Current Developments in Estate Planning and Business Law: November Review

From long-awaited guidance on the tax treatment of cryptocurrency to the banning of forced arbitration agreements for workers in California—we’ve recently seen some impactful developments in estate planning and business law. To ensure that you stay abreast of these legal changes, we’ve highlighted five noteworthy developments and analyzed how they may impact your estate planning and business law practice. 

IRS Offers Clarity on Tax Treatment of Cryptocurrency

On October 9th, the Internal Revenue Service (IRS) released Rev. Rul. 2019-24, which provides guidance on the tax treatment of “hard forks” and “airdrops” in cryptocurrencies. According to the Revenue Ruling, 

[a] hard fork is unique to distributed ledger technology and occurs when a cryptocurrency on a distributed ledger undergoes a protocol change resulting in a permanent diversion from the legacy or existing distributed ledger. A hard fork may result in the creation of a new cryptocurrency on a new distributed ledger in addition to the legacy cryptocurrency on the legacy distributed ledger. 

The Revenue Ruling goes on to define an airdrop as “a means of distributing units of a cryptocurrency to the distributed ledger addresses of multiple taxpayers.”

The Ruling resolves two issues: 

(1) A taxpayer does not have gross income under § 61 as a result of a hard fork of a cryptocurrency the taxpayer owns if the taxpayer does not receive units of a new cryptocurrency. 

(2) A taxpayer has gross income, ordinary in character, under § 61 as a result of an airdrop of a new cryptocurrency following a hard fork if the taxpayer receives units of new cryptocurrency.

Whether or not there is gross income appears to hinge on whether the taxpayer has “dominion and control” over the new units. If the taxpayer has not received them, there is no accession to wealth and they would not be included in gross income.

The IRS also provided guidance on determining the cost basis of the cryptocurrency, looking to I.R.C. § 1011 as “the fair market value of the property when the property is received,” if the taxpayer did not purchase the property.

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Lastly, the IRS addressed the issue of the cash method vs. the accrual method of accounting and how it relates to the reporting of income from the cryptocurrency by referring to I.R.C. § 451. The cash method would have the taxpayer include the amount “in the taxable year it is actually received,” while the accrual method would have the taxpayer include the amount “no later than the taxable year in which all the events have occurred which fix the right to receive such amount.”

Takeaways: Prior to this Revenue Ruling, it had been many years since the IRS provided any guidance with respect to cryptocurrencies. As this form of currency gains popularity, it is crucial to understand how it is valued and taxed to ensure that we are providing the most comprehensive and accurate planning income, gift, and estate tax strategies for clients.

College Sues University Over Alleged Violation of Legacy Gift

Hillsdale Coll. v. Board of Curators of the Univ. of Mo., No. 17SL-CC03833 (St. Louis Cty. Ct. filed Oct. 18, 2017) 

Sherlock Hibbs, an alumnus of the University of Missouri, left a $5 million bequest in trust as part of his last will and testament to endow three chairs and three professorships at the University of Missouri’s business college. The trust’s terms required that each of the six appointees be a “dedicated and articulate disciple of the Ludwig von Mises (Austrian) School of Economics.” The University had to certify to Hillsdale College every four years that the appointments complied with those terms.

Hillsdale College filed suit claiming that the University put previously hired professors who were not followers of the Ludwig von Mises Austrian School of Economics into five of the six positions endowed under the trust. Should it be found that the University is not using the funds according to the trust’s terms, the trust dictates that the money is to go to Hillsdale College, which offers courses in Austrian economics and holds Mises’ personal library. 

Takeaways: While there has not yet been a final decision in this pending litigation, this case highlights a potentially effective way for a trustmaker to include safeguards in a trust. By placing a contingency on a gift, a client may feel more comfortable about making large bequests, whether to a university, a charity, or an individual. The inclusion of checks and balances—such as requiring the current beneficiary certify compliance to a contingent beneficiary—the trustmaker can feel peace of mind that their wishes will be carried out or that an interested party will step in to remedy the situation if there is a violation of the trustmaker’s terms.

No Toll for Financially Disabled Taxpayer 

Stauffer v. IRS, 939 F. 3d 1 (1st Cir. 2019)

Carlton Stauffer executed a durable power of attorney (DPA) naming his son, Hoff, as the agent. At the time, Carlton needed some assistance managing his affairs as he was suffering from mental illness. After a “falling out,” Hoff claims to have told his father, his sister, the accountant, and the attorney that he would not be exercising any rights under the DPA. However, Hoff never took any other steps to renounce his authority under the DPA. Carlton felt similarly about the relationship and did not want his son acting on his behalf. Despite drafting three notices to revoke the DPA, Carlton never delivered them. Hoff and Carlton later reconciled.

Upon Carlton’s death, Hoff was appointed personal representative of Carlton’s estate. During the course of administration, he discovered that his father’s income tax returns had not been filed from 2006 - 2012. Hoff filed all the missing returns in April 2013 and realized that the 2006 income tax return had an overpayment of $137,403. As part of the tax return filings, the estate requested a refund of $97,364 from the 2006 return and that the remaining balance be applied to the 2007 liability. Due to the two-year limitations period for requesting a refund, the IRS said the claim was untimely.

