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What Are the Extensions of Time to Pay Estate Tax?. IRC Section 6166 : Executor may elect to pay the federal estate and generation-skipping transfer tax attributable to the decedent’s interest in a closely–held business in installments over a period of up to 14 years

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what are the extensions of time to pay estate tax
What Are the Extensions of Time to Pay Estate Tax?
  • IRC Section 6166: Executor may elect to pay the federal estate and generation-skipping transfer tax attributable to the decedent’s interest in a closely–held business in installments over a period of up to 14 years
    • During the first 4 years, executor pays only interest on unpaid tax
    • Over as many as 10 additional years, executor pays off principal and interest on unpaid balance
what are the extensions of time to pay estate tax1
What Are the Extensions of Time to Pay Estate Tax?
  • IRC Section 6161 “Reasonable Cause”: IRS may extend the period for payment of tax for up to 10 years beyond the due date of the estate tax return
  • IRC Section 6159: IRS may permit installment payment of taxes where IRS believes it will facilitate payment of such taxes
  • IRC Section 6163: Estate tax attributable to reversionary and remainder interests in property can be deferred until after preceding interests in property terminate
when can extensions be used
When Can Extensions Be Used?
  • When the estate has insufficient liquidity to pay the estate taxes due without selling assets at a substantial loss
  • Where the estate can earn a greater after-tax rate of return than it spends in interest for the deferral privilege
  • Where future profits or cash flow from the decedent’s business can be used to pay all or part of deferred tax
what are the requirements
What Are The Requirements?

Section 6166:

  • Gross estate must include interest classified as “closely-held” business the value of which exceeds 35% of the adjusted gross estate
  • If decedent made a gift of property within 3 years of death, estate must meet 35% requirement both with and without the application of the 3 year inclusion rule
  • Aggregation of various business interests of decedent allowed for purposes of meeting the percentage requirement, provided:
    • Decedent owned 20% of total value of each, and
    • Each activity otherwise qualifies as a closely-held trade or business
what are the requirements cont d
What Are The Requirements? (cont’d)

Section 6166 (cont’d):

  • To qualify as an interest in a closely-held business the interest can be in a sole proprietorship, partnership, or corporation:
    • Partnership interest will qualify if 20% or more of total capital in partnership included in gross estate, or partnership has 45 or fewer partners
    • Stock in corporation qualifies if 20% or more in value of voting stock included in determining gross estate of decedent, or corporation has 45 or fewer shareholders
what are the requirements cont d1
What Are The Requirements? (cont’d)

Section 6166 (cont’d):

  • Definition of “trade or business” means business must be
    • Actively carried on, and
    • Require a management function
  • Active asset rule :
    • Denies installment payment for passive assets
    • Only active assets considered for purposes of “more than 35% of adjusted gross estate” test
    • Only active assets considered in determining value of business interest that qualifies for deferral
  • IRS now enforcing its right to demand a bond for up to twice the value of the deferred estate tax
what are the requirements cont d2
What Are The Requirements? (cont’d)

Section 6166 (cont’d):

  • Amount of federal estate or GST tax that may be deferred (paid in installments) is only the amount attributable to the value of the closely-held trade or business, the balance must be paid at the regular payment date
  • If estate qualifies and an election is made, the first installment of principal is due not later than 5 years and 9 months from the date of death
section 6166 14 year installment payout
Section 6166 (14-Year) Installment Payout

Example:

Andrea Apter died in 2011 when the value of her wholly-owned closely-held business, a computer center, was $3,600,000. Her gross estate was $8,000,000. Administrative costs, debts, and expenses totaled $300,000. Federal estate taxes totaled $1,910,000.

  • Qualification for Section 6166 Election:
    • Estate tax value of closely-held

business included in gross estate $3,600,000

    • Adjusted Gross Estate $7,700,000
    • 35% x Adjusted Gross Estate $2,695,000

Line 1 exceeds Line 3; estate qualifies

section 6166 14 year installment payout cont d
Section 6166 (14-Year) Installment Payout (cont’d)

Example (cont’d):

  • Computing Section 6166 Deferral Limitation:

Net Estate Value of Includable

and GST Tax x Closely-Held Business

(after credits) Interest / Adj. Gross Estate

$945,000 x $3,600,000 = $441,819

$7,700,000

Therefore, $503,181 ($945,000 - $441,819) of tax must be paid immediately

section 6166 14 year installment payout cont d1
Section 6166 (14-Year) Installment Payout (cont’d)

