Court Opinion

ID: 4483402
Source: CourtListenerOpinion
Date Created: 2020-01-16 21:16:04.977356+00
Date Added: 2024-06-11T15:04:31.336332
License: Public Domain

Scott, J., dissenting: I respectfully disagree with the conclusion of the majority that the provisions of section 678, I.R.C. 1954, result in the grantor or other person who has certain powers in respect of trust property being the owner of that “property” so that the “trust entity” is disregarded. To do this would effectively cause the trust entity of many marital trusts to be disregarded since in many marital trusts the beneficiary has the power to vest “the corpus or income therefrom” in herself. Secondly, the statutes (sec. 671, etc.) refer to including in the income of the grantor, or other person to whom the income is taxed under subpart E, the “income * * * of the trust.” The regulations follow this same pattern. Section 1.671-l(a), Income Tax Regs., states in part: (a) Subpart E (section 671 and following), part I, subchapter J, chapter 1 of the Code, contains provisions taxing income of a trust to the grantor or another person under certain circumtances * * * [Emphasis added.] Section 1.671-2(a), Income Tax Regs., states in part: (a) Under section 671 a grantor or another person includes in computing his taxable income and credits those items of income, deduction, and credit against tax which are attributable to or included in any portion of a trust of which he is treated as the owner. * * * [Emphasis added.] Section 1.671-2(b), Income Tax Regs., states in part: (b) Since the principle underlying subpart E (section 671 and following), part I, subchapter J, chapter 1 of the Code, is in general that income of a trust over which the grantor or another person has retained substantial dominion or control should be taxed to the grantor or other person rather than to the trust which receives the income * * * [Emphasis added.] Section 1.671-4, Income Tax Regs., states as follows: Sec. 1.671-4 Method of reporting. Items of income, deduction, and credit attributable to any portion of a trust which, under the provisions of subpart E (section 671 and following), part I, subchapter J, chapter 1 of the Code, are treated as owned by the grantor or another person should not be reported by the trust on Form 1041, but should be shown on a separate statement to be attached to that form. In my view, section 1.671-4, Income Tax Regs., requires the filing of a return by the trust to show on a statement attached to that return that the nincome of the trust ” is taxed to the grantor or another person. If section 678 is applicable here, I would conclude that, if the trust is not for other reasons to be ignored for tax purposes, it remains a viable trust with its income taxable to the grantor or another person. Wilbur, J., agrees with this dissenting opinion. Fay, /., dissenting: I respectfully dissent in the conclusions reached herein by the majority. Specifically, I believe the opinion to be faulty in its reasoning and holding regarding the tax status of so-called grantor trusts. As its main contention for ignoring the trust created under the will of A. Lindsay O’Connor, the majority makes the bold assertion that: “By attributing such income directly to a grantor or other person [via secs. 671, et seq.], the Code, in effect, disregards the trust entity.” Devoid of any articulation of rationale for its holding, the logical result of the majority’s opinion is that a grantor trust has no separate transactional existence under the Internal Revenue Code. I cannot agree.1  Sections 673 through 678 enumerate certain situations where a grantor or other person will “be treated as the owner of any portion of a trust” over which he possesses a proscribed power or beneficial interest.2 Reference as to the tax consequences of being so treated, however, must be made to section 671 which provides: Where it is specified in this subpart that the grantor or another person shall be treated as the owner of any portion of a trust, there shall then be included in computing the taxable income and credits of the grantor or the other person those items of income, deductions, and credits against tax of the trust which are attributable to that portion of the trust to the extent that such items would be taken into account under this chapter in computing taxable income or credits against the tax of an individual. Any remaining portion of the trust shall be subject to subparts A through D. No items of a trust shall be included in computing the taxable income and credits of the grantor or of any other person solely on the grounds of his dominion and control over the trust under section 61 (relating to definition of gross income) or any other provision of this title, except as specified in this subpart. [Emphasis added.] It is clear that the statute in its wording presupposes the existence of a valid trust. It is equally clear that the purpose of the statutory scheme of subpart E of subchapter J is merely to identify the person responsible for reporting certain income and deduction items realized by a trust. Nowhere does the statute