Liquidating trust interests

The tax regulations define an investment trust as one created for the primary purpose of preserving and protecting investment funds on behalf of beneficiaries rather than to carry on a profit-making business activity (Treas. A trust with multiple classes of ownership will be classified as an ordinary trust if the same conditions are satisfied.Also, the classification works if the trust is formed to facilitate direct investment in the assets of the trust and multiple ownership classes are merely incidental to that purpose (the 1986 so-called Sears regulation addition).

The article concludes with a discussion of three "special purpose trusts" and how their unique structure and purpose affects their particular classification as a business trust (investment trusts, liquidating trusts and environmental remediation trusts). The term "trust" as used in the classification regulations therefore refers to an arrangement whereby trustees accept title to property for the sole or primary purpose of protecting or conserving it for the trust beneficiaries. Business trusts, on the other hand, often involve trusts created by beneficiaries as a device to carry on a profit- making business and thus do not involve a trust created by a settlor to simply protect or conserve property for beneficiaries (Treas. The presence of a business purpose gives trusts their "business trust" moniker and often is the most important of the two tests because it is not possible for a trust to have "associates" when the trust does not also have a business purpose. 344 (1935) and its three companion cases, Swanson v. In these cases, the issue becomes whether the business activities are merely "incidental and necessary" to the declared liquidation purpose or are rather dominant to that purpose. The tax regulations define an environmental remediation trust as one created for the primary purpose of collecting and disbursing amounts for environmental remediation of an existing waste site in order to address the potential liability of persons with a reasonable expectation of liability under state or federal law and those persons are the only contributors to the trust (Treas. As with liquidating trusts, if the initial remediation purpose becomes later obscured by business or investment purposes, the trust will "become" a business trust.

Ordinary trusts do not have associates or an objective to carry on business for profit (Treas. Thus, a trust-type arrangement will be respected as a trust only where a settlor creates the trust with a purpose to vest the trustees with responsibility for the protection and conservation of property for beneficiaries who cannot share in the discharge of this responsibility and therefore are not considered associates in a joint enterprise for the conduct of business for profit (Treas. The business purpose standard was initially developed in Morrissey v. Private Letter Ruling 9108025 was released prior to the check-the-box regulations and determined that an environmental remediation trust was an association because it possessed a business purpose and associates but was taxable as a partnership rather than a corporation because it lacked limited liability and free transferability of interests.

Those business trusts interested in being classified as a corporation for federal tax purposes may do so by filing an election to be taxed as a corporation. It's important to note that the trust is disregarded only for federal income tax purposes and not other state law purposes. 385 (1937), did the court determine that a trust lacked a business purpose. The land was transferred to the trust subject to a contract granting others the right to subdivide and sell. The Tax Court noted that the Morrissey standard requires that the beneficiaries be joined together in a common business effort.

Although disregarded entity status is not typical for a trust, the reporting status of such a trust is essentially that of a grantor trust where trust income is taxed directly to the sole beneficiary as if received directly by the beneficiary (see Treas. For example, the trust liability shield should apply to beneficiaries who do not improperly participate in the management of trust affairs and the trust would continue to be a separate legal entity for contract law purposes. The trust instrument specifically provided that the trustee was to have no management power over the affairs of the trust but was merely to hold title to the real estate transferred to it, and to collect and distribute proceeds from the sale of the lots. This in turn requires some concerted, purposeful and voluntary effort on the part of the beneficiaries to either "plan or join" a pre- existing business activity for the "purpose of sharing the fruits" of its business activities. 334 (1984)), some further act on their part is necessary to satisfy the "associates" requirement.

Since the regulations require that all trust contributors be its beneficiaries, the associates standard will most always be present if the business purpose standard is also present.

Thus, the critical analysis is whether the trust instrument properly confines the trustee's powers to merely collecting, preserving, protecting and disbursing environmental remediation funds rather than using those funds as an investment vehicle or to conduct an environmental remediation business. Investment trusts with fixed asset bases and a single class of ownership are considered ordinary trusts provided that the trust instrument does not reflect a power to vary the interests of the certificated beneficiaries.

The check-the-box regulations carried forward the Kintner regulations theme that ordinary trusts were classified and taxed like trusts. These authorities analyze the trust instrument and the specific nature of the trust to determine whether the trustee has the broad power to conduct a business regardless of whether that power is exercised and regardless of the settlor's intent that the trust not be used to carry on a business. Unfortunately, as discussed below, once the business purpose standard is met, the associates standard is also very easy to satisfy.

However, once a trust is considered a business trust, the classification results are dramatically different. Lewis & Co trust, the Wyman trust was created with a single property and the trustee was not authorized to deal with any other property. Morrissey again played a central role in the early formulation of this standard by indicating that the term "associates" implies persons entering into a joint business enterprise for the purpose of sharing the gains of that business. 803 (1981), determined that a trust created with a business purpose was not a business trust because it lacked associates.

Business trusts were considered a corporation or a partnership depending on whether the trust's legal characteristics more closely resembled those of a corporation or a partnership. 344 (1935), the Kintner regulations provided that trusts possessing three of four identified corporate criteria were taxable as corporations (free transferability of interests, limited liability, centralized management, and continuity of life).

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