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What type of expenses qualify as administrative expenses for an estate on Form 1041?

What type of expenses qualify as administrative expenses for an estate on Form 1041?

( Asked 03/01/11 02:21 PM, Viewed by asker 03/01/11 04:57 PM, Views by community 125 )

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IRS Publication 559:

Administration Expenses

Expenses of administering an estate can be deducted either from the gross estate in figuring the federal estate tax on Form 706 or from the estate's gross income in figuring the estate's income tax on Form 1041. However, these expenses cannot be claimed for both estate tax and income tax purposes. In most cases, this rule also applies to expenses incurred in the sale of property by an estate (not as a dealer).

 

To prevent a double deduction, amounts otherwise allowable in figuring the decedent's taxable estate for federal estate tax on Form 706 will not be allowed as a deduction in figuring the income tax of the estate or of any other person unless the personal representative files a statement, in duplicate, that the items of expense, as listed in the statement, have not been claimed as deductions for federal estate tax purposes and that all rights to claim such deductions are waived. One deduction or part of a deduction can be claimed for income tax purposes if the appropriate statement is filed, while another deduction or part is claimed for estate tax purposes. Claiming a deduction in figuring the estate income tax is not prevented when the same deduction is claimed on the estate tax return so long as the estate tax deduction is not finally allowed and the preceding statement is filed. The statement can be filed with the income tax return or at any time before the expiration of the statute of limitations that applies to the tax year for which the deduction is sought. This waiver procedure also applies to casualty losses incurred during administration of the estate.

 

BNA: ¶6260.01.C. Administration Expenses

 

1. Administration Expenses Defined

 

The administration of a decedent's estate involves the collection of assets, the payment of debts, and the distribution of the property to the persons entitled to the property. 20 The expenses incurred in this context include executor's commissions, attorney's fees, and miscellaneous expenses. 21 Expenditures not essential to the proper settlement of the estate, but incurred for the individual benefit of the heirs, legatees, or devisees, may not be taken as deductions. 22

 

 

20 A formal administration is not required for the deduction of administration expenses to be available if, under local law, the decedent's estate may be informally distributed.

See  Pitner v. U.S., 388 F.2d 651 ( 5th Cir. 1967 ).

 

21 Regs. § 20.2053-3(a) ; PLR 200532049 (Attorney's fees and expenses of litigation arising from malpractice of estate's attorney are deductible administration expense under § 2053 ). However, in community property states only those claims and expenses which are obligations of the decedent personally or of his or her estate may be deducted in full. Where only one-half of the marital property is included in the gross estate, the deduction is also limited.

See  U.S. v. Stapf, 375 U.S. 118 ( 1963 ).

 

22 See  Pennsylvania Bank & Trust Co. v. U.S., 451 F. Supp. 1296 ( W.D. Pa. 1978), aff'd , 597 F.2d 382 ( 3d Cir.), cert. denied ., 444 U.S. 980 ( 1979 ) (Payment by the estate to settle litigation by prospective heirs challenging the validity of the decedent's will was not administrative expense, but rather form of inheritance and, therefore, was not deductible); Black Est. v. Comr., 133 T.C. No. 15 ( 2009) (Disallowing part of estate's claimed § 2053(b) deduction for selling expenses, fiduciary commissions, and legal fees because such part did not correspond to efforts or expenditures on estate's behalf). The Second Circuit has held that in order for an expense to be deductible under § 2053 , it must qualify as an “administration expense” under both the applicable state law and the federal law as delineated in Regs. § 20.2053-3 . Apparently, even the cost of “nuisance” litigation would not be deductible.

See  Grant Est. v. Comr., 294 F.3d 352 ( 2d Cir. 2002 ) (Allowed maximum amount of personal representative's fee based on value of estate assets and maximum amount of trustee's fees based on value of trust assets; estate and trust assets segregated for this purpose).

See also  Tehan Est. v. Comr., T.C. Memo 2005-128 (Executor's commissions allowed by local court deductible under § 2053 only to extent allowable under state statute, which calculated maximum allowable by reference to amount of probate property). In TAM 200648028 , the National Office advised that an estate could deduct attorney's fees and expenses incurred by trust beneficiaries (and paid by the trust with probate court approval) related to resolving beneficiary disputes, selling trust property, obtaining trust accountings, valuing trust assets and liabilities, and assisting in preparation of the estate tax return to the extent the expenses satisfied the § 2053(a)(2) requirements.

