Including All Trusts in the Settlor’s Estate – The Skinny on Helmholz and Sections 2036 and 2038 Recalling the Tale: The Emperor’s New Clothes

This article examines the application of §§ 2036(a)(2) and 2038(a) to the common law power of the settlor of an irrevocable trust to terminate or modify a trust with the consent of all beneficiaries. The power is well known and generally universal in the United States, except for Louisiana, and is described in Restatement (Second) of Trusts, Section 338(1), and Restatement (Third) of Trusts, Section 65(2). Any intent of the settlor to prohibit termination or modification is irrelevant and does not impede this joint action. This common law was also codified in Uniform Trust Code (“UTC”) Section 411(a), although in a later revision of the UTC the provision was made optional. This change in the UTC, as well as a change in its virtual representation provisions, was due to the ruckus in Arizona that resulted in the repeal of the first UTC act there.

This discussion does not prove that an estate tax inclusion is a certitude for all trusts under the common law (outside Louisiana) or optional UTC Section 411(a), but it establishes that there is a reasonable basis to treat trust property of many trusts, whether or not revocable, as includable in the gross estate of the settlor when the trust terms and applicable law that grant the settlor the power to modify or terminate a trust are carefully analyzed. The recent Powell decision may herald a trend toward more likely application of §§ 2036 and 2038 when the settlor holds a joint power with others to determine or modify rights of persons in property transferred by the settlor. The analysis may offer a significant opportunity to many beneficiaries when the estate of a settlor decedent is nontaxable.