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Sales to Grantor Trusts

Another estate litigation technique is an installment sale of income producing property to a grantor trust. A grantor trust, under the provisions of the Internal Revenue Code, is a trust that is not separate from the taxpayer or the grantor, and is therefore disregarded for purposes of reporting and paying income taxes. The grantor trust assets are still deemed to be owned by the grantor or creator of the trust, and consequently, any income, deductions and credits generated by the grantor trust are reported on the grantor's personal income tax return.

Sales to grantor trusts take advantage of certain treatments of income and transfers between estate litigation and income tax rules. To illustrate, a grantor sold a property worth $5 million to a trust in exchange for a $5 million promissory note that has an interest rate which is deemed comparable to market. If the trust is structured so that the grantor retains certain powers that allow the trust to be classified as a grantor trust, then the sale is ignored, and the grantor is treated as if he or she still owned the property of the trust for income tax purposes, even though the sale is valid for state law purposes. Consequently, there is no recognition of gain or loss on the sale of the property, and the grantor trust retains the grantor's income tax basis in the property. Any appreciation in the value of the property inures to the benefit of the beneficiaries. In addition, interest payments from the grantor trust to the grantor have no income tax consequence because the grantor is treated as paying interest to himself or herself. The grantor, however, reports the trust's income (or loss) on his or her income tax return. No income taxes are paid by the trust or the beneficiaries with respect to the grantor trust's income.

*This blog entry was not written by an Attorney and should not be construed as professional legal advice.

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