Estate Seeks Partial Summary Judgment on Charitable Deduction

ESTATE OF LOIS U. HORVITZ, DECEASED, MICHAEL J. HORVITZ, EXECUTOR
Petitioner,
v.
COMMISSIONER OF INTERNAL REVENUE,
Respondent.

UNITED STATES TAX COURT

JUDGE DAVID GUSTAFSON

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Memorandum in Support of Motion for Partial Summary Judgment

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PETITIONER'S MEMORANDUM OF LAW IN SUPPORT OF PETITIONER'S MOTION FOR PARTIAL SUMMARY JUDGMENT

The majority of the asserted deficiency in this estate tax case arises from Respondent's denial of Petitioner's charitable contribution deduction under section 2055 of the Internal Revenue Code of 1986, as amended (the “Code”).¹ The amounts deducted were distributed to charity from qualified terminable interest property (“QTIP”) trusts that were included in the decedent's gross estate pursuant to Code section 2044.

The decedent, Lois U. Horvitz (“Lois”), was married to Harry R. Horvitz (“Harry”) for 44 years, from 1947 until his death in 1992. Pursuant to his revocable trust, as in effect at the time of Harry's death on January 23, 1992 (the “1971 Trust Agreement”), Harry's estate plan established two QTIP trusts (the “First QTIP Trusts”) under Ohio law for the benefit of Lois. The First QTIP Trusts gave Lois a testamentary limited power of appointment over the majority of the trusts' assets, which she could exercise in favor of the couple's descendants. In 2013, pursuant to the provisions of the 1971 Trust Agreement and Ohio law, the Trustees of the First QTIP Trusts distributed their assets to two new QTIP trusts (the “Second QTIP Trusts”) governed by the “2013 Trust Agreement. The Second QTIP Trusts granted Lois a new testamentary power of appointment with a class of potential appointees expanded to include charitable organizations. This distribution is referred to herein as the “Decanting,” and the power of appointment granted to Lois under the Second QTIP Trusts is referred to herein as the “New Testamentary LPOA.” Lois exercised her New Testamentary LPOA in favor of three charitable organizations.

The assets of the Second QTIP Trusts were included in Lois's estate under Code section 2044, and the Estate claimed a charitable contribution deduction under Code section 2055 for the amounts passing to charity pursuant to Lois's exercise of the New Testamentary LPOA. There is no genuine issue of material fact whether the amounts in question actually were distributed (or will be distributed pending the resolution of this case) to charity or whether the charities qualify for the Federal estate tax charitable contribution deduction. Declaration of Michael J. Horvitz (“MJH Decl.”), Exs. I-K.

Respondent instead denied the Estate's charitable contribution deduction based on the erroneous claim that the Decanting was not authorized by the 1971 Trust Agreement or Ohio law. Whether the Decanting was so authorized is the legal issue for decision in this motion for partial summary judgment.

ARGUMENT

I. PARTIAL SUMMARY JUDGMENT FOR PETITIONER IS APPROPRIATE, AS THERE ARE NO GENUINE ISSUES OF MATERIAL FACT.

Petitioner is moving for partial summary judgment on the question of whether the Estate is entitled to a charitable deduction under Code section 2055 for the amounts passing to charity, and specifically, whether the Decanting was valid. See Petition, ECF No. 1 at ¶ 5.b(xxix); Answer, ECF No. 4 at ¶ 5.b(xxix). As discussed at more length below, the trustees of the First QTIP Trusts had two separate, independent legal bases for their authority to undertake the Decanting: the terms of the 1971 Trust Agreement itself, as well as Paragraph (A) of the Ohio Revised Code section 5808.18 (the “Ohio Decanting Statute”). A determination in Petitioner's favor on either of these legal issues would eliminate the most significant adjustment set forth in the Notice of Deficiency, and Petitioner believes that as a result the parties would likely be able to resolve the remaining issues without a trial.

Tax Court Rule 121(a) allows either party to move for summary judgment upon all or any part of the legal issues in controversy, and pursuant to Tax Court Rule 121(b), “decision shall thereafter be rendered” if “there is no genuine dispute as to any material fact” so that “a decision may be rendered as a matter of law.” E.g., Graf v. Comm 'r, 80 T.C. 944 (1983) (considering motion for partial summary judgment pursuant to Tax Court Rule 121). “Summary judgment is intended to expedite litigation and avoid expensive trials of phantom factual questions.” N. Indiana Pub. Serv. Co. v. Comm'r, 101 T.C. 294, 295 (1993); see also James T. Shiosaki v. Comm'r, 61 T.C. 861 (1974). Moreover, it “must be granted if the Court is satisfied that no real factual controversy is present so that that the remedy can serve its salutary purpose. . . .” Vallone v. Comm'r, 88 T.C. 794, 802 (1987).

Respondent has raised the specter of a factual issue by noticing the deposition of Mr. Jeffrey M. Biggar, a trustee of the First QTIP Trusts, with regards to his alleged knowledge of Harry's testamentary intent. See Respondent's Motion to Take Deposition Pursuant to Rule 74(c)(3) (“R. Depo. Motion”), Ex. C, ECF No. 23. Respondent also seeks information from Mr. Biggar regarding “whether the Decanting was permissible under Ohio law.” R. Depo. Motion at ¶ 11. However, Petitioner has introduced the 1971 Trust Agreement, 2013 Trust Agreement, and related trust records into evidence. See MJH Decl.² The interpretation of these instruments is a matter of Ohio law. The Ohio Decanting Statute allows decanting “[u]nless the trust instrument expressly provides” a limitation on the decanting power. Ohio Rev. Code Ann. § 5808.18(A). Petitioner maintains that the 1971 Trust Agreement contains no such express limitations, and though Respondent disagrees, this is a question of law perfectly suited for summary judgment. Mr. Biggar can provide this Court with no insight regarding the “express” terms of the First QTIP Trusts. The terms are either contained in the Trusts, or they are not. Harry's “intent” is likewise irrelevant.³

The fact that discovery has not been completed is not a bar to summary judgment. “If all one had to do to obtain a [denial of summary judgment] were to allege possession by movant of 'certain information' and 'other evidence', every summary judgment decision would have to be delayed while the non-movant goes fishing in the movant's files.” Whistleblower 14106-10W v. Comm'r, 137 T.C. 183, 188 (2011) (applying federal case law under Rule 56 of the Federal Rules of Civil Procedure). Therefore, although the Court has not yet decided whether to permit Respondent to take Mr. Biggar's deposition, this Motion for Partial Summary Judgment can proceed.