state, much less “require,” as the majority maintains,3 that the trust not be recognized for tax purposes. Indeed, the regulations take a position to the contrary. In discussing the concept of what is a “trust” for Federal tax purposes, section 301.7701-4(a), Proced. & Admin. Regs., in an obvious reference to a grantor trust, states as follows: Usually the beneficiaries of * * * a trust do no more than accept the benefits thereof and are not the voluntary planners or creators of the trust arrangement. However, the beneficiaries of * * * a trust may be the persons who create it and it will be recognized as a trust under the Internal Revenue Code * * * as * • * * if the trust had been created by others for them. [Emphasis added.] I believe the majority in its opinion, if not expressly, has effectively invalidated this regulation altogether. I am not proposing that a grantor trust’s existence should always be recognized for tax purposes; rather, I am merely contending that an examination should be made in each case to determine if some other congressional tax policy would best be served by not regarding the trust as a separate transactional entity. If such a policy does not exist, then, absent other reasons, I would not ignore the trust. My point can be illustrated by an examination of the two main cases which have addressed this issue.4  In Swanson v. Commissioner, 518 F.2d 59 (8th Cir. 1975), affg. a Memorandum Opinion of this Court, G created an irrevocable trust in which he had no beneficial interest. However, the trust instrument did permit him to amend the trust so long as such amendment did not vest in G any right to the trust’s income or corpus. The trust purchased an insurance policy on G’s life from a related corporation. Subsequently, G died and the trust collected approximately $914,000 compared with its total investment in the policy of about $208,000. We stated the issue as follows: Section 101(a) states that * * * amounts received under a life insurance policy are not includable in gross income. Section 101(a)(2)(B) provides that life insurance proceeds are includable in gross income in the case of a transfer for valuable consideration unless the transfer is to the insured * * * . The issue is whether the exception to the transfer for valuable consideration rule of section 101 is applicable to the transfer of life insurance policies to the Swanson Trusts. [T.C. Memo. 1974-61. Fn. ref. omitted.] The taxpayer argued that because under section 674, G was treated as the “owner” of the entire trust and because he was also the insured under the policy, the proceeds received by the trust were excludable from its gross income under the general rule of section 101(a). The respondent, on the other hand, argued that the policies were transferred to the trust and not to G. In short, although G was the “owner” of the entire trust by virtue of section 674, respondent argued that the trust’s existence should not be ignored for purposes of section 101.5  The Eighth Circuit held as follows: We cannot accept the government’s contention that in this case Swanson, the grantor of the grantor-trusts, is not deemed the owner of the trusts for any purpose other than that of taxing trust income to him, and the trusts, therefore, retain their identity as a separate tax entity under Section 101(a)(2)(B). The provision in each trust instrument that it shall be subject to interpretation or amendment by the maker (except with respect to vesting property, income or corpus in himself as an individual) gave the grantor complete control over the insurance policies in question. Through his control over the trusts, he could exercise all of the incidents of ownership over the policies. He could, among other things, cause (1) a change in beneficiaries, (2) loans to be secured on the policies, or (3) even have the policies cancelled. The mere fact that the legislative history of Section 674 and related statutes indicates that the purpose of the legislation was to tax the income of grantor-trusts to the grantor does not require the strained construction of Section 101(a) urged by the government. We hold that in this case, since Swanson owned and controlled the trusts, the policies were transferred to the “insured” within the meaning of Section 101(a)(2)(B) and the net proceeds are therefore excludable from gross income under Section 101(a)(1). [518 F.2d at 63-64.] The result reached in Swanson seems premised on the congressional policy behind section 101 rather than on the operation of sections 671 and 674. Section 101(a)(2)(B) permits the nongratuitous transfer of a life insurance policy to an insured. Whether the transfer was made to the “insured” is a factual question, the answer to which is dependent upon the insured’s relationship to the policy subsequent to the transfer. Because G had the power to control the beneficial enjoyment of the policy, his relationship to the policy was sufficient to bring into play the congressional purpose of section 101(a). Surely, it cannot be said that G’s interest in the policy arose from the operation of the grantor trust rules. In