What is a Crummey letter?
A Crummey letter is a type of trust provision that allows a trustee to give beneficiaries the "right to demand" the assets held in the trust, for a limited period of time, after a contribution to the trust has been made by the trustmaker, who is usually the grantor or the parent of the minor beneficiary. The time period may vary depending on the desired structure of the trust. If the beneficiary does not demand the contribution then it simply stays in the trust, and for federal estate tax purposes, shall be exempt from the gift tax exclusion limitation. Apart from keeping the gift exclusion, such a demand may afford the beneficiary a lifetime exemption . The demand right provided by the Crummey letter prevents the Internal Revenue Service (IRS) from contending that a donor’s transfer of property, even though in trust, is a present interest or a gift of the present use of property, thus qualifying for the exclusion from the gift tax annual exclusion. To qualify, a Crummey letter must provide the beneficiary with a limited temporal power to withdraw the contributions to the trust. If a gift is made to a beneficiary without this right, the right to do so is important in order to have the gift excluded from the gift tax exclusion limitation of $13,000 per year (2011).
Key Elements of a Crummey Letter
It is important to note that the beneficiary of the Crummey letter does not have to request a distribution; he or she only has to be notified that there is the right to withdraw the amount scheduled to be gifted to them. It is also important to keep in mind that a trust can be the beneficiary instead of an individual.
The Crummey letter must clearly state the following:
- the date of the gift;
- the amount of the gift;
- a statement that the beneficiary has a right to demand that the amount given or promised to him or her be distributed to him or her;
- a statement that the demand must be made during a certain period of time, such as a 30-day period, which begins on the date of the statement;
- a statement that the beneficiary’s right to receive the amount gifted is a withdrawal right, rather than an ownership right;
- a statement that if the beneficiary has not demanded the amount as of the end of the stated period of time, the amount will be held in a trust for the benefit of the beneficiary;
- a statement disclosing the terms of the trust; and
- a statement disclosing that the amount given or promised to the beneficiary may be withdrawn in full or in part, but no request for partial withdrawal is required.
Requirements for a Crummey Letter to Meet a Gift Tax Exemption
A Crummey letter may be used to qualify gifts for the annual gift tax exclusion. The IRS requires that a Crummey letter give the donee a present right to withdraw the gift for a specific period of time, in order to avoid a gift tax liability for the donor. The period of rights must include at least one day where the donee actually has the right to withdraw the asset from the following entity:
• The Trustee of a Testamentary Trust: This is a trust that takes effect at the date of the testator’s death under the provisions of a will.
• Or the Scope of the Rights: The IRS has ruled that a Crummey letter must list the amount of the transfer and the type of property transferred, with a demand for withdrawal of that particular property. Failure to include the specific terms of the gift may cause some or all of Crummey withdrawals to be disallowed by the IRS, which eliminates the annual exclusion status of the trusts.
• Remainder Rights: In situations where only a portion of the transferred corpus qualifies for the annual exclusion, several Crummey letters must be issued in appropriate amounts to equal the annual gift tax exclusion for Crummey gifts.
Contrasting Legal Effect of Crummey Letter vs. Crummey Notice
One of the things that makes a properly executed Crummey notice different from a letter that says "Merry Christmas" is that, in addition to telling the donees what they have a right to do with a gift, the notice also tells them about the fact that there is a tax consequence and that they must affirmatively act or lose the benefit of the gift. This was discussed in Estate of Schneider, Decedent v. Commissioner of Internal Revenue [T.C. Memo 2011-225], where the Tax Court stated: the notice procedures served another purpose. The evidence shows that [the decedent] sent the trustees and the beneficiaries letters that explained the mechanics of the Crummey trust, including the tax consequences of both electing and not electing to withdraw amounts. The fact that the beneficiaries were aware of the tax consequences means that those tax consequences were reasonably anticipated for purposes of section 25.2503-3(a) of the regulations.
In other words, the intent of Congress was to ensure that donees were made aware of their ability to make Crummey withdrawals on an annual basis by adequately notifying them of that ability.
