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California CPA Magazine

Welcome to your backstage pass to exclusive interviews with industry leaders—plus, the latest updates on tax laws, financial regulations, accounting standards, and game-changing technology that's reshaping the financial and California landscape. 

Diversity, equity, inclusion and belonging are pivotal pillars in today’s corporate landscape and for CalCPA, these values are central to our mission and crucial to attracting a diverse range of individuals to a CPA or finance career that will enrich and strengthen the profession.

To better understand who our members are, how they feel their places of work demonstrate belonging practices and what career obstacles they may face, CalCPA conducted 

Stand Up and Be Counted: CalCPA DE&I Baseline Membership Survey

Our results showed that a substantial share of CalCPA members support belonging efforts in their workplaces and respondents expressed positive views of their firm, company or with CalCPA, with respect to belonging, networking and mentoring opportunities:

While the above numbers are trending positive, there is still work to be done. For example, when asked if they experienced any DE&I obstacles in the workplace, 69 percent of the respondents said they have and cited lack of recognition and failure to be promoted among them.

At the same time, 67 percent said leadership supported belonging improvements and pointed to having teams, consultants or task forces in place or having written hiring practices, guidelines and/or policies.

I’m grateful for those who participated in our survey. Your active engagement propels this vital work forward, enabling us to collect the essential information to, among other things:

As the largest state CPA society, CalCPA is helping lead the charge in welcoming all people to accounting and finance and building a community of belonging to ensure a robust and inclusive future for the profession.

Belonging

Diversity, equity, inclusion and belonging are pivotal pillars in today’s corporate landscape and for CalCPA, these values are central to our mission and crucial to attracting a diverse range of individuals to a CPA or finance career that will enrich and strengthen the profession. 

May 2024: Belonging

In estate administration, an entity called an Administrative Trust may be used to temporarily hold assets before they are ultimately sold or assigned to a person or another trust. This type of trust is used to carry out the intention of the decedent as set forth in a trust or will, and to accomplish the provisions of the will or trust in an orderly manner.

An Administrative Trust may be provided for in a will or living trust. There are instances in which it is obvious that such a trust is necessary and needs to be established, even though not provided for in the trust or will.

When applying for in ID number from the IRS, you would use a name such as “Adams Administrative Trust” for a decedent named Adams, then select “Trust (All Others)” on the IRS webpage when applying for a new ID number.

After the first spouse’s death, when assets are to be assigned to sub-trusts (Bypass, Marital or other), the trustees may need time to consider which assets to assign to which trusts, and to accomplish the assignments. If the assignment of assets to the sub-trusts can be accomplished reasonably quickly, there would be no need to establish this interim entity.

Typically, the challenge is to determine taxability of income or gains received after the first death and before assignment of assets is completed. If sub-trusts provide that income is to be paid to the surviving spouse, then the fact that title to assets hadn’t been completed wouldn’t cause concern if the surviving spouse reports all the income on his or her return. There would be an assumption that all income after the death of the first spouse is ultimately taxable to the surviving spouse.

In some situations, sub-trusts might be established, with ID numbers, but there might still be delay in assigning title to assets. With significant delays, it may be beneficial to have a trust entity in existence to take temporary title to property. During that period, the trustees could assure that ordinary income received is distributed to the surviving spouse to have the income included on a personal return, rather than taxed at the trust level. 

After a second spouse’s death, administration usually can be carried out via the existing trusts. The Survivor’s Trust may need a new ID number to operate temporarily until distributions are completed. But if assets in a survivor’s trust, for example, cannot be readily transferred to the heirs, it may be helpful to use an administrative trust in that instance. Accountants with years of experience can recall many instances of assets that have been difficult to transfer.

An Administrative Trust will most likely be a complex trust. The language in a trust or will permitting the creation of the Trust would describe its purpose as a short-term conduit for assets ultimately going to trusts or individuals and may not include any language requiring distribution of income to a beneficiary.

Because the trust receives income, and potentially pays tax on that income, the trustees, with help from the accountant and attorney, should find ways to minimize income tax, and can often find ways to distribute income to beneficiaries in a timely manner. Fortunately, a complex trust has the advantage of the 65-day rule under section 663(b).

Hold Your Assets

Administrative trusts are key to temporarily hold assets before they are ultimately sold or assigned to a person or another trust—and to carry out the intention of the decedent as set forth in a trust or will. 

Ignoring for the moment tax controversy work with the California FTB—e.g., audits, protests and settlements—how can one go about obtaining advice from FTB on planning and policy issues? A number of options come to mind. 