 

2. Executor's Commissions

 

The executor's (or personal representative's or administrator's) commissions for managing the estate are deductible. Under final regulations issued in 2009, executors' commissions are deductible to the extent otherwise permitted, but an estate may not take a deduction if no commissions are to be paid. 23 The amount of the commissions deducted must be in accordance with the usually accepted standards and practice of allowing such amounts in estates of similar size and character in the jurisdiction where the estate is being administered. The estate must justify any deviation from the usually accepted standards or range of amounts (permissible under applicable local law). 24

 

23 Regs. § 20.2053-3(b)(1) , amended by T.D. 9468 , 74 Fed. Reg. 53652 (10/20/09). Regs. § 20.2053-3(b)(1) cross references the Regs. § 20.2053-1 requirements, which are discussed in ¶ 6260.01.A , above. The final regulations are effective for estates of decedents dying on or after Oct. 20, 2009. Regs. § 20.2053-3(e) .

 

24 Regs. § 20.2053-3(b)(1) . For estates of decedents dying before Oct. 20, 2009, former Regs. §20.2053-3(b)(1) provided that the commissions had to be paid or be reasonably expected to be paid and that, if the amount of the commissions had not been fixed by a proper court decree, the deduction would be allowed if: (1) the IRS was satisfied that the commissions claimed would be paid; (2) the deduction claimed was within the amount allowable by the laws of the jurisdiction in which the estate was being administered; and (3) the payment was in accordance with the usually accepted practice in the jurisdiction to allow such an amount in an estate of similar size and character.

  

A bequest or devise to the executor in lieu of commissions is not deductible. 25 If, however, the decedent fixed by his or her will the compensation payable to the executor for services to be rendered in the estate administration, a deduction may be taken to the extent that the fixed amount does not exceed the compensation allowable by the local law or practice. 26

  

25 Regs. § 20.2053-3(b)(2) . Similarly, an executor who is the residuary legatee of the estate being administered might consider waiving the commission when his or her income tax savings (from having no gross income) will be greater than the increased estate tax (attributable to the loss of the estate tax deduction for the commission paid).

See Rev. Ruls. 64-225 , 1964-2 C.B. 15, 66-167, 1966-1 C.B. 20.

See the discussion concerning post-mortem estate planning in ¶6350 , below.

 

26 Regs. § 20.2053-3(b)(2) . The 2009 final regulations added a cross reference to the Regs. § 20.2053-1 requirements.

Id., amended by T.D. 9468 .

 

3. Attorney's Fees

 

The executor or administrator, in filing the estate tax return, may deduct attorney's fees. Under final regulations issued in 2009, attorney's fees are deductible to the extent otherwise permitted and the deduction may not exceed a reasonable remuneration for the services rendered, taking into account the: (1) size and character of the estate; (2) law and practice in the jurisdiction where the estate is being administered; and (3) skill and expertise of the attorneys. 27

  

27 Regs. § 20.2053-3(c)(1) , amended by T.D. 9468 , 74 Fed. Reg. 53652 (10/20/09). Regs. § 20.2053-3(c)(1) cross references the Regs. § 20.2053-1 requirements, which are discussed in ¶ 6260.01.A , above. The final regulations are effective for estates of decedents dying on or after Oct. 20, 2009. Regs. § 20.2053-3(e) . For estates of decedents dying before Oct. 20, 2009, former Regs. §20.2053-3(c)(1) provided that the estate could deduct the amount of attorney's fees that had actually been paid or an amount that, at the time of filing, could reasonably be expected to be paid. If, on the final audit of the estate tax return, the fees claimed had not been awarded by the local court and paid, former Regs. §20.2053-3(c)(1) stated that the deduction would be allowed if the IRS was reasonably satisfied that the amount claimed would be paid and that it did not exceed a reasonable remuneration for the services rendered, taking into account the estate's size and character and the local law and practice.

See, e.g., Baird Est. v. Comr., T.C. Memo 1997-55 (Attorney's fees of $368,000 for approximately 500 hours of work allowed in $17 million estate, where estate requested, and local court approved, fee of less than amount of one statutory executor's commission and local attorneys customarily receive fees equal to one executor's commission; attorney, who was experienced in estate matters, undertook significant responsibility in representing large estate; and services were necessary for administration of estate).

