Retroactive Reformation of Crummey Powers

The IRS has issued another private letter ruling granting retroactive tax effect to a judicial reformation of a trust which the IRS agreed did not carry out the intentions of the settlor due to an error by the attorney who prepared the trust document.

In PLR 201843007, the IRS granted retroactive effect to a court reformation of a trust’s “crummey powers,” which allowed the settlor’s children to withdraw the entire amount of each contribution to the trust, and provided for the withdrawal rights to lapse in full at the end of the year (or 31 days after the gift, whichever was later).  This was contrary to the goals of the settlor, because the withdrawal rights were not limited to the annual gift tax exclusions, and the lapses were not limited to the greater of $5,000 or 5% of the trust principal, with the result that the children were deemed to have made gifts to the trust when their withdrawal rights lapsed.  The IRS concluded that the judicial reformation was to correct a “scrivener’s error,” and that as a result of the reformation, the children did not have general powers of appointment and did not make gifts to the trust.  This ruling is consistent with the principles explained in my article “Tax Effects of Retroactive Reformations and Modifications.”   See also my article “Drafting Crummey Powers” for additional information about why the trust language was defective and why reformation was needed.

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