IRS designates certain CRAT arrangements as listed transactions

The IRS issued final regulations (T.D. 10051) Wednesday designating certain arrangements purporting to be charitable remainder annuity trusts (CRATs) as listed transactions, requiring disclosure by material advisers and certain participants in the transactions.

Listed transactions are transactions the IRS has identified as potential tax-avoidance arrangements and are subject to heightened reporting requirements.

CRATs are irrevocable trusts that let people donate assets to charity and draw annual income for life or for a specific time period. But these trusts are sometimes misused to eliminate income on the sale of property. In February 2022, the Justice Department sued to shut down a scheme that it said involved at least 70 CRATs, resulting in an estimated $40 million in taxable income not being reported and $8 million in tax revenue losses. 

The IRS has included abusive CRAT arrangements on its annual list of Dirty Dozen tax scams and schemes several times.

Material advisers and certain participants in the transactions must file disclosures with the IRS and are subject to penalties for failure to disclose, according to the regulations.

Notably, the IRS issued regulations here rather than a notice. “Crucially, this shift [toward regulations] reflects an intentional move away from the use of sub-regulatory ‘notices’ to identify tax shelters — a method that has recently failed in federal courts — toward formal ‘notice-and-comment’ rulemaking,” wrote Ed Zollars, CPA, tax partner at Thomas, Zollars & Lynch Ltd. in Phoenix, in the firm’s blog, Current Federal Tax Developments.

The final regulations, according to an IRS news release, describe transactions in which taxpayers purport to eliminate ordinary income and/or capital gain from the sale of property.

In the transactions identified by the regulations, property with a fair market value greater than its basis — such as interests in a closely held business or assets used or produced in a trade or business — is transferred to a CRAT.

The CRAT then sells the property and uses some or all of the net proceeds to purchase a single premium immediate annuity (SPIA), according to the regulations.

The IRS said taxpayers or beneficiaries in the arrangements misapply rules under Secs. 72 and 664 to claim that CRAT annuity payments are taxable only to the extent of the income portion of the SPIA annuity payment.

The final regulations follow proposed regulations published in March 2024 that identified certain CRAT transactions and substantially similar transactions as listed transactions for tax reporting purposes.

— To comment on this article or to suggest an idea for another article, contact Martha Waggoner at Martha.Waggoner@aicpa-cima.com.