Only a genuine issue of material fact is sufficient to deny a party's motion for summary judgment. T.C. Rules 121(b) (“decision shall thereafter be rendered if . . . there is no genuine dispute as to any material fact”), 121(c) (Court considers what material facts exist). The material facts in this case are sufficiently supported in their entirety by the documentary evidence submitted. For these reasons, there is no genuine dispute as to any fact material to this motion, and the predominant issue in this case is thus amenable to summary judgment.

II. THE TRUST INSTRUMENTS CONTAIN COMMON “TERMS OF ART” THAT HAVE SIGNIFICANT MEANINGS UNDER TRUST AND ESTATE LAW.

A. The First QTIP Trusts

Harry's estate plan was contained in the 1971 Trust Agreement. That document required the establishment of a “QTIP trust” and a “reverse QTIP trust” for the benefit of Harry's widow, Lois. These trusts are referred to herein as the “First QTIP Trusts,” and this section discusses their terms in the context of the general estate and tax planning considerations that are reflected in the drafting of the 1971 Trust Agreement.

QTIP Trust Requirements

Trusts holding “qualified terminable interest property” are colloquially referred to as “QTIP trusts.”⁴ These trusts are authorized by Code section 2056(b)(7), which states that a trust settled for the benefit of the decedent's surviving spouse can qualify for the estate tax marital deduction if “the surviving spouse is entitled to all the income from the property” and “no person has [any] power to appoint any part of the property to any person other than the surviving spouse” during the surviving spouse's lifetime. Code § 2056(b)(7)(B)(ii). In other words, the surviving spouse must be the sole beneficiary of the QTIP trust during her lifetime, she must receive all income, and no one, including the surviving spouse, can have a power to divert trust principal to any other person during her lifetime.

QTIP trusts are used for a wide variety of reasons; “[t]he primary reason to favor the QTIP in happy single-marriage situations without creditor concerns,” like Harry and Lois's marriage, is for “postmortem planning flexibility in [the decedent's] estate.” Jeffrey N. Pennell, Estate Tax Marital Deduction, 843-3rd T.M., at ¶ VII.A.2.

Principal Distributions

Although all income must be distributed to the surviving spouse from a QTIP trust, there is no requirement that the trustees be required — or even authorized — to distribute the trust principal to the surviving spouse. The only requirement with respect to trust principal during the spouse's lifetime is that it not be distributed to any other person while the spouse is alive. Therefore, principal distribution provisions are selected by the settlor to balance the competing interests of the surviving spouse as the current beneficiary and the remainder beneficiaries who will receive the trust assets upon the surviving spouse's death, and to accomplish tax planning goals. See Kathryn Henkel & Judith Tobey, Estate Planning and Wealth Preservation: Strategies and Solutions, ¶ 4.02[2][b] QTIP Requirement: All Trust Income Distributed Annually to Wife (“[W]hat's good for Wife isn't necessarily what's good for the remainder beneficiaries.”).

Commonly, principal distributions are permitted to be made to the surviving spouse only on limited terms. For example, in his comprehensive discussion of the marital deduction, Jeffrey Pennell suggests the following sample QTIP language:

During S's life, the trustee shall distribute all of the net income of the trust to S in convenient installments at least quarterly. In addition, the trustee may distribute to S, from time to time, so much or all of the principal of the trust estate as, in the trustee's discretion, is sufficient to provide for S's health, support, and maintenance in the standard of living to which S was accustomed at my death, taking into consideration any other sources of support (both principal and income) available to S, to the knowledge of the trustee.

Pennell, supra, at Worksheet 2 Sample Qualified Terminable Interest Property Trust. Similarly, Howard Zaritsky's leading tax planning treatise contains the following sample QTIP language:

The trustee shall distribute to my *husband/wife* as much of the trust principal (including all or none) as the trustee shall deem appropriate for the health, education, support, or maintenance of my *husband/wife*, at any time and from time to time. In determining how much principal should be distributed to my *husband/wife* for *his/her* health, education, support, or maintenance, the trustee may take into account all other resources available to my *husband/wife*, and shall distribute to *him/her* the smallest amount possible within this ascertainable standard.

Zaritsky, Tax Planning for Family Wealth Transfers At Death: Analysis With Forms, ¶ 1.07 Sample Wills, Trusts, and Client Explanation Letters (WG&L 2021).

In comparison to this common QTIP distribution language, the First QTIP Trusts contain remarkably broad distribution standards that significantly tilt the balance of competing interests in favor of Harry's surviving spouse. Section B. 2.(b) of Article FIRST states that:

In addition [to the income payments required by I.R.C. 2056(b)(7)], the Trustee may, at any time or from time to time, pay to or apply for the benefit of Lois so much or all of the principal of the Federal Marital Trust as the Trustee, in its sole discretion, deems necessary or desirable for her support, maintenance, health, comfort or general welfare, including, without limitation, for any medical emergency.

BSK Decl., Ex. A, Art. FIRST B.2.(b) (emphasis added). The distribution authority is expanded upon in a section entitled “PERMISSIBLE USES AND APPLICATIONS,” which provides:

Any authorization to the Trustee to pay or apply income or principal of any trust to or for the benefit of any beneficiary shall be deemed an authorization to make payments or applications of income or principal for the support, maintenance, health, education, comfort or general welfare of the beneficiary (including, but not limited to, payments or applications to enable the beneficiary to purchase a residence, invest in a business, make transfers that serve estate or tax planning objectives, or engage in any other activity deemed by the Trustee to be in the best interests of the beneficiary). An authorization to apply principal to or for the benefit of a beneficiary shall include authority to pay principal to a trust for the benefit of that beneficiary, and an authorization to apply income to or for the benefit of a beneficiary (except in cases where the income is required to be distributed currently) shall include authority to pay income to a trust for the benefit of that beneficiary and to accumulate income for the separate, exclusive benefit of that beneficiary.

