Rev. Rul. 60-370

Advice has been requested as to the Federal income tax consequences of a transfer of appreciated securities or other property to a tax-exempt educational organization under the circumstances described below.

An individual irrevocably transferred in trust to a university securities and other property which had appreciated in value over their basis to the transferor. The trust instrument by its terms specifically imposes upon the university, as trustee, an obligation to sell the appreciated property and to invest the proceeds in tax-exempt securities, or exchange the property for tax-exempt securities. The net income of the trust is payable to the transferor for life and, after his death, to a secondary beneficiary for life. Gains from the sale or exchange of trust assets are to be added to corpus. After the death of the transferor and the secondary beneficiary, the trust will terminate and the trust corpus will pass to the university as remainderman of the trust.

During the taxable year the university either sold the transferred property pursuant to the terms of the trust instrument and invested the proceeds in tax-exempt securities, or exchanged the transferred property for tax-exempt securities which it had held in its own portfolio.

The specific questions presented in this case are (1) whether the transferor realized gain, includible in gross income, by reason of the sale or exchange by the trustee of the appreciated property transferred in trust, and (2) whether any tax-exempt income realized from tax-exempt securities which were acquired by the trustee through the sale or exchange, will remain tax-exempt in the hands of the transferor and, after his death, in the hands of the secondary beneficiary.

Section 677(a) of the Internal Revenue Code of 1954 provides, in part, that the grantor shall be treated as the owner of any portion of a trust, whether or not he is treated as such owner under section 674 of the Code, whose income without the approval or consent of any adverse party, is, or in the discretion of the grantor or a nonadverse party, or both, may be distributed to the grantor, or held or accumulated for future distribution to the grantor.

Section 671 of the Code provides the general rule that in cases where the grantor or another person is regarded as the owner of any portion of a trust, there shall be included in computing his taxable income and credits those items of income, deductions, and credits against the tax of the trust which are attributable to that portion of the trust to the extent that such items would be taken into account in computing the taxable income or credits against the tax of an individual.

Section 1.671-2(c) of the Income Tax Regulations provides that an item of income, deduction, or credit included in computing the taxable income and credits of a grantor or another person under section 671 of the Code is treated as if it had been received or paid directly by the grantor or other person.

Under the provisions of section 652(b) and 662(b) of the Code, the amounts to be included in gross income of a beneficiary under section 652(a) of the Code or section 662(a) of the Code, whichever is applicable, shall have the same character in the hands of the beneficiary as in the hands of the trust.

In the instant case, the university was under an express obligation to sell or exchange the appreciated property transferred and to purchase tax-exempt securities. Therefore, in substance, the transferor did not give the trustee appreciated property to hold in trust, but, rather, gave the trustee the proceeds of the sale or exchange of the property which the trustee was required to consummate.

Accordingly, it is held that the transferor realizes gain, includible in his gross income in the taxable year of the sale or exchange, to the extent that the proceeds from the sale or exchange by the trustee of the property transferred in trust exceed his basis for such property.

Since any income from trust investments is to be distributed to the transferor for life without the approval or consent of any adverse party, he is considered the owner of a portion of the trust in accordance with the provisions of section 677(a) of the Code. However, to the extent that the life income payable to the transferor by the trustee consists of interest which is excludable from gross income under the provisions of section 103 of the Code, such income is excludable from the gross income of the transferor, since it is treated as if it were received directly by him. See section 1.671-2 of the regulations.

Likewise, to the extent that the amounts distributed to the secondary beneficiary, after the death of the transferor, consist of interest which is excludable from gross income under section 103 of the Code, such amounts will be excludable from the gross income of the secondary beneficiary.

The trustee in the instant case was under an express obligation to sell or exchange the appreciated property transferred in trust. However, an obligation to sell or exchange the transferred property may also arise by implication. For example, a taxpayer may transfer appreciated property to an educational or charitable organization in reliance upon advertisements or brochures stating that the organization will sell such property and invest the proceeds in tax-exempt securities, or exchange the property for tax-exempt securities. Thus, where the trustee is under an obligation, either express or implied, to sell or exchange the transferred property and to purchase tax-exempt securities, it is held that the transferor has given the trustee not the appreciated property but, rather, the proceeds of the sale or exchange which he has required the trustee to consummate. Therefore, the gain from such sale or exchange is includible in the gross income of the transferor in the taxable year in which the sale or exchange is consummated.

Since it may be necessary to go beyond the trust instrument to determine whether there is an obligation, either express or implied, imposed upon the trustee to sell or exchange the transferred property and invest in tax-exempt securities, no advance rulings will be issued as to whether there is such an obligation to sell or exchange the transferred property and invest the proceeds in tax-exempt securities.

Pursuant to the authority contained in section 7805(b) of the Code, the principles announced in this ruling will be applied only to transfers of property after December 2, 1960,/2/ involving an investment of the proceeds of sale of the transferred property in tax-exempt securities or an exchange of the transferred property for tax-exempt securities. Any change in existing Internal Revenue Service position with respect to transfers of property not involving such sale or exchange, and reinvestment in tax-exempt securities, will be prospective only.

¹ Also Released as Technical Information Release 273, dated December 2, 1960.

2 Date this Revenue Ruling was released as Technical Information Release 273.