The IRS has been in the business of taxation for a long time and they have developed rules and procedures over the years that we must follow if we are to receive the intended benefits that the law sets out for us. Whether we are talking about holding onto tax returns, submitting proper and timely notices, or paying taxes on time, there are rules and procedures we have to follow. Failure to follow the rules and procedures means the taxpayer must pay the price. Normally, the price is simply paying whatever additional liability the IRS asserts against you. But sometimes the price is even higher, and that is the case with Crummey notices. If the holder of the trust does not give the beneficiaries proper notices, then the price that must be paid is the loss of at least the annual exclusion for that year.
As a result, the proper execution of Crummey notices can save a client substantial sums of money.
Drafting a Crummey Letter Effectively
Experience with the IRS has taught us that at least 10% of wealthier families do not follow IRS guidelines when making gifts and, hence, risk disallowing some deductions. The marketplace reveals there are fine lawyers at very big firms who, it seems, could do a better job on most of these gifts to help their clients. Doing a better job certainly won’t make anybody less wealthy unless the lawyer doesn’t bill enough for the time spent correcting things. It is for these moms and dads that we offer this advice on how to make a proper Crummey letter.
First, do your best to use clear language. Simplicity rules.
Second, use separate letters for each Crummey gift. With only rare exceptions, clients do not like getting one long letter that lumps all of the gifts into one awkward paragraph. To help maintain the simplicity, we suggest that you do not use form letters designed to put all of the variations into one letter. Having multiple letters helps avoid making mistakes when several family members are making gifts of different amounts with different instructions.
Third, put in a cover letter if other paperwork accompanies the Crummey letter.
Fourth, the first sentence should tell the recipient the purpose of the letter. The second sentence can give an example. The third sentence should instruct the recipient on what to do. The fourth sentence can explain why the instruction is important. Finally , the fifth sentence, or the last sentence, can thank the recipient and stress any reason for prompt action.
Unfortunately, these letters are neglected, and the recipients often discard them, or even fail to read them. We recommend a sentence or two of appreciation for the help being extended by the recipient, who is being asked to give money away for the benefit of the kids and grandkids. Yes, we all know the money already belongs to the kids and grandkids, but they will never say "thank you" to the mommies and daddies for setting things right. So, the money is given "as a gift for [fill in here]." For example, "I have given you this money as a gift for your college education or graduate school or in support of your business". The memory of the money being a gift for college or business can be a quick and easy answer to that niggling problem of which brother is not paying his share of the family bill. With some training, such facts can be recalled at a moment’s notice.
With those five sentences of clarity, simplicity, instruction, importance and appreciation, we expect your returns will be audit-proof — in style if not in substance.
What to Understand About a Common Crummey Letter Mistake
One of the most common mistakes we see is failing to specifically name the desired beneficiaries on the trust inventory that is served with the Crummey letter. Depending on how the trust is structured, this may result in the gift not qualifying for the Crummey exclusion.
Other times estate planners will but the Crummey letters into the estate planning binder without actually sending them out to the beneficiaries. Simply putting the letters into the binder is not enough to qualify for the exclusion. The right beneficiaries must receive the letter and be informed of the gift so they can decide if they wish to use their $15,000 gift exclusion to the IRS.
Trustees often fail to properly notify the beneficiaries of their $15,000 gift tax exclusion opportunities for multi-year gifts. For example, a father gives $15,000 to his daughter in 2018 and another $15,000 to her in 2019. This gift-cause $30,000 would cause a tax to the father if he had used both years without informing the daughter she could donate the $15,000 per year up to $30,000 in total between the two years.
Trustees frequently fail to send out the Crummey letters when multiple trustees are involved in a trust. Even though they are required to do so pursuant to the Trust Instrument, often one trustee will send out the letter while the other trustee thinks the other has done so. This happens with corporations as well. Individual directors of a corporation may think the corporate secretary is sending out the letter while the secretary sitting at her desk thinks the directors have already done so.