Id., Art. THIRD B (emphasis added). The trust also specifically provides that the Trustees were not required to limit distributions to Lois even if other resources were available to her. Id., Art. THIRD F. All of these provisions are significantly broader than the language recommended in the sample QTIP forms, and they allowed distributions to Lois under a broad variety of circumstances.

Ascertainable Standards

The distribution provisions in the 1971 Trust Agreement are not only broad, they are drafted in a manner that estate planners, the Internal Revenue Service, the United States Department of the Treasury, and the Ohio Decanting Statute all treat as “unlimited.” As highlighted above, the Trustees of the First QTIP Trusts could make distributions to Lois not only for the “health, education, maintenance, or support” reasons suggested in the typical QTIP trust sample language, but also for her “comfort or general welfare” and to “engage in any other activity deemed by the Trustee to be in [her] best interests.” BSK Decl., Ex. A, Art. THIRD B.

The treatises cited above all suggest the same “health, education, maintenance, or support” language because these are the estate planner's magic words — used to ensure that the trustees' discretion is “limited by an ascertainable standard” for tax purposes. Much hinges on compliance (or non-compliance) with an ascertainable standard. For example, a person who can direct that assets be distributed to herself, her estate, her creditors, or the creditors of her estate has a “general power of appointment.” Code § 2041(b)(1). Holding a general power of appointment will cause assets to be included in one's estate for estate tax purposes. Code § 2041(a). Exercising or releasing a general power of appointment will constitute a taxable gift. Code § 2514. Both of these consequences can be avoided if the power in question is “limited by an ascertainable standard relating to the health, education, support, or maintenance of the [beneficiary],” Treas. Reg. § 20.2041-1(c)(2), which results in the powerholder having only a “limited power of appointment” or “special power of appointment.” For this reason, “[generations of drafters have used the terms [health, education, maintenance, or support] to avoid the inclusion of trust assets in the taxable estate of a trustee who is also a beneficiary of the trust.” Kenneth P. Coyne, Drafting To Guide Trustees: Is It Time To Loosen The Hems Handcuffs?, 25 No. 1 Ohio Prob. L.J. NL 7 (2014). In contrast, the use of language like “comfort,” “welfare,” and “best interests” indicates that the trustees are not limited by an ascertainable standard. The gift and estate tax regulations — which have been in place since 1958, well before the 1971 Trust Agreement was drafted — are clear that “[a] power to use property for the comfort, welfare, or happiness of the holder of the power is not limited by the requisite standard.” Treas. Reg. § 20.2041-1(c)(2) (emphases added).

When evaluating a list of standards that includes ascertainable and non-ascertainable standards, the inclusion of any non-ascertainable standard will generally cause the trustee's authority to be “unlimited.” In other words, “[i]n evaluating ascertainable standards, the standard is that a 'chain is only as strong as its weakest link.'” Richard W. Harris, Ascertainable Standard Restrictions on Trust Powers Under the Estate, Gift, and Income Tax, 50 Tax Law. 489, 528 n.198 (1997). For example, in Estate of Jones v. Commissioner, 56 T.C. 35, 37 (1971), this Court held that trustees able to make distributions “in cases of emergency, or in situations affecting [the decedent's] care, maintenance, health, welfare and well-being” were not limited by an ascertainable standard. In Miller v. United States, 387 F.2d 866, 867 (3d Cir. 1968), the Third Circuit held that there was no ascertainable standard where trustees could make distributions for the “proper maintenance, support, medical care, hospitalization, or other expenses incidental to [the beneficiary's] comfort and well-being.” In Revenue Ruling 77-194, the Service summarized these and other cases as follows:

[I]n each of the cases [where] the decedent's power to invade trust corpus was limited by a term such as welfare, comfort, or well-being, used with a more restrictive standard such as support, maintenance, or health . . . the courts determined that the powers of invasion could be exercised without reference to the beneficiaries' health, education, support, or maintenance.

The inclusion in the 1971 Trust Agreement of the “comfort,” “welfare,” and “best interests” standards for the First QTIP Trusts thus had concrete tax ramifications. Their use provides proof of the broad, “unlimited” power of the trustees.

Distributions for “Estate or Tax Planning Objectives "

Paragraph B of Article THIRD of the 1971 Trust Agreement explicitly authorized the Trustees of the First QTIP Trusts to make “payments or applications to enable the beneficiary to . . . make transfers that serve estate or tax planning objectives” as one facet of their unlimited distribution authority. BSK Decl., Ex. A, Art. THIRD B. Nothing in the First QTIP Trusts limited Lois's estate planning objectives to those that benefitted only their descendants.

Other Flexible Provisions in the 1971 Trust Agreement

In addition to these broad distribution provisions, the First QTIP Trusts contained numerous provisions that provided maximum flexibility and control to the Trustees and to Lois to the potential detriment of the remainder beneficiaries. First, in addition to the right to all net income required by Code section 2056(b)(7), Lois had the authority to withdraw $100,000 annually from the trusts for any reason, without any cooperation from the other Trustees. BSK Decl., Ex. A, Art. FIRST B.2(b). Second, the Trustees were authorized to terminate the trusts and pay over the entire principal to Lois at any time if doing so was in the “best interests” of the beneficiaries. Id. at Art. THIRD M.2. Third, the 1971 Trust Agreement expressly authorized the Trustees to appoint the assets to other trusts for the benefit of current trust beneficiaries⁵ without any significant limitations, other than those required to protect qualification of the trusts for the marital deduction. Id. at Art. THIRD B. Fourth, and finally, Lois could unilaterally cause the Trustees to take any of these actions. See id. at Art. THIRD A.1 (granting Lois the ability to participate in any decision regarding discretionary distributions to herself) and Art. SIXTH D (providing that upon any disagreement of the Trustees, “Lois's decision shall control”).

Again, these provisions are not required by the QTIP rules and regulations and, indeed, are not commonly used. See, e.g., Pennell, supra, at ¶ VII.B.7 (“The client probably will not want to give [Spouse] an invasion power over corpus if a primary reason for using a QTIP trust is to prevent [Spouse] from having a power of disposition over the property (for example, to ensure that the remainder at death passes to children by a former marriage); Henkel, supra, When Is a QTIP Trust a Good Idea?, ¶ 4.02[2][a] (“Practice-[P]ointer — If limitations on Wife's interest are important to Husband, he can hedge Wife's rights with restrictions contained in the will or trust instrument. However, if Wife is the sole trustee, or the sole managing trustee, she will, as a practical matter, have control over the trust assets.”). The inclusion of such provisions here plainly indicates that Lois and the other Trustees had comprehensive power over the disposition of the First QTIP Trusts' assets.

