An out-of-date estate plan is sometimes only slightly better than none at all. But a recent Tax Court case illustrates how beneficiaries of a trust can sometimes use disclaimers to correct drafting errors in the trust due to an antiquated estate plan.

The decedent, Mr. Lassiter, died in May of 1994. His will from 1970 established two trusts. The first trust was to be funded according to a formula in the will (half of the estate), and was to pay all income at least semiannually to Mrs. Lassiter, who could also invade the trust corpus for her "proper support and comfort" according to the trustee’s discretion. This trust qualified for the marital deduction. 

The second trust was to hold the residue of the estate for the benefit of Mr. Lassiter’s survivors, including his wife, four daughters, and the eldest daughter’s husband. The trustee had discretion to distribute trust assets for the support of Mrs. Lassiter and for the support and education of the other survivors. Mrs. Lassiter was given an inter vivos power to appoint any trust property to the other survivors, but not to herself. She was also given a testamentary power to appoint the remainder of the trust, and if she failed to exercise this power, all remaining trust property would be distributed to Mr. Lassiter’s descendents, their spouses, and the children of any deceased children upon Mrs. Lassiter’s death. This trust, as drafted, did not qualify for the marital deduction.

When Mr. Lassiter executed the 1970 will, the marital deduction was not unlimited, as it is now. His will was designed to take full advantage of the limited marital deduction. In 1970, the Lassiters had one child and no income producing assets. By the time he died, he had accumulated holdings including the majority of stock in two corporations and their subsidiaries, partner and shareholder interests in real estate partnerships and S corporations, and various real properties. The residuary trust’s inability to qualify for the marital deduction would result in extra estate tax expense measured in millions of dollars.

To solve this problem, Mrs. Lassiter and the other beneficiaries carried out a plan involving disclaimers. First, all beneficiaries requested that the corporate trustee of the two trusts resign. Then, Mrs. Lassiter petitioned the probate court to appoint her as trustee of the two trusts and to give her power to disclaim trust powers. A guardian ad litem was appointed for the minor child of Mr. Lassiter and for all unborn and unascertained beneficiaries. Mrs. Lassiter executed two disclaimers, disclaiming her inter vivos right to appoint the residuary trust property and her power as trustee to distribute the trust property to the descendents. All descendents (including the guardian ad litem on behalf of the minor and unborn and unascertained descendents) executed disclaimers of their interests in the residuary trust during Mrs. Lassiter’s lifetime.

The marital trust was not funded. Instead, the residuary trust received all remaining estate assets. With the disclaimers executed, the estate filed a timely estate tax return claiming a QTIP marital deduction for all trust assets. But the IRS disallowed the deduction on the grounds that Mrs. Lassiter did not have a qualifying income interest for life in the residuary trust. Instead, the IRS allowed the estate a deduction for one half of the adjusted gross estate, as per the terms of the marital trust. The resulting estate tax deficiency was $14,330,496.

The Tax Court looked to state (Georgia) law to determine whether or not Mrs. Lassiter’s interest in the residuary trust should qualify. Since the disclaimers by Mrs. Lassiter, the children, and the guardian ad litem left Mrs. Lassiter as the only beneficiary eligible to receive trust income or principal during her life, the Court determined that her interest was a qualifying income interest for life. 

The IRS questioned the validity of the guardian’s disclaimers on the grounds that they did not protect the best interests of the minor child and the unborn and unascertained beneficiaries. But the Court, observing that "the renunciations endeavor to preserve in excess of $14 million in a trust naming Mr. Lassiter’s descendants as the ultimate remainder beneficiaries," upheld the disclaimers’ validity. The Court also disagreed with the IRS contention that Mrs. Lassiter’s attempts to obtain the increased deduction were a violation of her fiduciary duties as administrator and trustee.

In this case, clever use of disclaimers saved the estate over $14 million. Of course, had Mr. Lassiter updated his estate plan since the 1970 will, the same effect could have been achieved without the court battle and without the added stress to the family.