The estate argued that Carlton was financially disabled because of his mental condition, which tolled the limitations period for requesting a refund. The District Court agreed that Carlton was financially disabled during the period in question. However, the District Court found that despite their falling out, Hoff’s statements, and Carlton’s preparation of the revocations, none of the acts were deemed to actually renounce or revoke the DPA. According to I.R.C. § 6511(h)(2)(B), because Hoff was authorized to act on Carlton’s behalf, as agent under the DPA and during the period of time Carlton would have been deemed financially disabled, the financial disability exception would not apply and the limitations period for seeking the refund was not tolled.

The Appeals Court held that Hoff was authorized to handle his father’s tax matters, including filing the returns because, under the explicit terms of the DPA, he was authorized “even if he has no affirmative obligation to act on the taxpayer’s behalf.” Additionally, the Appeals Court found that an authorized person “is not required to have actual or constructive knowledge of the need to file tax returns in a specific year” due to the lack of provisions in I.R.C. § 6511(h)(2)(B) imposing such a requirement. Lastly, the district court did not err in finding that the DPA was neither renounced by Hoff nor revoked by Carlton. 

Takeaways: Choosing an agent to act on the client’s behalf under a durable financial power of attorney is a serious decision. It is important that the individual chosen as agent be trustworthy, reliable, and someone who will step up and act, if needed. If there is a doubt of the proposed agent’s responsibility, or of the relationship between the principal and agent is tenuous or at risk for a falling out, that individual may not be the best choice.

Additionally, clients (and agents) are entitled to change their mind. If a client has a change of heart and wants to revoke the appointment and/or name someone else—or if the named agent wants to renounce their appointment—it is crucial that the client follow all the necessary steps. Unless the renunciation or revocation is clearly communicated, the individual is still authorized to act on the client’s behalf. This is yet another reason to stay in touch with a client, and review their estate plan every few years.

Lawsuit To Overturn SALT Deduction Caps Dismissed

State of New York, State of Connecticut, State of Maryland and State of New Jersey v. Steven T. Mnuchin et al (S.D.N.Y., Civil Action No. 18-cv-6427, July 17, 2018)

Four states—Connecticut, Maryland, New Jersey, and New York—were seeking “declaratory and injunctive relief” to eliminate the new state and local tax (SALT) deduction cap brought on by the Tax Cuts and Jobs Act. Previously, there was no cap on the amount of state and local sales, income, and property taxes that taxpayers could claim on Schedule A of their Form 1040. Currently, the cap is $10,000 for joint filers and $5,000 for separate. 

Judge Oetken dismissed the case, finding that the states had failed to prove “that the SALT cap violates the federalism principles that undergird the US Constitution.” As part of his ruling, Judge Oetken highlighted the difference between states’ rights and individual taxpayers’ rights saying, “the States have disclaimed any intent to invoke the rights of their citizens,” due to the fact that the states asserted that the cap “violates their own sovereign rights.” He went on to say that “it may well be the case that the states’ taxpayers will have an incentive to challenge the SALT cap in individual refund suits.”

Takeaways: As Judge Oetken remarked, while the states may not have grounds for challenging the cap, there is an indication that individual taxpayers might be able to. Future refund cases may be poised to shape one of the more controversial aspects of the 2017 Tax Cuts and Jobs Act.

Many of the taxpayers impacted by the SALT cap reside in states that have historically been affiliated with the Democratic Party.  With the upcoming 2020 election, it will be interesting to see how long the cap on the SALT deduction remains. 

California Bans Forced Arbitration Agreements 

California Assembly Bill 51

On October 13, 2019, California Governor Gavin Newsom signed Assembly Bill 51 (AB 51) into law, banning most employment arbitration agreements in California starting January 1, 2020. AB 51 prohibits employers from requiring applicants, employees, and potentially independent contractors to waive any right, forum, or procedure established by the California Fair Employment and Housing Act and the Labor Code. The law applies to “contracts for employment entered into, modified, or extended on or after January 1, 2020.” The stated purpose of AB 51 is to ensure that any contract relating to those rights and procedures be entered into voluntarily and without coercion. Due to its particular placement in the Labor Code, violation of the law will constitute a misdemeanor.

Takeaways: AB 51 could have significant impact on California employers across all industries—if it ever goes into effect, as there are significant questions around whether the new statute is invalid. AB 51 may be preempted by federal law that favors arbitration. The Federal Arbitration Act (FAA) was enacted in 1925 to ensure the validity and enforcement of arbitration agreements. State laws attempting to obstruct arbitration have been repeatedly and consistently struck down by the US Supreme Court as preempted by the FAA. Nonetheless, California employers should be familiar with AB 51 and the possibility that mandatory arbitration agreements in the employment context will be unenforceable in the State beginning in 2020.

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