumstances may have changed. Provided the disclaimer is considered a “qualified disclaimer,” IRC § 2518(a) will treat the disclaimed interest as passing directly to the charity for estate purposes, and not from the disclaimant, thereby ensuring the availability of an estate charitable deduction under IRC § 2055. Thus, the disclaimed interest is treated as if it had never been transferred to the person making the qualified disclaimer.
Example:
John Jones leaves his $10 million art collection to his son, David, and if David is not alive on John's death, the art collection passes to the ABC Art Museum, an IRC § 501(c) tax-exempt organization. If David makes a “qualified disclaimer” with respect to his interest in the art collection under his father's will, the collection will be considered to pass directly from the estate to the ABC Museum, in which case an estate tax charitable deduction will be available under IRC § 2055. If the disclaimer is not a qualified disclaimer, the property would still pass to the museum, but for estate tax purposes, the collection would be considered to pass to David first and then to the museum. In such a case, the estate would not be entitled to an estate tax charitable deduction, although David would be entitled to a gift tax charitable deduction (and be eligible for a charitable income tax deduction). The loss of the estate tax charitable deduction would cause the imposition of significant estate taxes given that the $10 million art collection would be included in the decedent’s estate.
To be a “qualified disclaimer,” the disclaimer must be an irrevocable and unqualified refusal by a person to accept an interest in property, and under IRC § 2518(b):
If the foregoing requirements are not met, the disclaimant will be deemed to have received the assets and to have made a taxable gift to the person receiving the assets as a result of the disclaimer.
Background on Disclaimers Resulting in Funds Passing to a Private Foundation Where Disclaimant is an Officer or Director
Regulation § 25.2518-2(d)(2) provides that if a beneficiary who disclaims an interest in property is also a fiduciary, that person cannot retain a wholly discretionary power to direct the enjoyment of the disclaimed interest. For example, a disclaimer by a beneficiary who is also a fiduciary would not meet the requirements of a qualified disclaimer if the fiduciary retains a discretionary power to allocate enjoyment of that interest among members of a designated class. Regulation § 25.2518-2(e)(1)(i) provides that the requirements for a qualified disclaimer will not be satisfied if the disclaimant, either alone or in conjunction with another, directs the redistribution or transfer of the property or interest in property to another person or has the power to direct the redistribution of the property or interest in property to another person, unless such power is limited by an ascertainable standard. Thus, where a disclaimer of an interest in property results in the disclaimed interest passing to a family private foundation, a “qualified disclaimer” will not result where the disclaimant continues to control the disclaimed property by virtue of his or her official position with respect to the foundation. Where, however, the private foundation takes steps to ensure that funds received by the foundation as a result of an otherwise qualified disclaimer will not be subject to any wholly discretionary power on the part of the disclaimant to direct the distribution of the funds, the disclaimer will be a qualified disclaimer. Ltr. Rul. 200420007 demonstrates this point. In this ruling, the disclaimer resulted in a private foundation receiving funds; however, the disclaimant was one of the current directors and officers of the foundation. As a result of his position with the foundation, the disclaimant would have otherwise had discretionary power over the disclaimed funds after the disclaimer, thereby causing the disclaimer not to be a qualified disclaimer. To avoid disqualification as a qualified disclaimer, the private foundation adopted the following bylaw provision:
Section 1. Special Fund Committee.
a. The Board shall create a “Special Fund Committee” to determine the disposition of any assets of the Corporation held in each “Special Fund” created under the provisions of Section 3 of Article VII. Any person may serve on the Special Fund Committee, except for a Disqualified Person.
b. A “Disqualified Person” with respect to any particular Special Fund Committee is any person who has made a disclaimer of property that, as a result of the disclaimer, was transferred to such Special Fund.
c. Notwithstanding anything herein to the contrary, no Member or Director who is a Disqualified Person with respect to a particular Special Fund may participate in any vote relating to the appointment, removal, or compensation of any member of the Special Fund Committee of the Special Fund.
As a result of the adoption of the bylaw provision by the private foundation, the IRS ruled that the disclaimer was a “qualified disclaimer” and that the estate was entitled to a charitable deduction under IRC § 2055. Letter Ruling 200420007 also cited Rev. Rul. 72-552, which has been cited in a number of other letter rulings, which have concluded that the value of the assets of a CLT will not be includable in the grantor's gross estate, even where the income is paid to a private foundation with respect to which the grantor is a director or trustee, as long as those funds are isolated and the grantor does not participate in decisions as to distribution of those funds, or where the grantor resigns his positions with the foundation before funding the lead trust. Similarly, Rev. Rul. 72-552 has been cited in other letter rulings involving IRC § 2518disclaimer issues where a named beneficiary under a will disclaims his or her interest in favor of a family private foundation. Similar to the conclusion in Ltr. Rul. 200420007, those rulings have held that where the property disclaimed is held in a segregated account of the foundation over which the person making the disclaimer has no power, the disclaimer will be a qualified disclaimer under IRC § 2518.
