The federal generation-skipping transfer (GST) tax is a relative newcomer to the transfer tax environment. It also has some extremely complex rules governing when allocations of the GST exemption must be made to shelter gifts and death transfers to multi-generation trusts. If this exemption is properly allocated, dynasty trusts for any number of generations can be permanently sheltered from the 40% GST tax. To properly and timely allocate GST exemption, the taxpayer must do so on a timely filed federal gift tax return for lifetime transfers, or on a timely filed federal estate tax return for transfers at death.

After the GST tax had been in effect for about 15 years, the American Institute of Certified Public Accountants (AICPA) and others pressed Congress to allow late allocations of GST exemption to be made. In response, Congress in 2001 directed the IRS to issue regulations allowing late allocations of GST exemption to be made in appropriate cases. In 2001, Congress also enacted rules which provided that GST exemption would be automatically allocated to transfers made after 2000 to certain trusts, which are referred to as “indirect skips.”

The IRS initially responded with Notice 2001-50, providing for extensions to make late GST exemption allocations by requesting a private letter ruling from the IRS. This Notice was followed by a set of proposed regulations in 2008 with more elaborate guidelines and requirements for these private letter ruling requests. This approach is a long and expensive one to use.

There also were a couple of simpler IRS procedures introduced in 2004, allowing for allocating GST exemption to a smaller, "annual exclusion" trust and for making a reverse qualified terminable interest property (QTIP) election on an estate tax return so the decedent's GST exemption could be applied to a marital trust. No IRS private letter ruling was required to make this GST exemption allocation or reverse QTIP election.

Now the IRS has at long last issued final regulations in 2024. There is one new automatic extension provided, and some simplification of the private letter ruling approach for discretionary extension requests.

The new automatic extension is limited. It can only be used if you timely file a federal gift tax return or estate tax return, and then file a supplemental tax return within six months after the due date of that return. In this supplemental return, you can allocate GST exemption to transfers reported in the initial gift or estate tax return, or make any of the related elections. The benefit of this automatic extension is that you can obtain it without having to file a private letter ruling request with the IRS or to pay the required $12,600 IRS user fee for their ruling.

For any other extensions, late allocations and elections which are not eligible for the simplified procedures provided by Congress in 2001, the IRS in 2004 or for this new six-month supplemental return approach, an IRS private letter ruling is still the only way to obtain relief.

To be granted, these requests for late exemption allocations and extensions require the IRS to determine that the transferor or executor acted reasonably and in good faith and that the extensions will not prejudice the government's interests.

On the first test, the IRS looks to see if an intent to make the allocation is evidenced in the trust, transfer and other contemporaneous documents, and tax returns. Other factors include the taxpayer's lack of awareness of the need to make the GST exemption allocation or election, reliance on the advice of a qualified tax professional, and consistency in allocating the GST exemption (or not doing so). To try to satisfy this first test, taxpayers will be required to provide detailed affidavits that describe the facts surrounding the taxpayer’s failure to make the desired election or allocation on a timely basis.

Protection of the government's interests is concerned primarily with preventing transferors from trying to game the system. Examples include trying to preserve more tax options than a timely allocation would have afforded, and trying to deprive the IRS of time to examine the transfer.

For those taxpayers who are unable to avail themselves of the 2001 automatic exemption allocation rules, the 2004 exceptions or the new six-month supplemental return approach, obtaining a private letter ruling is the only alternative available. While the private letter ruling is a long and expensive process, the GST tax benefits can be substantial if a late allocation is permitted. The allocation is based on the value of the transfer at the time it was made, and not the current value at the time the late allocation is made. Further, if there have been trust terminations or distributions that were subject to the 40% GST tax in the interim, those taxes can be refunded if the statute of limitations is still open. So, for transfers that have appreciated substantially in the interim or have already generated GST tax, this late exemption allocation can provide very substantial tax savings.