Paying Estate Tax In Installments

Internal Revenue Code Section 6166(a)(1) provides that an executor may elect to pay all or a portion of the estate tax attributable to a closely held business in two (2) or more equal annual installments (no more than 10 annual installments are allowed). Requirements to qualify:

  • Decedent was a citizen or resident of the United States on the date of death.

  • The value of the decedent’s interest in a closely held business must exceed 35 percent of the adjusted gross estate.

  • A timely filed return including a timely IRC 6166 election request was filed.

An interest in a closely held business is defined as:

  • A proprietorship that carries on a trade or business.

  • An interest in a partnership that carries on a trade or business. Deceased partner’s interest must be 20% or more of the total capital interest in the partnership or the partnership has 45 or fewer partners.

  • Stock in a corporation carrying on a trade or business if 20% or more of the value of voting stock of the corporation is included in the gross estate or the corporation has 45 or fewer shareholders.

Estates with an approved Internal Revenue Code Section 6166 installment, must certify each year that the assets associated with the closely held business are intact, or explain the changes, to ensure the qualification for installment still exists. This is called a Certification of Unchanged Status. This certification is sent with the annual bill and must be signed under penalty of perjury. In order for an estate to qualify to make an election under section 6166, the business interest at issue must be an active “trade or business” within the meaning of section 6166(b)(1)(C). A question that often arises is whether real property interests qualify for a deferral under section 6166. Revenue Ruling 2006-34 provides guidance as to whether real property interests qualify for a deferral under section 6166 by analyzing criteria to determine whether the business is an active “trade or business.” The trade or business must be active, as section 6166 does not apply to passive assets which are distinguished as “mere management of investment assets.” In order to determine whether the interest in the business qualifies as an active interest, the decedent must have conducted an active trade or business or held an interest in a partnership, LLC, or corporation that carries on an active trade or business. In order to determine whether a trade or business is active or passive, the activities of the decedent and decedent’s agents and employees and the activities of the corporation must be taken into account. Key factors in determining whether actions are active or passive: - the amount of time devoted to the business; - whether an office was set up for the business and whether regular hours were kept at the office; - the extent to which the decedent, or the decedent's agent’s or employees were involved in finding new tenants and completing leases; - whether landscaping and ground care were provided by the decedent or the decedent's agents or employees; - whether decedent or the decedent's agents or employees were involved in repairs and maintenance of the properties; and - whether the decedent, or the decedent's agents or employees, were involved in tenant’s requests for repairs or tenant complaints.

So for example if the day-to-day activities of the corporation includes negotiating leases, managing tenant requests and concerns, and maintenance of the properties are overseen or performed by corporate employees; and the corporation also maintains a business office with regular hours, the IRS would probably view the corporation is an active business, not just an entity managing assets. Revenue Ruling 2006-34 gives several examples. In example two, the decedent owned an office park and hired an unrelated property manager to handle most day-to-day activities relating to the management of the real estate. The contractor and its employees provided all necessary services for the decedent’s office park. In the example, the IRS determined that, because the decedent, who owned no interest in the independent contractor, was not involved in the management or oversight of the property, the office park did not meet muster as an active trade or business. In example four, strip malls were owned and managed through a limited partnership (decedent was a limited partner). The partnership, through its general partner, handled the day-to-day operations and management of the strip malls including (either personally or with the assistance of employees or agents) performing daily maintenance of and repairs to the strip malls (or hiring, reviewing and approving the work of third party independent contractors for such work), collecting rental payments, negotiating leases, and making decisions regarding periodic renovations. The IRS reasoned that because the partnership owned the real estate, the activities of the limited partnership must be evaluated to determine whether the limited partnership was carrying on an active trade or business. The IRS found that the limited partnership, acting through its general partner, carried on an active trade or business.

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