One can ask the FTB Legal Division for a “Chief Counsel Ruling” under Revenue and Taxation Code section 21012. This is the only binding legal advice available from the FTB with respect to a specific issue. These are taxpayer-specific rulings furnished by the FTB in response to requests made by taxpayers. As long as the facts represented by the taxpayer in the ruling request have not (materially?) changed and the law has not (materially?) changed, the ruling is binding upon the FTB.

Think of this as FTB’s version of an IRS private letter ruling. They are not easy to get, for the reasons explained in FTB Notice 2009-08 that sets forth the guidelines for requesting one. For example, only one was issued in 2021; none in 2022 or 2023; and one so far in 2024. Because of the limitations, I have only obtained one in my career. However, a positive feature of the process is that if one makes a request and it appears a ruling will not be favorable, the request can be withdrawn.

this feature states “our legal staff can give informal answers to basic legal questions about taxes the Franchise Tax Board administers.”

When one makes a request, you will receive a standard response to the effect that “if the question is within the scope of our protest, you should receive a full response within approximately 2-3 weeks.” If not within the program, you should be notified within three business days. This is not formal written advice within the meaning of Section 21012 (i.e., a Chief Counsel Ruling).

You can call someone at the FTB and see if they will talk to you, informally, of course, about your issue. The odds of success likely depend upon whether 1) you are calling someone with whom you have a working relationship with; 2) you are calling someone knowledgeable on the subject of your question; and 3) you have done your homework before calling so you are being professional and not wasting FTB’s time.

The FTB’s website has various phone numbers, including for the Legal Division, at 

ftb.ca.gov/tax-pros/law/legal-division-staff-directory.html

I have done this on many occasions with FTB legal, and they are generally very open about considering such requests. But, to the points above, be sure you have done your homework and are being professional.

While not technically a way to obtain advice from FTB, “Interested Parties Meetings” (IPMs) can help ferret out the FTB’s position on a particular issue. The FTB typically schedules IPMs when it’s considering promulgating a formal regulation or amending an existing regulation under the California Administrative Procedure Act (APA).

However, IPMs are outside the formal regulatory structure under the APA and are informal meetings for FTB staff to solicit public input on how or whether to proceed with a regulation project. Not only can members of the public speak and react to FTB’s proposals, but staff will also often make comments on their current thinking of the issue.

Sometimes the process is a long one. For example, in June 2021, the FTB held its 

 IPM on proposed changes to its existing Regulation Section 25136-2 market-based sourcing rules for sales of other than tangible personal property. Typically, IPMs lead to FTB formally amending its regulations, but sometimes not. For example, in 2008, FTB held an IPM on amending its Regulation Section 25137-11 trucking regulation following an administrative decision in Appeal of Swift Transportation, but concluded after the IPM there did not appear to be a need for changing the regulation and no changes were made. 

While also not technically a way to obtain advice, manuals are available 

and provide insight into the FTB’s thinking on particular issues. In my experience auditors tend to follow them, but they are not authoritative and cannot be cited to support a position by either an auditor or a taxpayer. They are often fairly substantive, e.g., the Multistate Audit Technique Manual. On the other hand, some are a bit thin on content, e.g., the FTB’s Collection Procedures Manual. Also, be careful to look for the date they were last updated. But overall, they remain a great tool for practitioners.

Seeking FTB Advice

How can one go about obtaining advice from FTB on planning and policy issues? A number of options are at your disposal—from simple phone calls to meetings to Chief Counsel Ruling. 

Most estate plans are settled by non-professionals who are family members or friends of the decedent. These fiduciaries (executors/ trustees) were selected because they held the trust and confidence of the decedent and are likely familiar with the assets held within the estate and the family’s dynamics. What’s sometimes missed in these decisions, however, is whether the fiduciary has the time, interest or training to manage a complex project like this.

It’s rare that the fiduciary knows what their job is or how to do it. And this lack of familiarity with estate governance matters can lead to personal risks and financial responsibility falling upon the fiduciary. A CPA is uniquely qualified to take on the task of consulting to the fiduciary—given the proper background. 

Having served as fiduciaries, fiduciary advisers and expert witnesses on trust and estate governance matters, here’s a list of the most common risk mitigation strategies we’ve come across that the fiduciary can adopt to dramatically reduce their personal risk and support an efficient settlement process. 

A prudent fiduciary will develop a “Governance Repository” where all important documents, exhibits and communications are retained. To be sure, such a centralized repository will help foster an efficient settlement. But more than that, maintaining organized records is evidence that the fiduciary has acted prudently and in good faith. Generally, courts will judge the fiduciary not as much on the results of their actions, but rather on the actions especially from well thought out plans.

By maintaining a governance repository, the trustee is creating an evidentiary record of why-they-did-what-they-did-when-they-did-it. Failing to maintain this record of the administration would tend to undermine the fiduciary’s “good faith” defense, which can also defeat the support necessary to prevail in Court actions.