  

A deduction for attorney's fees incurred in contesting an asserted estate tax deficiency or in prosecuting a refund claim should be claimed at the time the deficiency is contested or the refund claim is prosecuted. A deduction for reasonable attorney's fees actually paid in contesting an asserted deficiency or in prosecuting a claim for refund will be allowed even though the deduction was not claimed on the estate tax return or in the refund claim. 28

 

 28 Regs. § 20.2053-3(c)(2) . The 2009 final regulations added a cross reference to the Regs. § 20.2053-1 requirements.

Id., amended by T.D. 9468 .

  

Beneficiaries may incur attorney's fees in contesting their rights to property under an estate. These fees are not deductible to the estate for estate tax purposes if the litigation is not essential to the proper settlement of the estate. 29

  

29 Regs. § 20.2053-3(c)(3) .

 

4. Miscellaneous Administration Expenses

 

Deductible miscellaneous administration expenses include court costs, surrogates’ fees, accountants’ fees, appraisers’ fees, and interest. 30 Expenses incurred in preserving and distributing the estate are deductible, including the cost of storing or maintaining property of the estate, if immediate distribution to the beneficiaries cannot be completed. 31 An estate may deduct the interest on a loan incurred to pay the estate tax. 32 Interest paid to the IRS for the late payment of estate tax and related penalties may also be deductible. 33

  

30 See Regs. § 20.2053-3(d) . In Rev. Proc. 81-27 , 1981-2 C.B. 548, the IRS established the procedure to be followed to deduct the interest expense on estate taxes deferred under § 6166 . However, when the interest rate under § 6166 was lowered from 4% to 2% by the Tax Reform Act of 1997, the interest deduction was no longer allowed.

See §§ 2053(c)(1)(D) (Estate tax), 163(k) (Income tax). This subject is discussed in ¶6300.05.B.1 , below.

See also Rev. Rul. 81-256 , 1981-2 C.B. 183. The Tax Court has extended the § 7481(d) - type procedure to allow estates to deduct interest paid during an extension obtained under § 6161 . Wetherington Est. v. Comr., 108 T.C. 49 ( 1997 ). If the interest paid is subsequently refunded by the IRS, the deduction may have to be reduced accordingly and the estate taxes recalculated.

See, e.g., Succession of Helis v. U.S., 52 Fed. Cl. 745 ( 2002), vacated in part , 56 Fed. Cl. 544 ( 2003 ) (Estate of decedent who died in 1980 is not entitled to § 2053 deduction for interest paid during § 6166 deferral period that is to be refunded as part of court's judgment because interest was not “necessarily incurred” as required by Regs. § 20.2053-3(a) ).

 

31 Regs. § 20.2053-3(d)(1) . Regulations issued in 2009 added a cross reference to the Regs. § 20.2053-1 requirements, which are discussed at ¶ 6260.01.A , above.

Id., amended by T.D. 9468 , 74 Fed. Reg. 53652 (10/20/09). The final regulations are effective for estate of decedents dying on or after Oct. 20, 2009. Regs. § 20.2053-3(e) .

 

32 See, e.g., Gilman Est. v. Comr., T.C. Memo 2004-286 (Deduction allowed for interest and closing costs on loan to extent proceeds used to pay estate taxes because, although estate had sufficient assets, loan was necessary because assets were illiquid; court ignored estate's § 6166 election because estate had paid taxes in full after being advised that § 6166(g) acceleration was likely); McKee Est. v. Comr., T.C. Memo 1996-362 (Deduction allowed for interest and prepayment fees because loans were necessary cost of administering estate; court would not second guess executor's decision to borrow funds privately rather than make § 6166 election); Axtel v. U.S., 860 F. Supp. 795 ( D. Wyo. 1994 ); Bahr Est. v. Comr., 68 T.C. 74 ( 1977), acq.

 1978-2 C.B. 1 . In PLRs 200449031 , 199903038 , and 200020011 , the IRS allowed a deduction for interest due on a loan obtained to pay estate taxes, provided that the expense was necessarily incurred in the administration of the estate. In PLR 199952039 the IRS ruled that an estate could deduct all interest on a loan incurred to pay estate taxes of an illiquid estate.

Cf.  Black Est. v. Comr., 133 T.C. No. 15 ( 2009) (Estate could not deduct interest on loan used to pay estate taxes and other liabilities under § 2053(a)(2) because loan was unnecessary); Stick Est. v. Comr., T.C. Memo 2010-192 (Same) ; TAM 200513028 (Loan interest stated in note executed for advance from partnership to estate is not deductible as expense of administration under § 2053(a) because loan will have no economic impact on parties’ involved; same parties owned and controlled both borrower and lender, and there was circular flow of funds). Note that even if requested the IRS might not rule on the necessity to the estate of borrowing funds. In PLR 200449031 the IRS noted that the interest attributable to the loan obtained from a bank to pay the estate's federal and state estate tax liability was deductible as an administration expense under § 2053(a)(2) if it was determined that the loan was necessary for the administration of the estate, but expressed no opinion on whether, or to what extent, the loan was actually necessary for the administration of the estate.