other words, sections 671 and 674 will not provide the answer to whether “transfer [was made] to the insured” within the meaning of section 101(a)(2)(B). Rather, that determination is primarily one of fact. In W & W Fertilizer Corp. v. United States, 527 F.2d 621 (Ct. Cl. 1975), cert. denied 425 U.S. 974 (1976), the taxpayer was a subchapter S corporation from 1965 to 1970. The corporation had two shareholders, Lemuel, who owned 47 percent of the company’s stock, and his brother, Fred, who owned 53 percent. In 1970 Lemuel transferred his entire 47-percent stock interest to a trust which he created. As the grantor, Lemuel reserved in himself the right to revoke the trust and revest its assets in himself at any time. There was no question that Lemuel was the “owner” of the entire trust under section 676(a) and therefore responsible for reporting all of its income and deductions under section 671. Section 1371(a)(2), which contained one of the prerequisites for subchapter S status, provided that a “small business corporation” may not “have as a shareholder a person * * * who is not an individual.” Respondent argued that because the trust was not an “individual” the corporation’s subschapter S status should be terminated. The corporation, on the other hand, argued that because Lemuel was treated as the “owner” of the entire trust under section 676(a), the trust should be disregarded for tax purposes. The Court of Claims framed the issue as follows: Hence, the resolution of this case turns on whether the revocable inter vivos trust described herein is to be accorded recognition for Federal tax purposes as a shareholder in taxpayer, or, instead, whether the grantor-beneficiary is to be so recognized and the trust disregarded. [527 F.2d at 623.] In addressing the taxpayer’s argument that Lemuel, because of the operation of the grantor trust rules, was the “owner” of the stock, the court held as follows: Taxpayer’s third contention is that because Lemuel, as grantor of the Woods Trust, is taxed on the trust income under the “grantor trust rules” of section 671 et seq., the trust should be ignored. The argument is that it would be inconsistent not to consider him the owner of the shares for Subchapter S eligibility purposes and yet tax him as their “owner” on the income they produce. Taxpayer, however, misconceives the manner in which the “grantor trust rules” operate. They do not, as taxpayer urges, recognize the grantor as the legal “owner” of the property placed in trust. On the contrary, the rules arose under the Code because it was recognized by Congress that taxation of income is not concerned so much with refinements of title as it is with actual command over the property taxed. Corliss v. Bowers, 281 U.S. 376 * * * (1930). The “grantor trust rules” treat the grantor as if he were the owner in cases where he has reserved to himself some of the powers normally attendant to outright ownership. Thus, their design is to expand the coverage of the taxing statute . On the other hand, Subchapter S was enacted as a remedial measure to relieve qualifying small business corporations of a tax otherwise payable. Section 1371(a)(2) limits the benefits of the Act to corporations whose stock is owned solely by individuals or estates. Where such a deliberately specific qualification is imposed, we must strictly apply it lest the narrow benefit intended by Congress be unduly broadened. Hence, the “grantor trust rules,” with the very purpose of expansion, and the qualification requirements of section 1371(a), with their restrictive purpose, are not analogous, and their comparison is not supportive of the taxpayer in this case. Moreover, in making an argument based upon the applicability of the “grantor trust rules” taxpayer, in effect, concedes the existence and recognition of the Woods Trust for tax purposes because the rules themselves address taxation of trust income. If there were no trust for tax purposes, the rules would not apply. The applicability herein of the “grantor trust rules” embodied in section 671 et seq., therefore, reinforces, rather than refutes, the argument that the Woods Trust must be recognized as the owner of taxpayer’s stock. [527 F.2d at 627-628.] Even though the result in W & W Fertilizer Corp. would be different in light of the amendment made to section 1371(a)(2) and the addition of section 1371(f) by the Tax Reform Act of 1976, the case appears to be correctly decided in view of the court’s discussion of the remedial purpose of subchapter S.6  Under the facts of Swanson and W & W Fertilizer Corp., the grantor was treated as the “owner” of the entire trust; nevertheless, as to the issue of whether the trusts should be ignored for Federal income tax purposes, the two courts reached opposite results. In my opinion, however, the two cases are not inconsistent. A careful reading of each case shows that the underpinning for each decision was not on the operation-of sections 671, et seq.; rather, the crucial factor in both cases was the effectuation of a congressional policy expressed- through another Code section when that section operated