Lois's Testamentary Power of Appointment

To the extent that any assets remained in the First QTIP Trusts upon Lois's death, the 1971 Trust Agreement provided that certain specific bequests were to be made and then the remainders were to be distributed “to and among [Harry's] issue as Lois may appoint by express reference to this provision in her Will,” so long as certain constraints were respected so that the family lines of Harry's three children were treated in parity. BSK Decl., Ex. A, Art. FIRST B.2(e)(iii). This is a type of “power of appointment.” In this case, Lois's power of appointment was “testamentary” (because it became effective at her death⁶) and “limited” (because it was not a general power of appointment she could exercise in favor of herself, her creditors, her estate, or the creditors of her estate⁷).

If Lois failed to exercise her testamentary power of appointment, the remainders of the First QTIP Trusts were to be distributed “to [Harry's] then living issue, per stirpes.” BSK Decl., Ex. A, Art. FIRST B.2(e)(iii).

B. The Second QTIP Trusts

In 2013, Lois decided that she wanted to leave additional assets to charity as part of her estate plan. See MJH Decl., Ex. H. The Trustees of the First QTIP Trusts could have enabled Lois's goals by terminating the trust in her favor, see BSK Decl., Ex A, Art. THIRD M.2; by distributing trust principal outright to Lois to assist her in achieving her estate and tax planning objectives, see id. at Art. FIRST B.2(b); Art. THIRD B; or by distributing the assets to new trusts with a power of appointment that could be exercised in favor of charity, see id. at Art. THIRD B; Ohio Rev. Code Ann. § 5808.18(A)(3)(a). The Trustees chose the third option.

On May 7, 2013, the Trustees undertook the Decanting here at issue. They executed the 2013 Trust Agreement⁸ and distributed all the assets of the First QTIP Trusts to the Second QTIP Trusts administered under that agreement.

The terms of the Second QTIP Trusts were virtually identical to those of the First QTIP Trusts, except that they contained the New Testamentary LPOA that Lois could exercise:

by express reference to this provision in her Will or by a signed and witnessed instrument taking effect upon her death delivered to the Trustee during her life, to and among Harry's issue and/or charities that are qualified to receive charitable contributions that are deductible for either federal income or federal estate tax purposes.

MJH Decl., Ex. F at Art. FIRST B(iii) (emphases added to identify changes from the First QTIP Trusts). The limitations requiring equal treatment of family lines in the First QTIP Trusts were retained. See id.

The two key changes between Lois's power of appointment over the First QTIP Trusts and her New Testamentary LPOA, were (a) Lois's ability to exercise her testamentary power of appointment by means of a signed and witnessed instrument taking effect upon her death other than her Will, and (b) the inclusion of both charity and Harry's descendants as potential appointees.

On May 13, 2013, Lois executed a revocable signed and witnessed instrument directing that, upon her death, the residues of the Second QTIP Trusts be distributed in equal shares to the Foundations established by Harry's three children, all of which are a charitable organization contributions that are deductible for Federal income tax and Federal estate tax purposes. See MJH Decl., Exs. H-K.

Lois died on July 23, 2015, without having revoked the exercise of her power of appointment. MJH Deel, at 8. On December 8, 2017, the Second QTIP Trusts distributed $3,393,571.51 to each of the three Foundations. MJH Decl. at ¶ 9. The remaining assets of the Second QTIP Trusts were held in reserve by the Trustees for the payment of final expenses, including any additional estate taxes owing by the Second QTIP Trusts after resolution of the IRS examination. Any additional taxes paid by the taxpayer and attributable to the denial of the charitable deduction will effectively be borne by the Second QTIP Trusts, see Code § 2207A, and would reduce the assets distributable to charity. Id.

III. THE ESTATE IS ENTITLED TO A DEDUCTION FOR THE CHARITABLE DISTRIBUTIONS MADE FROM THE SECOND QTIP TRUSTS, WHICH WERE PROPER UNDER OHIO LAW.

After Lois's death, more than $17 million was distributed or distributable to charity from the Second QTIP Trusts included in her gross estate. The central dispute in this case is whether Respondent can impose additional estate taxes on that $17 million despite the fact that the Decanting was authorized under both the 1971 Trust Agreement and the Ohio Decanting Statute. There is no genuine dispute of material fact that the Foundations receiving this money are bona fide charities, contributions to which qualify for the deduction. MJH Decl., Exs. I-K. Rather, the Notice of Deficiency denied taxpayer's deduction on the grounds that “[Lois] did not have authority to appoint the residue of a QTIP trust to charity” because the Decanting was invalid under Ohio law. Petition, Ex. A at 3. Respondent's position is not supportable, however. First, the Decanting that granted Lois the New Testamentary LPOA was in Lois's best interests and enabled her to fulfill her estate and tax planning goals; therefore, it was directly and explicitly contemplated by Paragraph B of Article THIRD of the 1971 Trust Agreement. Second, and providing an additional independent basis for the Trustees' action, the Decanting was also authorized by the Ohio Decanting Statute.

A. Granting a Beneficiary a New Power of Appointment Is a Quintessential Exercise of a Trustee's Absolute Power to Distribute Assets to a Beneficiary.

Although the colloquial term “decanting” is relatively new to trust law, the concept itself is not. Decanting is an estate planning technique rooted in the principle that a trustee with an “unlimited” or “absolute” fiduciary authority to distribute property outright to a beneficiary has the inherent authority to transfer a lesser interest: a beneficial interest in further trust. See generally Harry H. Sitkoff, The Rise of Trust Decanting in the United States, 23 Trusts & Trustees No. 10, 976 (2017), https://ssm.com/abstract=3042207; M. Patricia Culler, Demystifying Decanting and Ohio's Proposed Statute, 20 Ohio Prob. L.J. 135 (2010) (“Conceptually, the power to decant is viewed as inherent in the power of the trustee to exercise the trustee's discretion to make certain distributions by distributing assets in further trust. . . .”).

a) Decanting at Common Law

Decanting was recognized at common law in various jurisdictions before the 1971 Trust Agreement became irrevocable. The first known case addressing the technique is the 1940 case of Phipps v. Palm Beach Trust Co., 142 Fla. 782, 196 So. 299 (1940). Ms. Phipps had settled a trust for the primary benefit of her son John, granting the Individual Trustee broad discretion over the trust:

'At any time within the duration of this trust, as hereinafter provided, upon the written direction of the then Individual Trustee, the Trustees shall pay over and transfer all or any part of the rest, residue, and remainder of the trust estate, both principal and income, . . . [to my children] and to the descendants of any of them, in such shares and proportions as the said Individual Trustee, in his or her sole and absolute discretion, shall determine and fix even to the extent of directing the payment of the entire trust estate to one of said parties . . .'