A fiduciary is generally required to provide beneficiaries with an annual account upon each/any of the following events: 1) the change of trustee, 2) at least annually and 3) at the termination of the trust (California Probate Code Sec. 16062). Providing the annual account is perhaps the single biggest risk mitigation measure, and sadly, the most often overlooked by the trustee. It also tolls the statute of limitations in favor of the trustee.

Successor trustees, and their legal and tax counsel, may confuse the formality and cost of producing a “court accounting” (CPC Sec. 1060) with the fairly easy-to-produce “annual account” identified in Sec. 16063. The Annual Account does not need to adopt principal and income accounting, include a general ledger or detail of every transaction that occurred during the reporting period.

The annual account can be produced using the prior year trust income tax return and QuickBooks file. The trustee’s maximum exposure for actions questioned by the beneficiaries is reduced to three years by providing a timely Annual Account.

Most trust documents do not provide guidance for determining trustee compensation. Often trust documents simply say, “the trustee shall be paid a reasonable amount.” It’s our experience that whatever the trustee determines to pay themselves, the beneficiaries feel it is excessive—and the trustee feels it is not enough.

Fortunately, the California Rules of Court Rule 7.776 provides factors to consider when establishing what is a “reasonable amount.” Although the rule cites eight factors that indicate the compensation is reasonable, we will provide a few observations based on our experience:

Dealing with Investment Advisors (Uniform Prudent Investor Act Compliance)

It’s not uncommon for frustrated beneficiaries to have overly optimistic expectations for the performance of the trust assets. We have been in more than one expert witness engagement where the beneficiaries have argued that the liquid assets in the trust “should have” had performance comparable to the S&P 500. We all know that a portfolio of 100 percent equities would be inconsistent with the trustee’s duty to balance risk expectations and return objective.

When the trustee delegates investment management authority to an investment adviser, the trustee is required to do three things: 

Act prudently in the selection of the adviser

. The trustee is encouraged to document the reasons the investment adviser was selected. This does not mean the trustee needs to conduct a full-blown “Request for Proposal” from multiple advisory candidates or conduct “deep due diligence” on the adviser. Rather, it means that the trustee can’t just leave the money with the adviser that the decedent used simply because they are the incumbent. To be sure, the trustee may eventually select the incumbent adviser, but the basis for the selection must be “prudently made.” 

Act prudently in the delegation of investment duties to the adviser

. It is prudent for the trustee to define a targeted long-term return objective and risk expectations for the asset management that is being delegated to an investment advisor (CPC Sec. 16047(b)). Most registered investment advisors provide their clients with an Investment Policy Statement (IPS) that documents these factors. When the “compliance department” for a large bank or other investment firm prohibits their employees from providing an IPS to the trustee, it will be necessary for the trustee to summarize risk and return objectives on their own.

Monitor the adviser’s performance against the delegated duties and objectives

. A prudent trustee will not “set it and forget it” when delegating the management of trust assets to an investment adviser. It’s important that the trustee periodically review whether the manager accomplished the long-term return objectives with an acceptable level of risk.

Don’t Delay: The Orphaned Administration

Settling trusts and estates is complicated and often takes longer than it should because life happens—there are staffing issues and court dates and lost emails and vacation and non-responsive family members that delay the administration. But all of these legitimate factors fall on the deaf ears of the beneficiaries who are already spending their inheritance in their minds. A fiduciary who is inefficient in the management of the estate/trust settlement can raise the ire of beneficiaries who have unreasonable expectations for haste.

A prudent trustee will proactively and deliberatively move the administration forward. Sometimes this means the trustee requires performance dates on projects that are stuck on the CPA’s or attorney’s list. The squeaky wheel gets the grease; and if the wheel doesn’t squeak, the beneficiaries may hit it with a hammer.

Collectively, we in the trusts and estates practice, need to face an uncomfortable truth: Our most experienced colleagues are retiring and the attorneys coming out of law school are not clamoring to this practice. As the baby boomers age there is an increasing demand for estate settlement support at the very time that the supply of professionals who know how to do this work is shrinking. We need to learn how to settle estates quickly, at less cost and with lower risk. If we don’t, there could be more lawsuits against our clients—the executor and/or successor trustee—who unreasonably delayed the administration.

Being a trustee or executor is hard. The beneficiaries’ expectations might be unreasonable; the professionals that the fiduciary relies upon could be harried and overcommitted; the rules are complex; and the trustee may not have the time, interest or training to do the job. As CPAs, we can step in and help them with this work while mitigating their personal risk.