simultaneously with the grantor trust rules.7  In the instant case, the decision as to whether the trust established under the will of A. Lindsay O’Connor should be recognized for Federal income tax purposes should not be made as the majority does, on the basis of an examination of section 678. The majority essentially disregards the trust for purposes of determining whether the estate should be allowed a deduction under section 661. The proper inquiry in deciding this issue should be whether there is any overriding congressional policy embodied in section 661 which would mandate our disregarding the trust in this case. Under the facts of this case, the answer to this question clearly lies in the negative. Section 661 essentially allows a trust or estate a deduction for distributions made to its beneficiaries. The regulations under section 643 provide that “A trust created under a decedent’s will is a beneficiary of the decedent’s estate.” Sec. 1.643(c)-l, Income Tax Regs. The mere fact that a trust is also one governed by subpart E should be of no consequence, and indeed that appears to be the position of the Service in Rev. Rui. 57-214,1957-1 C.B. 203, which involves a trust governed, as is the case here, by the provisions of section 678. This result should follow whether the beneficiary of a trust assigns her rights under the trust to her children, her corporation, her bank, to a charity, or to whomever. In light of the fact that no congressional policy would be served by ignoring the trust for purposes of the estate’s section 661 deduction, I would accordingly not disregard its existence.8  As its second ground for ignoring the maritál trust, the majority holds that the trust fails to meet the definition of a “trust” as set forth in section 301.7701-4(a), Proced. & Admin. Regs. Under his will, A. Lindsay O’Connor made provision for the creation of a trust for the benefit of his wife. The trustees, under the will, were charged with various duties which included payment of the trust income to the widow for her life and the payment of the trust corpus at her direction. Exercising this latter right, decedent’s wife completely assigned her interest in the trust to the O’Connor Foundation. Thereafter, approximately $20 million in property was distributed from decedent’s estate to the trust over the next 3 years. Shortly after its receipt of the property, the trust, pursuant to the widow’s directions, distributed this property to the foundation. The majority in reaching its conclusions herein reasons that the trust’s level of activity was so low as not to be recognizable for tax purposes. I cannot agree. In my opinion, resolution of whether a distinct jural entity under State law may be ignored for tax purposes requires a determination of many factors. Certainly, the level of activity performed by the entity is an important consideration; however, in the absence of a tax avoidance scheme,91 believe the quantum of activity only need be “minimal.” See Strong v. Commissioner, 66 T.C. 12, 24 (1976), affd. 553 F.2d 94 (2d Cir. 1977). In the instant case, the activity of the trust under any reasonable interpretation of the facts was sufficient to exceed that standard. The trustees were under a duty to receive the property from the executors of the estate and administer the same until the appropriate time for distribution to the beneficiary. Specifically, they were required to collect the full share of principal and income allocable to the marital trust from the estate, which requirement could not be completed until the administration of the estate had been completed. In view of the fact that the trustees ultimately collected in excess of $20 million in cash and property from the estate, and because they could be surcharged for their failure to perform properly, I believe it cannot reasonably be said that the activity of the trust was so low as not to meet the definition of a trust within the Code. Accordingly, I would recognize the marital trust as the recipient of the distributions made by the estate. Adoption of my approach would not necessitate reaching the issue raised by Mott v. United States, 462 F.2d 512 (Ct. Cl. 1972), and the regulations under section 663. More specifically, in the instant case, the estate would be allowed a section 661 deduction for any distributions it made to the marital trust. Since the marital trust, by virtue of the wife’s power and subsequently the foundation’s power over its corpus, is a section 678 trust, its taxation would be governed by section 671. Section 671 says that where a person is treated as the “owner” of a portion, all income and expenses of the trust attributable thereto are directly reportable by that person. The statute goes on to provide that any other portion of the trust not within the reach of sections 671 through 678 will be governed by sections 641 through 669. Because the wife and subsequently the foundation are treated as the “owner” of the entire trust, sec. 1.671-3(b)(3), Income Tax Regs., there is no “portion” of the trust that is governed by sections 641 through 669 and, accordingly, we