Id. at 783-84. The Individual Trustee directed that the trust be decanted to a new trust “for the benefit of the descendants of the original donor with the exception that provision be made for the payment of an income to wife of [John], if he . . . should so provide in his will.” Id. at 784. The corporate trustee sought approval of such action.

The Phipps court defined the question before it as whether a trustee “clothed with absolute power to administer a trust estate . . . [may] create a second trust estate, for the benefit of said beneficiaries at such time and in the manner determined by the . . . trustee?” Id. at 785. It noted that the trustee of a trust has a“special power of appointment, that is[,] a power to appoint among the members of a specified class.” Id. As with all special powers of appointment, a trustee's power “to create an estate in fee” — that is, to distribute assets to the beneficiary outright — “includes the power to create or appoint any estate less than a fee unless the donor clearly indicates a contrary intent.” Id. at 786. Here, where the Individual Trustee had been given “absolute power to administer and dispose of the estate to any one of the named beneficiaries to the exclusion of the others,” the court had “no doubt” that the Individual Trustee could “create the second trust provided one or more of the descendants of the donor of the original trust are made the beneficiaries.” Id. The court therefore approved the appointment to the new trust directed by the Individual Trustee. Id. at 787.

In 1969, the New Jersey appellate court held in Wiedenmayer v. Johnson, 254 A.2d 534 (N.J. App. 1969), that trustees empowered to make distributions for a beneficiary's “best interests” could exercise such power to fund a new trust for the beneficiary. In that case, Mr. Johnson had settled a trust for his son John and authorized the trustees:

'3. To distribute the Trust Property as follows:

(a) from time to time and whenever in their absolute and uncontrolled discretion they deem it to be for his best interests, to use for or to distribute and pay over to [John] . . . to be his absolutely, outright and forever, any or all of the Trust Property.'

Id. at 535. The original trust provided two children, probably John's children, with a contingent remainder interest. Id. at 535. Given John's recent divorce, the trustees decided to appoint all of the assets to John on the condition that he settle the funds in a new trust, which had different provisions upon John's death. See id. at 535-36.

The Wiedenmayer court approved the new trust on the same reasoning as in Phipps. First, if the trustees could distribute property '“absolutely, outright and forever,' [to John],” it seems logical to conclude that the trustees could, to safeguard the son's best interests, condition the distribution on his setting up a substituted trust.” Id. at 536. Second, given the terms of the trust, the court concluded that “[t]he creator of this Inter vivos trust was obviously concerned primarily with his son's best interests. The interests of others were important, but they were only secondary in relation to the son.” Id. Given that the trustees had determined that John's “best interests” were served by the appointment of assets to the new trust, “[c]ourts may not substitute their opinions” for “the opinion of the trustees vested by the creator of the trust with the 'absolute and uncontrolled discretion' to make that determination.” Id.

In In re Estate of Spear, 146 Misc. 2d 1046 (Surr. Ct. of NY 1990), a New York court approved a decanting that granted the beneficiaries a general power of appointment. In that case, Mr. Spear established trusts for his two grandsons that were to terminate when the beneficiary grandson reached age 50; if the grandson died before age 50, the assets would be distributed to the grandson's descendants. Id. at 1047. The trusts would be exempt from the then-new generation-skipping transfer (“GST”) tax only if the grandson had a general power of appointment over the trust assets. Id. The court directed that because the trustees had an “absolute power to invade principal for the benefit” of the grandson, they must exercise that power to fund new trusts for the grandsons that were “subject to an express general power of appointment in each beneficiary.” Id. at 1048-49.

Not only did the courts in each of these cases find that the trustees' authority inherently included the ability to distribute assets in further trust, but each explicitly approved a decanting that defeated or could defeat the interests of the remainder beneficiaries in the original trust instrument. Notably, the decanting in Phipps was undertaken to insert a power of appointment allowing a beneficiary to appoint assets in favor of his non-beneficiary wife, to the detriment of the persons who would otherwise have been remainder beneficiaries of the first trust. Phipps, 196 So. at 300-01. The decanting in Spear granted the beneficiary a general power of appointment that could be exercised to defeat the remainder beneficiaries in favor of the beneficiaries' creditors. Spear, 146 Misc. 2d at 1049. And most notably, the Wiedenmayer court approved a trust decanting that extinguished the remainder beneficiaries' interests, and it did so against their objection. Wiedenmayer, 254 A.2d at 536. Put simply, it might be in a beneficiary's “best interests” to defeat the interest of the remaindermen. Id. Where trustees have broad authority, the remainder beneficiaries simply do not have a vested interest in the remainder: “[I]f distribution of the corpus were made to the [beneficiary] absolutely, as permitted within the unqualified discretion of the trustees, . . . the same loss of the contingent remaindermen's interest would equally be effected” as achieved by the decanting. Id. at 536.

b) The Introduction of Decanting Statutes

By 1992 (the year Harry died), New York had passed the nation's first decanting statute. The New York statute allowed a trustee “who has the absolute discretion . . . to invade the principal of a trust” to, with court or beneficiary approval, “exercise such discretion by appointing so much or all of the principal of the trust in favor of a trustee of a trust under an instrument other than that under which the power to invade is created.” See N.Y. Est. Powers & Trusts Law § 10-6.6 (1992). The legislative history of the statute states that the statute was consistent with and declaratory of the common law of that state. See Diana S.C. Zeydel & Jonathan G. Blattmachr, Tax Effects of Decanting — Obtaining and Preserving the Benefits, J. Taxation 288, 289 (note 7 and accompanying text) (2009).

