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Under federal income tax law, distinc- tions are made among:
- Ordinary trusts that file Form 1041,
U.S. Income Tax Return for Estates and Trusts, for domestic trusts, or Form 1040-NR, U.S. Nonresident Alien Income Tax Return, for foreign trusts;
- Business trusts that file as corpora- tions, partnerships, or disregarded entities;
- Investment trusts; or
- Liquidating trusts.
In some situations, the document may on its face create a trust, but the arrangement may be considered a mere nominee for federal income tax purposes.
In the foreign context, especially when dealing with civil code countries, the term “trust” may not even appear in the documentation of the arrange- ment. Examples of terms used include stiftung, privatstiftung, anstalt, sticht- ing, and foundations. However, these entities often will be classified as trusts for federal income tax purposes.
Further- more, if the arrangement is considered a foreign trust, substantial penalties may be imposed for failure to properly file Form 3520-A, Annual Information Re- turn of Foreign Trust With a U.S. Owner, and Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts.
Ordinary trusts
Regs. Sec. 301.7701-4(a) defines a “trust” as follows:
In general, the term “trust” as used in the Internal Revenue Code refers to an arrangement created either by a will or by an inter vivos declaration whereby trustees take title to prop- erty for the purpose of protecting or conserving it for the beneficiaries under the ordinary rules applied in chancery or probate courts. Usually the beneficiaries of such a trust do no more than accept the benefits thereof and are not the voluntary planners or creators of the trust arrangement. However, the beneficiaries of such a trust may be the persons who create it and it will be recognized as a trust under the Internal Revenue Code if it was created for the purpose of pro- tecting or conserving the trust prop- erty for beneficiaries who stand in the same relation to the trust as they would if the trust had been created by others for them. Generally speak- ing, an arrangement will be treated as a trust under the Internal Revenue Code if it can be shown that the pur- pose of the arrangement is to vest in trustees responsibility for the protec- tion and conservation of property for beneficiaries who cannot share in the discharge of this responsibility and, therefore, are not associates in a joint enterprise for the conduct of business for profit.
The key elements in this definition are
(1) trustees holding title to the property and
(2) doing so for purposes of protecting and conserving the prop- erty for the beneficiaries. Tax advisers reviewing the documentation, facts, and circumstances surrounding a particular entity should examine these factors and determine whether the entity is a person owning or holding title to property for the purpose of protecting, conserving, and investing those assets for the benefit of beneficiaries. Mere nominee arrangement
In two revenue rulings — Rev. Rul. 92-105 with respect to an Illinois landtrust and Rev. Rul. 2013-14 with respect to a Mexican land trust — the IRS ruled that when a trustee’s only responsibility is to hold and transfer title to property at the direction of the settlor/beneficiary, a trust has not been established for federal income tax purposes. Under these cir- cumstances, the trustee is an agent of the settlor/beneficiary. This conclusion fol- lows from the facts and circumstances, which revealed that the trustee had no obligation to protect and conserve the property because the direction, manage- ment, and control of the asset fell to the settlor/beneficiary.