 

33 See  FSA 199908009 (Interest paid by estate on fraud penalty may be deductible).

  

Expenses for selling property of the estate are deductible if the sale is necessary to pay the decedent's debts, administration expenses or taxes, to preserve the estate, or to effect distribution of the estate assets. 34 For this purpose, “expenses for selling property” includes brokerage fees and other expenses associated with the sale, such as the fees of an auctioneer if such services are necessary. 35

 

 34 Regs. § 20.2053-3(d)(2) . The 2009 final regulations added a cross reference to the Regs. § 20.2053-1 requirements.

Id., amended by T.D. 9468 . The validity of Regs. § 20.2053-3(d)(2) was unsuccessfully challenged in Smith Est. v. Comr., 57 T.C. 650 ( 1972),

aff'd on other grounds, 510 F.2d 479 ( 2d Cir.),

cert. denied, 423 U.S. 827 ( 1975 ).

See also Rev. Rul. 77-461 , 1977-2 C.B. 324. In Millikin Est. v. Comr., 125 F.3d 339 ( 6th Cir. 1997 ), the Sixth Circuit reversed its position (after an en banc review) and found the regulation to be valid. On remand, the Tax Court held that the expenses for maintaining and selling the decedent's residence, after the date of the estate tax return filing and payment of taxes therewith, were not deductible as administration expenses under § 2053(a) and Regs. § 20.2053-3(a) and (d)(2) , since those expenses were not necessary. T.C. Memo 1998-456 .

See also Lasarzig Est. v. Comr., T.C. Memo 1999-307 (Interest on loan incurred by estate's beneficiaries to pay QTIP trust's estate tax liability after distribution of QTIP trust property, to avoid selling QTIP trust property, not shown to be deductible under § 2053 , since estate was without assets to pay the liability and did not require any further administration or expense); Baird Est. v. Comr., T.C. Memo 1997-55 (Attorney's fees incurred in selling decedent's residence, which was specifically devised, not deductible because sale was for sole benefit of devisee and was not necessary for administration of estate). In some circumstances, the cost of refinancing real property of an estate may be deductible.

See, e.g., Concordia Est. v. Comr., T.C. Memo 2002-216 (Estate could deduct costs of refinancing rental property when distribution in kind would not permit equal division of assets among legatees and property could not be sold for fair market value because of long-term lease).

 

35 Regs. § 20.2053-3(d)(2) .

  

State law may require that interest be paid on the late distribution of a pecuniary bequest. The intent of such a statute is to compensate the beneficiary for the loss of use of the funds during the delayed distribution period. The IRS position is that such interest is not deductible as an administrative expense. 36 However, one court has held that such statutory interest on a pecuniary bequest incurred by an estate while “prudently” waiting for the IRS estate tax closing letter was deductible by the estate as an administrative expense. 37

  

36 See TAM 9604002 (Interest paid on transfer from decedent's revocable trust is not deductible under § 2053 ).

 

37 Turner v. U.S., 306 F. Supp. 2d 668 ( N.D. Tex. 2004 ) (Citing § 2053 and Regs. § 20.2053-3(a) ).

  

The 2009 final regulations provide that expenses incurred in defending the estate against claims are deductible, if the expenses are incurred incident to the assertion of defenses to the claim available under the applicable law, even if the estate is not ultimately victorious. 38

  

38 Regs. § 20.2053-3(d)(3) , added by T.D. 9468 . Expenses incurred in defending the estate against claims include costs relating to the arbitration and mediation of contested issues, costs associated with defending the estate against claims (whether or not enforceable), and costs associated with reaching a negotiated settlement of the issues.

Id.

 

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( Answered 03/01/11 02:26 PM ,Views by community 125 )

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Regarding Miscellaneous Administration Expenses:   "30 Expenses incurred in preserving and distributing the estate are deductible, including the cost of storing or maintaining property of the estate, if immediate distribution to the beneficiaries cannot be completed."

Further Question:  are these expenses subject to the 2% floor if they are being deducted on Form 1041?

 

( Commented 01/07/13 09:49 AM ,Views by community 88)

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