Answering Questions Regarding a Crummey Letter
What is a Crummey letter?
A Crummey letter gives a gift recipient a limited right to withdraw property in order to qualify a gift for the annual gift tax exclusion. If the gift recipient does not have this right of withdrawal, the gift will not qualify for the annual gift tax exclusion. Following the strategy, the donor gives an asset to a trust for the benefit of the beneficiary and then waits to see whether the beneficiary takes advantage of the withdrawal right. If he does, great. If not, the donor can start using a large part of his $11.58 million applicable estate and gift tax exemption. How do Crummey letters work? If a donor makes a gift to a trust for a beneficiary, he may give the beneficiary a limited right to withdraw from the trust as soon as the gift is made. This makes the gift a present interest to allow him to qualify for his annual gift tax exclusion. (The annual exclusion is $12,000 per donee for 2009.) In most cases, it also enables the donor to do "freezer" planning (generally, transfer assets to a trust for the benefit of a family member) with little or no current gift tax. If the donee does not exercise his withdrawal right, the funds must remain in the trust for the donee’s benefit and not be distributed until later. When the donee is older, the assets held in the trust can be distributed to the donee or used to purchase an annuity for the donee. If the donee needs the funds later for some unforeseen reason, he can get them. But if the funds are not needed, they can stay in the trust and be used to fund the donee’s retirement.
Does the donee have to wait before exercising his withdrawal right?
Generally, no. Most Crummey letters do not have to specify when the donee can exercise his withdrawal right. But to be safe, Crummey letters usually provide that the donee can exercise his right at any time, including on the date of the gift.
What happens if the donee does not exercise his withdrawal right but someone else writes the check for him?
In Revenue Ruling 75-90, the IRS explained that if a donee has a withdrawal right, the withdrawal right is valid even though the donor or someone else wrote the check. For example, if the donor gave $10,000 to a donee and his spouse wrote the check for $10,000, it would not affect the validity of the withdrawal right if they put "G_H_ bank account" where "G" is the donee.
When is the donee usually notified?
In general, the donee needs to be notified of the deposit so he can exercise his withdrawal rights and the IRS has said the donee must know where the money is being deposited. See Rev. Rul. 75-90. It is important to notify the donee because if the donee does not receive notice of the deposit, he cannot exercise his withdrawal right in a timely fashion.
Who gives the notice?
Some people wonder whether the investment advisor can give the notice. Yes, the gift donor need not be the one who gives the notice. However, the investment advisor does not have an attorney-client relationship and therefore, it is usually not advisable for him to give the notice.
Are there any state law requirements for the notice?
The only state law requirement for the notice is that it must be in writing delivered to the donee.
Lawyer Advice and Associated Picks
You likely have reached this section because you have a Crummey trust, are considering either creating one or using one to qualify for the gift tax exclusion, or you are considering how a Crummey letter may affect your estate planning. While I’ve tried to give you some general ideas, I also want you to be aware that legal advice regarding your specific situation can be very useful (and in some cases actually necessary). Given the numerous issues and potential pitfalls involved, when dealing with potential gift tax liability or the admissibility of Crummey letters to satisfy the gift tax exclusion, advice from a competent attorney is always a good idea.
In some states, such advice may even be mandatory depending on the nature of your situation. Whenever you have any doubt about the situations already addressed in this article, and probably there will be from time to time, I strongly suggest that you contact a competent attorney in your area. State laws regarding wills , trusts, and taxes can vary significantly and you owe it to yourself to get the best legal advice you can find.
I also want to recommend two other resources that may help you figure out what you need to do next. First, the American Bar Association’s Section on Real Property, Trust and Estate Law has a relatively comprehensive series of books on estate planning. Generally, most state and bar associations keep such books available for reference in their libraries. If you do not want to make a personal trip to the local library, many law associations (including the American Bar Association) make electronic versions of such books available on their websites or through various online retailers.
Second, there are numerous books on estate planning and gift taxes available in most local bookstores. They vary in both content and price, so shop around to find the one that best satisfies your needs.