Disclaimers Resulting in Funds Passing to a Donor-Advised Fund Where Disclaimant is an Advisor to the Fund
In Ltr. Rul. 200518012, during her lifetime, the decedent had established a donor-advised fund at a sponsoring IRC § 501(c)(3) public charity during pursuant to a donor-advised fund agreement. The agreement provides that the public charity shall have ultimate authority and control over distributions from the donor-advised fund and that each advisor to the donor-advised is to serve in an advisory capacity only in accordance with the policies established by the charity for donor-advised funds. The advisors may make nonbinding recommendations to the public charity concerning the proposed disposition from the donor-advised fund. The ruling stated that the public charity manages a large number of donor-advised funds and under established procedures, after receiving a distribution recommendation, a member of the staff of the charity will assemble the relevant information regarding the proposed distribution. That information is then referred to a committee of the staff (not including the staff member that assembled the background information) consisting of three staff members. That committee makes a report as to whether the proposed distribution is consistent with the specific charitable needs most deserving of support by the charity. A favorable report is then referred to the Board of Directors of the charity, which then acts upon the committee's report and allocates funds in accordance with its regular grant-making procedures.
At her death, the decedent bequeathed her tangible personal property, in equal shares to her surviving grandchildren. However, under the applicable testamentary document, in the event that a grandchild disclaimed any portion of such gift, the portion disclaimed was to be distributed to the public charity to be used to establish a donor-advised fund named for such disclaimant under an agreement establishing the fund. During his or her lifetime, the disclaimant grandchild was to serve as the advisor to his or her donor-advised fund. In the ruling, it was proposed that the grandchildren would execute written disclaimers otherwise qualifying under IRC § 2518, such that such property (and the subsequent proceeds from the sale thereof) would be held in a donor-advised fund for which the disclaimant would serve as the advisor, thereby making recommendations regarding distributions from the fund to various charities.
The ruling requested that the IRS rule that the disclaimer by the grandchildren would constitute a qualified disclaimer, such that the estate of decedent would be entitled to an estate tax charitable deduction for any property disclaimed by a the grandchildren which passes to a donor-advised fund at the public charity. The IRS ruled that the disclaimer by the grandchildren was in fact a qualified disclaimer, stressing the fact the grandchildren had could only make advisory recommendations regarding distributions from their respective donor-advised funds that received the disclaimer property:
Each disclaimant may only make advisory recommendations to [the public charity] with respect to proposed distributions of property. Such recommendations may be accepted or rejected by the [public charity]. The final decision regarding distribution of the funds is made by [the public charity] pursuant to clearly defined procedures that require an independent determination that the proposal is consistent with the charitable goals of [the public charity].
Accordingly, the IRS ruled that any property that is disclaimed by the grandchildren that passes to a donor-advised will be considered to pass directly to the public charity and, assuming the other requirements of IRC § 2518 are satisfied, the proposed disclaimers by the grandchild would constitute qualified disclaimers under IRC § 2518.
A similar conclusion was reached in Ltr. Rul. 9532027, where a father provided for property held in trust to pass to his two sons at his death, or if they predeceased him, to their children. Under the terms of the trust, however, if either son disclaimed his interest, his share of the property disclaimed was to be distributed to a donor-advised fund the decedent had established at a community foundation, and the disclaiming son was permitted to serve as the advisor with respect to grants from the fund. One of the sons was a member of the community foundation’s board of directors, but he could not vote on distributions from the fund he advised, but had to abstain from such a vote. The IRS ruled that the disclaimers by the sons constituted qualified disclaimers even though the sons could make recommendations to the community foundation regarding distributions from the fund that received the disclaimed property. The IRS concluded that neither disclaimant had the power to direct the redistribution, because any grant recommendations were merely advisory in nature, stating that the “sons may only make advisory recommendations” and that “[s]uch recommendations may be accepted or rejected by the foundations.” Accordingly, any property disclaimed by either son that passed to a donor-advised fund was considered to be made pursuant to a qualified disclaimer.
Copyright © Richard L. Fox 2014.
About the Author
Richard L. Fox, Esq. is a partner in the Philadelphia-based law firm of Buchanan Ingersoll & Rooney. He concentrates his practice in the areas of charitable giving, private foundations, tax-exempt organizations, estate planning, trusts and estates, and family planning. Mr. Fox is the author of the treatise, Charitable Giving; Taxation, Planning and Strategies, a Warren, Gorham and Lamont publication, writes a national bulletin charitable giving, and writes and speaks frequently on issues pertaining to nonprofit organizations, estate planning and philanthropy. See More
An individual recently raised the question to me as to whether a disclaimer that results in funds passing to a donor-advised fund from a decedent's estate where the disclaimant is an advisor to the fund constitutes a "qualified disclaimer" under IRC Section 2518. The individual expressed concerns that the disclaimant's ability to recommend distributions from the donor-advised fund to various charities in the capacity as advisor to the fund might be sufficient to cause the disclaimant to be considered to control the disclaimed funds, thereby disqualifying the disclaimer from "qualified disclaimer" status.
