Introduction: A trust is generally organized to provide a benefit to particular individuals; whereas a purpose trust is organized to carry out a specific purpose and provides no benefit to any individual. The distinction is that while a trust has beneficiaries, the purpose trust has no current (only residuary) beneficiaries, which offers a unique planning ability in the formation of commercial organizations such as Wyoming LLCs holding owning a California LLC and the California registration requirements incumbent on the Wyoming LLC.
The purpose trust was historically established, in part, to provide for situations that generally could not be provided for using a common trust, e.g.:
- pet care following an owner’s death;
- family homesteads; and
- cemetery plots.
More recent examples would be highly regulated firearms such as machine guns, aircraft and collectibles requiring expertise and experience in preservation, protection, and valuation (porcelain collections as an example) before liquidation.
A purpose trust could also be established to own the membership interests in a private family trust company so as to avoid potential conflicts of interest inherent in these structures and for the purpose of owning organizations holding assets in tax repugnant states with antiquated laws.
Law prior to Statutes : Prior to recent statutes, these trusts were called honorary trusts. They difficulty is that they were historically unenforceable if their purpose was not carried out and the residuary beneficiaries could petition a court to terminate the trust at any time.
Wyoming Statute: Wyoming has statutorily provided for purpose trusts. Wyoming Statute 4-10-410 “Noncharitable Trust without Ascertainable Beneficiary” legislatively provides that a trust may organized (i) without a definite or definitely ascertainable beneficiary, (ii) for a noncharitable but otherwise valid purpose; (iii) enforceable by a trust advisor, a trust protector, person appointed in the trust or a court; and (iv) with property only be applied to the trust’s intended purpose. In Wyoming the trust may exist in perpetuity.
Transfer Taxation: A purpose trust can be created and funded during the owner’s life or at his or her death.
- Gift Taxation: Your lifetime transfer may be structured as a completed or incomplete gift for federal and state gift transfer tax purposes. If complete, a gift tax form is required. At your death, the trust would not be included as a part of your tax estate. If incomplete, then as funds are distributed from the purpose trust, you will have made taxable gifts that are not eligible for the federal gift tax annual exclusion, requiring the filing of a gift tax form in each year during which distributions are made. At your death, the trust would be included as a part of your tax estate and your residuary beneficiaries would receive a step-up in income tax basis on the assets transferred. For the purpose of a PTC or LLC ownership, however, there would be no value to the gift.
- Income Taxation: If the purpose trust is not a grantor trust, the trust will have to file a Form 1041 and pay all taxes at the trust level. If the purpose trust is a grantor trust, all tax incidents will pass through to you and be reported on the schedules to your Form 1040. For purpose of the PTC or LLC ownership, the cash flow would be structured to eliminate the tax reporting of income taxation in the purpose trust.
- Charitable Deduction: The IRS will disallow any federal estate tax charitable deduction under IRC Sections 170, 664, 2055(a) and 2055(e) (2) for the bequest of a remainder interest in a purpose trust to a charity, e.g. the Humane Society, where the present interest in the trust is reserved for the care of the companion animal during its lifetime. Rev. Rul. 78-105, 1978-1 C.B. 295. This restriction, presumably, would not apply to other purposes. These considerations would be irrelevant in the context of a PTC or an LLC.
Conclusion: Given the unusual tax treatment associated with a purpose trust, the trust should be structured to minimize transfer and income tax issues.