AICPA Recommends Changes to Net Investment Income Tax Rules

The AICPA submitted a comment letter to the IRS recommending a number of changes to the Sec. 1411 regulations on the application of the net investment income tax to charitable remainder trusts (CRTs) when final regulations are issued.

First, the AICPA noted that the final regulations issued last year (T.D. 9644) incorporated the AICPA’s suggestions that a CRT’s net investment income be treated in accordance with Sec. 664(b) and Regs. Sec. 1.664-1(d)(1)(ii) by having the net investment income tax’s ordering rules follow the CRT’s category and class system and by not treating the CRT’s net investment income as distributed first to the annuity or unitrust recipient unless it is required under the current statutory and regulatory provisions.

In its letter, the AICPA made a number of recommendations for improvement to the proposed regulations (REG-130843-13). The most significant one is a recommendation to retain the elective simplified method in the final regulations. Under this method, the beneficiary’s net investment income attributable to the beneficiary’s annuity or unitrust distribution from a CRT is the amount equal to the lesser of the total amount of the distributions or the CRT’s current and accumulated net investment income (ANII).

The AICPA mentioned that the scope of this regulation is unclear—the regulation should clarify that this elective method applies only to determine the net investment income tax, not for regular income tax purposes. The AICPA says the intended application of the rules should be made clear in the final regulations.

In addition, the AICPA believes that the elective simplified method should be retained as an election, but since it is not necessarily simpler (e.g., it requires two sets of books), it should be renamed the “elective alternative method.” The final rules should also permit trusts to elect this method on the first Form 5227, Split-Interest Trust Information Return, filed after the regulations are finalized.

Another major change the AICPA advocates is that the final regulations clarify whether a CRT’s undistributed ANII has any character (e.g., long-term capital gain vs. ordinary income). The AICPA is recommending that the ANII have no character and just be calculated as a net negative or positive number, which would greatly simplify calculating the elective simplified method.