In 2000, when Treasury promulgated its effective date regulations under the GST tax, it recognized that decanting was available in some states at common law prior the GST's enactment in 1986. See Treas. Reg. § 26.2601-1(b)(4)(i)(A)(1)(ii) (discussing state law that authorizes pre-1986 trusts to “authorize distributions to [a] new trust”).

By the time Ohio introduced its decanting statute in 2010, ten other states had enacted decanting legislation, and Ohio was one of at least six other states exploring legislative proposals. See Culler, supra, at 137. The Uniform Law Commission then finalized the Uniform Trust Decanting Act in 2015. Today, at least thirty-five states have passed decanting legislation⁹:

These statutes have uniformly agreed with the common law that where the trustees have broad authority over the trust that is not “limited by an ascertainable standard,” they may appoint trust assets to a new trust that grants a power of appointment to any current beneficiary of the first trust. See, e.g., Uniform Decanting Act § 11(d)(3); Ohio Rev. Code Ann. § 5808.18(A)(3)(a); N.Y. Est. Powers & Trusts Law § 10-6.6(b)(1); Va. Code § 64.2-779.8(D)(3).¹⁰ In summary, all relevant sources — from the first case in 1940, through the first decanting statute enacted in the year Harry passed away, and now found in the recent profusion of policy-driven legislation — are unanimous that powers of appointment can be granted through decanting.

B. The 1971 Trust Agreement Specifically Contemplated the Decanting.

The Decanting to the Second QTIP Trusts and the grant of the New Testamentary LPOA was authorized by the terms of the 1971 Trust Agreement. First, the 1971 Trust Agreement contains the same broad grants of authority that have been consistently interpreted under common law to allow trust decanting. Second, the 1971 Trust Agreement explicitly authorized the Trustees to exercise their authority in favor of new trusts.

The common thread in all of the cases and the common predicate in the legislation is that trustees with “absolute” or “unlimited” discretion over the first trust can appoint assets in a second trust granting a current beneficiary a power of appointment. As noted above, there are a number of provisions in the 1971 Trust Agreement that ensure maximum flexibility in the administration of the First QTIP Trusts. First, the 1971 Trust Agreement used the “comfort,” “happiness,” and “best interests” standards that have always been understood to create unlimited or absolute discretion in the trustees. See Treas. Reg. § 20.2041-1(c)(2); Wiedenmayer, 254 A.2d at 535; BSK Decl., Ex. A, at Art. FIRST B.2.(b), THIRD B.2. Second, in very explicit, specific, and non-boilerplate language, the Trustees were authorized to make distributions to achieve Lois's “estate or tax planning objectives” as part of their broad and unlimited authority. Id. at Art. THIRD B.2.

Most importantly, the 1971 Trust Agreement specifically identified decanting as a “permissible use[ ] and application” of the Trustees' authority. The key language in the 1971 Trust Agreement can be found at Paragraph B.2 of Article THIRD (emphasis added):

PERMISSIBLE USES AND APPLICATIONS. . . . An authorization to apply principal to or for the benefit of a beneficiary shall include authority to pay principal to a trust for the benefit of that beneficiary.

The 1971 Trust Agreement could not be any clearer. The Trustees were authorized to distribute assets for the “comfort,” “happiness,” and “best interests” of Lois, language that for decades has been recognized by estate planners, the IRS, and the Department of the Treasury as representing absolute and unlimited discretion. They were authorized to distribute assets “to a trust for the benefit of [Lois].” And they were authorized to make distributions to enable her “estate or tax planning objectives.” The Decanting was fully compliant with the express terms of the 1971 Trust Agreement. Respondent's position to the contrary is entirely unsupportable.

C. The Ohio Decanting Statute Provides Separate, Independent Authority for the Decanting.

As discussed in the prior section, the Trustees' authority under the 1971 Trust Agreement is broad enough to support the Decanting even in the absence of state statutory law. However, the Ohio Decanting Statute provides separate,independent authority for the Decanting.¹¹ The drafters of the legislation, led by M. Patricia Culler, the then-Chair of the Ohio Estate Planning, Trust and Probate Law Section Council of the Ohio State Bar Association,¹² were guided by the authorities discussed above and “viewed decanting under [Section (A) of the statute] to be a statement of an inherent power of a trustee to whom the grantor has given absolute discretion regarding distributions of principal.” Culler, supra, at 142; see also Ohio Rev. Code Ann. § 5808.18(O)(1). Therefore, the statute applies to any trust governed by Ohio law, including those like the First QTIP Trusts that were created before the date of enactment.

The Ohio Decanting Statute outlines the scope of the decanting authority held by trustees with “absolute power under the terms of the first trust to make distributions of principal to one or more current beneficiaries.” Ohio Rev. Code Ann. § 5808.18(A)(1). Subparagraph (A)(2)(b) defines absolute power as “[a] power to make distributions of principal for purposes that include best interests, welfare, comfort or happiness, or words of similar import,” so long as those words are “not otherwise limited by reasonably definite standards or ascertainable standards” (emphases added). Each of these prongs is considered in turn.

As noted above, the Trustees of the First QTIP Trusts clearly had distribution powers that “included” distributions for Lois's comfort and welfare. Moreover, this absolute power was not “limited by reasonably definite standards or ascertainable standards” within the meaning of Ohio law. The Ohio Trust Code contains a definition of an “ascertainable standard” at section 5801.01(b):

[A] standard relating to an individual's health, education, support, or maintenance within the meaning of section 2041(b)(1)(A) or 2514(c)(1) of the Internal Revenue Code.