Example (cont’d):

  • Section 6601(j) 2% Interest Limitation:
    • $1,000,000 as indexed $1,360,000
    • Unified Credit Equivalent $5,000,000
    • Sum of (1) and (2) $6,360,000
    • Estate Tax on (2) $2,206,800(Disregard credits)
    • Unified Credit ($1,730,800)
    • Section 6601(j) 2% Interest Limitation $ 441,819
section 6166 14 year installment payout cont d2
Section 6166 (14-Year) Installment Payout (cont’d)

Example (cont’d.):

SECTION 6166 PAYMENT SCHEDULE*

Principal Interest Principal Interest Total Total Year 2%2%2.25%2.25%InterestPayment

1 $441,819 $8,925 $0 $ 0 $ 8,925 $8,925

2 441,819 8,925 0 0 8,925 8,925

3 441,819 8,925 0 0 8,925 8,925

4 441,819 8,925 0 0 8,925 8,925

5 397,636 8,925 0 0 8,925 53,107

6 353,454 8,033 0 0 8,033 52,215

7 309,273 7,140 0 0 7,140 51,322

8 265,091 6,248 0 0 6,248 50,430

9 220,909 5,355 0 0 5,355 49,537

10 176,727 4,463 0 0 4,463 48,645

11 132,545 3,570 0 0 3,570 47,752

12 88,364 2,678 0 0 2,678 46,860

13 44,182 1,785 0 0 1,785 45,967

14 0 893 0 0 893 45,075

Totals $84,790 $84,790 $526,610

* Maximum estate tax deferrable at 2% for decedents dying in 2011 is $441,819. Interest at 45% of the underpayment rate is projected at 2.25%(45% x 5%). Interest is compounded daily. Underpayment interest rate changes quarterly.

what are the requirements cont d3
What Are The Requirements? (cont’d)

Section 6161:

  • IRS may extend time for payment of tax shown on return for a period of up to 10 years beyond the due date of the return, upon showing of “reasonable cause” for extension
  • Interest is payable on such deferred taxes at regular underpayment rate
what are the requirements cont d4
What Are The Requirements? (cont’d)

Section 6161:

“Reasonable cause” not expressly defined. Guidelines include:

  • Inability to gather assets to pay estate tax when due
  • Substantial part of estate consists of assets with rights to receive payments in the future, and estate has insufficient present cash and inability to borrow against the assets except on unreasonable terms
  • Assets cannot be collected without litigation, or
  • Insufficient funds available, after exercise of due diligence, with which to pay tax in a timely fashion
what are the requirements1
What Are The Requirements?

Section 6159:

  • IRS authorized to enter into written agreements with taxpayers to pay taxes in installments where the IRS determines that such an agreement will facilitate payment of such taxes
  • Interest is payable on such installments at the regular underpayment rate
what are the requirements cont d5
What Are The Requirements? (cont’d)

Section 6159 (cont’d):

  • Agreement may be modified or terminated by IRS if:
    • Information provided by taxpayer inaccurate or incomplete
    • IRS believes collection of such taxes is in jeopardy
    • IRS determines financial position of taxpayer has changed (30 day notice to taxpayer required, including reason for change)
    • Taxpayer fails to make timely installment payment, or
    • Taxpayer fails to provide financial update requested by IRS
what are the requirements cont d6
What Are The Requirements? (cont’d)

Section 6163:

  • If reversionary or remainder interest in property is includable in the gross estate, executor can elect to defer payment attributable to these interest until 9 months after the termination of any precedent interests in the property
  • IRS may extend payment of tax for reasonable period up to an additional 3 years for reasonable cause
tax implications
Tax Implications
  • Interest is compounded daily and payable on the tax which is not paid by the due date of the return
  • Tax is deferred at the regular underpayment rate, redetermined quarterly, so as to be 3 percentage points over the short-term federal rate
tax implications cont d
Tax Implications (cont’d)
  • Under Section 6166 a special 2% interest rate is allowed, limited to the estate tax attributable to the first $5,000,000 (2011) of farm or closely-held business property, excess amounts bear interest at 45% of the regular underpayment rate
  • Under the 2% and 45% regular underpayment rate, interest cannot be deducted for estate and income tax purposes
community property
Community Property
  • Under Section 6166, in determining interests in a closely-held business or trade with regard to the 45 owner test of the allowable number of shareholders or partners, husband and wife are treated as one partner or shareholder
  • This also applies if the form of ownership is joint tenants, tenants by the entirety, or tenants in common