Monday, December 6, 2010

Nothing From Nothing is Nothing

CCA 201047021

This one is of somewhat limited interest and difficult to bring to any length so I'm making it a bonus post.  When someone dies their tax carryovers, capital loss carryovers for examples, die with them.  If there are assets, a new taxpayer is "born", the decedent's estate.  Estates are something of a hybrid between individuals and partnerships.  If they retain income the estate pays tax on a compressed version of the individual tax table (same rates, smaller brackets).  If income is distributed it is taxed to the beneficiaries.  Net capital losses, however, are carried forward.  Ultimately estates terminate.  When they do carryovers are flowed through to the beneficiaries.

What happens if an estate goes bankrupt and never distributes anything to anybody ?  In this particular case the decedent had substantial unpaid income tax liabilities.  A settlement was entered into whereby all assets of the estate after administrative expenses went to the United States.  The IRS position outlined in CCA 201047021 is that since the United States was the one suffering from the losses in this case, the empty handed beneficiaries don't even get a flow through of the capital losses on the estate's termination.

Section §1.642(h)-3(a) states carryovers and excess deductions pass only to “beneficiaries succeeding to the property of the estate or trust” who are “those beneficiaries upon termination of the estate or trust who bear the burden of any loss for which a carryover is allowed....” In the present case, the individual beneficiaries of the Estate should no longer be considered beneficiaries after the Estate entered into the Settlement Agreement to transfer all the proceeds of the Estate to the United States. This is a distinguishable situation from that set forth in the allocation example. Beneficiaries in that example received a loss carryover despite not receiving any property, but could have received property if the estate had sufficient funds. Here, as a legal matter, the individual beneficiaries could no longer receive anything. Any losses incurred by the Estate were to the detriment of the United States rather than the individual beneficiaries. Therefore, the Estate's beneficiaries should not be entitled to any of the Estate's unused loss carryovers under § 642(h)(1).

It  will be interesting to see whether there will be more to read about this in the future.  A CCA is not authority, so if the dollars are big enough the beneficiaries may contest it.

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