In other words, Ohio law is entirely consistent with Federal tax law on this point. As noted above on pages 10-11, the Trustees' authority under the First QTIP Trusts to make distributions for Lois's “comfort or general welfare” and in her “best interests” does not constitute an ascertainable standard relating to health, education, support, or maintenance, even when coupled with ascertainable standards. It is therefore an “absolute power” within the meaning of the Ohio Decanting Statute.¹³

In his First Amended Answer (lodged Sept. 15, 2021), ECF No. 27, Respondent claims in a series of allegations at Paragraph 7(j) through (Z) that various aspects of the Decanting were “prohibited” by the 1971 Trust Agreement. The common thread woven through these allegations is a reliance on allegations about Harry's intent — allegations derived from disembodied clauses of the 1971 Trust Agreement that are taken wholly out of context. However, Ohio law does not restrict trustees' authority to decant based on allegations regarding the grantor's intent, which is why the discovery sought by Respondent is irrelevant and improper. Instead, the Ohio Decanting Statute allows a decanting on the terms contained therein unless the trust instrument itself contains an express limitation on the decanting power. See Ohio Rev. Code Ann. § 5808.18(A); see also Culler, supra, at 139 (noting that the drafters of the legislation focused on a standard that would ensure statutory decanting was consistent with “the settlor's intent and material purposes of the trust reflected in the terms of the trust” (emphasis added)).

As discussed above, rather than containing such express limitations on the power to decant, the 1971 Trust Agreement actually provided express authority to decant. It contained a broad, flexible decanting provision at Article THIRD B, in that same paragraph that explicitly authorized the Trustees to make distributions for Lois's estate planning purposes. It therefore simply cannot be correct that the 1971 Trust Agreement expressly prevented the Decanting.

a) Nothing in the 1971 Trust Agreement Expressly Prohibited the Trustee from Effecting Any Change in Beneficial Interests.

Respondent's First Amended Answer alleges that the trust instrument prohibits the trustee from effecting any change in beneficial interests. First Amended Answer, ¶ 7(j). This is apparently a reference to Paragraph I of Article THIRD of the 1971 Trust Agreement. That provision reads as follows (emphases added):

Power to Amend Trusts. The Trustee is authorized to amend the administrative and technical provisions of any trust hereunder at such times as it deems appropriate for the proper administration of the trust, bearing in mind the purpose for which I have established the trust. No power granted to the Trustee in this paragraph may be exercised to effect any change in beneficial interests under this trust.

First, and most fundamentally, as highlighted in the quotation above, the restriction in Paragraph I of Article THIRD operates only to restrict the Trustee's powers “granted . . . in this paragraph.” By its terms, it expressly does not apply to decanting, which is separately authorized in Paragraph B.¹⁴

Moreover, Respondent's attempt to graft this prohibition onto the trustee's decanting authority is based on an essential misunderstanding of the doctrine of decanting. Trust amendment and trust decanting are fundamentally different tools. An “administrative” or “technical” amendment is either ministerial or required to correct a scrivener's error. The power is not exercised with any reference to the trustees' distribution powers. In other words, technical amendments are not made for the “support, maintenance, health, education, comfort or general welfare” of a beneficiary. Rather, as a ministerial change, a technical amendment should not affect those beneficial interests, and Paragraph I of Article THIRD of the 1971 Trust Agreement reflects this expectation.

In contrast, as discussed at length above, a decanting is a form of distribution. Distributions by their very nature impact the beneficial interests of the other beneficiaries. For example, an outright distribution of principal to Lois would extinguish the contingent beneficial interests of the remaindermen as to the distributed property. Therefore, it would be completely illogical to prevent a decanting power from being exercised in a way that impacts the beneficiaries' interests. See, e.g., Uniform Trust Decanting Act § 5 cmt. at 24 (Unif. Law Comm'n 2015) (“Uniform Decanting Act”) (“Decanting, however, can alter the beneficial interests of a trust.”).

The Ohio Decanting Statute likewise emphasizes the distinction between a trustee's decanting authority and its amendment authority, explicitly precluding Respondent's interpretation:

The exercise of the power to distribute trust income or principal to the trustee of a second trust under division (A) . . . of this section is not prohibited by . . . a provision in the trust instrument that prohibits the amendment or revocation of the trust.

Ohio Rev. Code Ann. § 5808.18(H); see also Culler, supra, at 144; Uniform Decanting Act, supra, comment to section 15 at 56 (“The fact that a trust instrument provides such a mechanism for modification does not preclude the application of this act [allowing decanting]. Any requirements or restrictions contained in the trust instrument for such modification mechanism do not apply to an exercise of a decanting power under this act unless such requirements or restrictions expressly apply to an exercise of a decanting power under this act or a similar state statute.”). Respondent's contention that the language in Article THIRD I could prohibit the Trustees from exercising their decanting authority is therefore directly contrary to both the express language of the 1971 Trust Agreement and Ohio law.

b) Nothing in the 1971 Trust Agreement Expressly Prohibited the Trustee from Appointing to a Second Trust That Permitted a Distribution of Trust Property to Charity While Harry's Issue Were Alive.

Respondent's First Amended Answer also alleges that the trust instrument prohibits the trustee from “appointing the trust property to a different trust that permitted a distribution of the trust property outside the class of permissible appointees i.e., Harry's issue] unless all members of the class had died.” First Amended Answer at ¶ 7(k). This is apparently a reference to Paragraph A.4 of Article SIXTEENTH of the 1971 Trust Agreement. That provision provides as follows (emphases added):

Any appointment in further trust may name trustees, or contain administrative provisions, different from those named or contained in this Agreement. The trust may provide for distributions outside the class of permissible appointees, but only if such distributions can only occur after the death of all members of the class. Any appointment in further trust may grant additional powers of appointment, both special and general, to any one or more of the permissible appointees, which may be broader than the power being exercised.

Respondent's reliance on this paragraph is puzzling. Even if this paragraph applies to the Trustees' distribution and decanting authority,¹⁵ the language in fact supports Petitioner's position. The second and third sentences of the paragraph together create a distinction between the identity of the appointed trust's beneficiaries (who can receive current distributions in the discretion of the trustees and must be members of the class of potential appointees) and persons who may be appointed assets by a beneficiary. For example, as applied to Lois's power of appointment under the First QTIP Trusts, the permissible appointees were Harry's issue. Therefore, paragraph A.4 of Article SIXTEENTH provides that she could exercise her power to create a trust from which distributions could be made to Harry's issue, and she could also grant one of Harry's issue a power of appointment “both special and general . . . which may be broader than the power being exercised.” In other words, she could grant any of Harry's issue a power to appoint assets to their creditors, charity, their spouses, etc. This paragraph is therefore entirely consistent with the common law and statutory decanting authorities outlined above.

