The Internal Revenue Service has proposed a rule that could affect interpretation of the “predeceased parent rule.”[@@]

The proposed regulation would affect financial advisors who help wealthy clients minimize exposure to generation-skipping transfer taxes.

The Internal Revenue Code spells out complicated rules that taxpayers must use to determine when the generation-skipping taxes apply to heirs. The proposed regulation would provide that, when individuals become subject to transfer taxes 2 or more times in connection with the same property, the IRS will focus on the earliest occasion when deciding when the individual’s interest in the property was established, according to a discussion of the proposed regulation by Lian Mito, an IRS official, that appears today in the Federal Register.

The proposed regulations also would ease the rules governing wealthy taxpayers who adopt relatives.

One section of the Internal Revenue Code, Section 2651(f)(1), discourages wealthy taxpayers from adopting relatives to avoid paying GST taxes. The section requires wealthy taxpayers to treat adopted relatives as if they belonged to the youngest generation possible, Mito writes.

The proposed regulation would eliminate that restriction for wealthy taxpayers who adopt children under 18 who happen to be siblings, step-siblings or other descendants of the taxpayers’ parents. If John Megabucks adopted his half-brother, Timmy Megabucks, and Timmy were under the age of 18, the IRS would assume that John Megabucks really was adopting the boy, not simply trying to avoid paying GST taxes. The IRS would treat the adopted relative as the wealthy taxpayer’s child when applying the GST rules, according to Mito.

An “individual’s generation assignment” would affect the “generation assignment of that individual’s spouse, that individual’s descendants, and the spouse or former spouse of each of that individual’s descendants,” Mito writes.

Public comments on the proposed regulation are due Dec. 2.

More information about the proposed regulation is on the Web at http://a257.g.akamaitech.net/7/257/2422/06jun20041800/edocket.access.gpo.gov/2004/pdf/04-20165.pdf