Risk Mitigations

Most estate plans are settled by non-professionals who are family members or friends of the decedent. Yet, whether the fiduciary has the time, interest or training to manage a complex project like this is often missing.

No foundation wants to face the wrath of the IRS, yet some private foundation managers expose themselves to severe penalties by failing to understand self-dealing rules. Although the seven acts of self-dealing seem straightforward, they can be misunderstood or overlooked by even the most cautious foundation.

To further complicate things, there are lots of misconceptions in the philanthropic sector about what self-dealing rules do and do not cover.

With the right information and support from accounting professionals, self-dealing does not need to be a source of stress for foundations. By having the right policies in place and educating the board and employees on the rules, foundations can avoid common pitfalls.

The Seven Types of Transactions and Disqualified Persons

Per the IRS, the following transactions between a private foundation and a disqualified person are generally considered self-dealing:

It’s important for foundations to understand how the IRS defines a disqualified person. Most foundations are aware that foundation managers—including officers, directors and trustees—are considered disqualified persons. And this also extends to their spouses, ancestors, children and grandchildren, as well as the spouses of their children and grandchildren. Interestingly, however, the IRS does not consider siblings to be disqualified persons.

Foundations must also be cautious when dealing with substantial contributors. Under the IRS definition, a substantial contributor is any person who contributes or bequeaths more than $5,000 to the foundation and this amount is more than 2 percent of the total contributions and bequests received by the foundation in the same tax year. For family foundations, substantial contributors also include the person who funded the foundation and their family members.

Substantial contributors retain this status until neither they nor their family members have made a substantial contribution for 10 years. 

When a substantial contributor is an entity, such as a corporation or trust, any individual who controls more than 20 percent of it is also considered a disqualified person. Additionally, a corporation, partnership, trust or estate itself is disqualified when a substantial contributor, foundation manager or disqualified family member owns more than 35 percent of it.

Another private foundation is disqualified when the same people effectively control or substantially contribute to it and the foundation in question. Finally, most government officials, including all elected executive and legislative officials, are disqualified. 

Some categories of disqualified persons are straightforward. In other cases, a foundation may need to know someone’s ownership stake in a corporation, the amount of their financial contribution or their family relationships to know whether they are disqualified. For this reason, it is crucial that foundations understand IRS rules and do their due diligence so they do not inadvertently enter into a self-dealing transaction. 

Common Self-dealing Mistakes Put Foundations at Risk

It is difficult for foundation managers to anticipate all the potential scenarios that could be considered self-dealing, even when they have a general understanding of the rules. Foundations often fall into similar traps.

For example, it is an act of self-dealing when a foundation uses its resources to satisfy the legal obligation of a disqualified person. This may occur when a person makes an enforceable pledge to donate to a charity and subsequently asks their family foundation to satisfy the pledge in their place. In this case, the family foundation would be engaging in self-dealing because the individual is a disqualified person using the foundation’s assets for their personal use.

Another common slip-up is when money is lent or credit is extended between a foundation and a disqualified person. This can happen when a disqualified person uses the foundation’s credit card for a personal expense by mistake. Even if this is an innocent error, it is an act of self-dealing which needs to be corrected and reported.

Family members engaging in self-dealing may be the most frequent pitfall. For example, even though board members are disqualified persons, they can attend charity events, such as galas or award ceremonies, as representatives of the foundation. However, their spouses, children and other disqualified family members cannot attend using tickets paid for by the foundation because they do not have official roles in the foundation. It is not hard to see how a board member might bring their spouse to an event without realizing they are, in fact, violating self-dealing rules. 

Misunderstanding Self-dealing Rules Can Hurt in More Ways Than One

Misconceptions about self-dealing can also prevent foundations from accessing useful resources. Foundations may avoid transactions that are perfectly accepted by the IRS because they incorrectly believe they are self-dealing.

For instance, it is a good rule of thumb that a foundation is engaging in self-dealing when it provides or receives goods, services or facilities from a disqualified person. This can include office space, auditoriums, laboratories, administrative assistance, meals, publications, libraries, cars and parking lots.

However, it is not considered self-dealing if the disqualified person provides these resources to the foundation for free.

The IRS also has no issue when the foundation provides such resources to a foundation manager, employee or unpaid worker in recognition of their services when:

For example, compensating a disqualified person for providing personal services is acceptable, whether they serve as an employee, an advisor or a director or trustee of the foundation.

In most cases, foundations make self-dealing errors simply because of misunderstanding, not because they are intentionally engaging in misconduct. Accounting professionals can help clients in the philanthropic sector avoid self-dealing issues before they happen:

California CPA Magazine

What's happening

Belonging

Hold Your Assets

Seeking FTB Advice

Risk Mitigations