If, as Respondent suggests, the Trustees' power is conceptualized as a type of special power of appointment that this paragraph applies to, Lois was the only current permissible current beneficiary, so she is the “permissible appointee” of the Trustees' authority. Therefore, this paragraph would authorize the Trustees to “provide for distributions [to persons other than Lois], but only if such distributions can only occur after the death of [Lois].” In addition, this paragraph would authorize the Trustees to “grant additional powers of appointment, both special and general, to [Lois], which may be broader than the power being exercised.” The terms of the Second QTIP Trusts were entirely in conformance with these rules. They did not provide for any distributions to any person other than Lois until after her death, and they granted Lois an “additional power of appointment” that was “broader than the power being exercised” by the Trustees. The Decanting is thus entirely consistent with Article SIXTEENTH A.4.

c) Nothing in the 1971 Trust Agreement Expressly Prohibited the Trustees from Granting Lois a Power of Appointment Taking Effect Upon Her Death.

The 1971 Trust Agreement gave Lois testamentary powers of appointment exercisable only by Will, but she could exercise her New Testamentary LPOA by means of “a signed and witnessed instrument taking effect upon her death.” Compare BSK Decl., Ex. A, Art. THIRD B.2(e)(iii), with MJK Decl., Ex. F, Art. FIRST B(iii). Respondent claims in his First Amended Answer that the 1971 Trust Agreement prohibited the Trustees from granting Lois a lifetime power of appointment. ¶ 7(Z).

Respondent is apparently referring to a GST planning provision found at Article FOURTH B.4 of the 1971 Trust Agreement, which is captioned “Special Tax Provisions” — “Federal Generation Skipping Transfer Tax Provisions” — “Authority to Trustee to Grant General Power of Appointment.” It provides as follows (emphasis added):

Except as hereinafter provided with respect to my spouse, the Trustee shall have authority to grant to any beneficiary of any trust having an inclusion ratio greater than zero (the “donee”) a lifetime or testamentary general power of appointment over all or any amount or portion of the principal of such trust if the Trustee deems such action to be in the best interests of the beneficiaries of the trust and the potential beneficiaries of the donee's estate taken as a group. . . .

Nothing in this Subdivision [B.4] shall be construed as authorizing the Trustee to grant a lifetime power of appointment to my spouse with respect to any Federal Marital Trust [i.e., the First QTIP Trusts].

Article FOURTH B.4 contains a common trust provision included, as the caption indicates, for generation-skipping transfer (“GST”) tax planning purposes. It generally authorizes the Trustees to grant a beneficiary a general power of appointment so that the trust's assets would be subject to estate taxes rather than the GST tax that would otherwise be due on the beneficiary's death. See Code § 2652(a). However, as discussed previously, authorizing the Trustees to grant Lois a lifetime power of appointment over a QTIP trust could endanger the trust's eligibility for the marital deduction in Harry's estate. See Code § 2056(b)(7)(B)(ii)(II); Treas. Reg. § 20.2056(b)-7(h), Example 4. Therefore, the 1971 Trust Agreement contains a savings clause preventing the Trustees from using their power under Article FOURTH B.4 to grant Lois a lifetime power of appointment over the First QTIP Trusts.

This GST planning provision does not prohibit the Decanting. First and foremost, Article FOURTH B.4 describes a power unrelated to the Trustees' decanting power. The highlighted language that Respondent references explicitly serves as a limitation on the authority granted to the Trustees by Article FOURTH B.4. By its own express terms, it does not apply to limit in any way the trustee powers contained in Article THIRD B.

Moreover, even if Article FOURTH B.4 applied to the Decanting, the power of appointment granted in the Second QTIP Trusts does not run afoul of the restriction. Respondent's position conflates two entirely distinct types of powers of appointment. The highlighted language restricted the trustees from granting Lois a lifetime, general power of appointment over the First QTIP Trust. However, the New Testamentary LPOA is not a lifetime power of appointment. It is not a general power of appointment. And in fact, it did not in any way either take advantage of the GST planning embodied in Article FOURTH B.4 or endanger the marital planning preserved by the exception to the same. Instead, the Decanting took advantage of the trustees' separate distribution authority and granted Lois a testamentary limited power of appointment. In other words, this paragraph not only does not expressly prohibit the Decanting — it is not even applicable to the type of appointment contained in the New Testamentary LPOA.

CONCLUSION

The Decanting here at issue was authorized separately and independently by the 1971 Trust Agreement itself and by the Ohio Decanting Statute. At common law, the use of decanting to grant a beneficiary a new power of appointment was well established. The seminal common law authority, Phipps, approved a trustee's distribution of assets to a second trust for the singular purpose of providing the beneficiary a power of appointment in favor of his wife, who was not a beneficiary of the original trust. Likewise, the Ohio Decanting Statute expressly states that the second trust may “[g]rant a power of appointment to one or more of the beneficiaries for whose benefit the property was so distributing, including a power to appoint trust property to . . . any other person, whether or not that person is a beneficiary of the first trust or the second trust.” Ohio Rev. Code Ann. § 5808.18(A)(3)(a). And here, the 1971 Trust Agreement explicitly authorized the Trustees to distribute assets in further trust and for Lois's estate planning purposes. In reliance on these uncontroverted authorities, the Trustees appointed assets to the Second QTIP Trusts to enable over $17 million to pass to charity.

Respondent's position stands alone against this tide. Accordingly, Petitioner's Motion for Partial Summary Judgment should be granted and the claimed charitable deduction allowed in full.

Dated: October 14, 2021

Respectfully Submitted,

CHRISTOPHER S. RIZEK
Tax Court Bar No. RC0369
CAPLIN & DRYSDALE, CHARTERED
One Thomas Circle, N.W.
Suite 1100
Washington, D.C. 20005
Telephone: 202/862-8852
crizek@capdale.com

BETH SHAPIRO KAUFMAN
Tax Court Bar No. KB0145
CAPLIN & DRYSDALE, CHARTERED
One Thomas Circle, N.W.
Suite 1100
Washington, D.C. 20005
Telephone: 202/862-5062
bkaufinan@capdale.com

MEGAN E. WERNKE
Tax Court Bar No. WM0603
CAPLIN & DRYSDALE, CHARTERED
One Thomas Circle, N.W.
Suite 1100
Washington, D.C. 20005
Telephone: 202/862-5088
mwemke@capdale.com

Attorneys for Petitioner