need not decide the section 642(c), 661, 662, 663(a)(2), and Mott issue.10  Sterrett, J., dissenting: I respectfully dissent from the majority’s conclusion that “a literal interpretation of section 661(a)(2), which would permit (subject to the distributable net income ceiling) the deductibility of all amounts distributed and not otherwise expressly disallowed (see Mott v. United States, 462 F.2d 512, 517 (Ct. Cl. 1972)) would be inconsistent with the statutory framework and overall legislative objectives of subchapter J and that, as applied to the circumstances herein, respondent’s regulations should be sustained.” In my view, analysis of the applicable statutes and legislative history amply supports the opposite result. Although the majority’s view that the marital trust should not be recognized for Federal income tax purposes seems questionable, in any event, resolution of the alleged conflict between sections 642(c) and 661(a)(2) must be determined.1 This is so because even if the marital trust is recognized for Federal tax purposes, section 661 permits the estate a deduction for all amounts distributed by it (subject to the D.N.I. ceiling), and then upon distribution by the trust to the foundation, the sections 642(c) and 661(a)(2) issue must be scrutinized. The legislative history under subchapter J, part I, provides us with three general principles relating to distributions by estates and trusts, to wit: (1) While estates and trusts are to be treated as separate taxable entities, they are treated substantially as conduits through which income passes to the beneficiary; (2) all distributions are deductible by the estate or trust and are tax - able to the beneficiaries to the extent of the estate’s or trust’s current income; and (3) under the concept of distributable net income, the tracing of such distributions is not required. S. Rept. 1622, 83d Cong., 2d Sess. (1954), U.S. Code Cong. & Adm. News 4715-4717; see also H. Rept. 1337,83d Cong., 2d Sess. (1954), U.S. Code Cong. & Adm. News 4086-4087. Implementation of these principles, for the estate and trusts herein, is accomplished by sections 661 and 662. Section 661(a) allows a deduction by an estate or trust, not exceeding D.N.I., for any amount of income “required to be distributed currently” (sec. 661(a)(1)) and “any other amounts properly paid or credited or required to be distributed” (sec. 661(a)(2)). Then, with some limitations, section 662(a) includes in “the gross income of a beneficiary” amounts “paid, credited or required to be distributed” as specified in section 661(a). In addition to the distribution deduction, Congress has provided in section 642(c) that an estate or trust shall be allowed a deduction, in computing its taxable income (in lieu of a section 170(a) deduction), for any amounts of gross income paid, permanently set aside, or otherwise used exclusively for charitable purposes. Therefore, “a trust or estate is allowed an unlimited deduction for charitable contributions and is not subject to the limitation imposed on the charitable contributions of individuals.” H. Rept. 1337, supra, U.S. Code Cong. & Adm. News at 4332. See also S. Rept. 1622, supra, U.S. Code Cong. & Adm. News at 4982. In view of this broad deduction Congress enacted section 663(a)(2) as follows: (a) Exclusions. — There shall not be included as amounts falling within section 661(a) or 662(a)— (2) Charitable, etc., distributions. — Any amount paid or permanently set aside or otherwise qualifiying for the deduction provided in section 642(c) Therefore, upon a reading of sections 642(c) and 663(a)(2), there is no doubt that if an amount qualifies for deduction under section 642(c) it cannot also be deducted under section 661(a). This was the result intended by Congress and it is supported by the legislative record as follows: Subsection (a)(2) corresponds to subsection (b)(3) of the House bill. It provides that any amount paid, permanently set aside, or to be used for the purposes specified in section 642(c) (relating to charitable, etc., deductions) is excluded from the provisions of sections 661 and 662. For this purpose the deduction provided in section 642(c) is computed without regard to section 681. Since the estate or trust is allowed a deduction under section 642(c) for amounts paid, permanently set aside, or otherwise qualifying for the deduction provided in that section, such amounts are not allowed as an additional deduction for distributions, nor are they treated as amounts distributed for purposes of section 662 in determining the amounts includible in gross income of the beneficiaries. [S. Rept. 1622, supra, U.S. Code Cong. & Adm. News at 4995. See also H. Rept. 1337, supra, U.S. Code Cong. & Adm. News at 4344.] Furthermore, the Court of Appeals for the Second Circuit, to which an appeal in this case lies, has stated that section 642(c) was enacted “apparently because Congress did not wish charitable gifts by trusts to be subject to the percentage limitations imposed on individuals in section 170(b). Having authorized this broad deduction in section 642(c), Congress enacted section 663(a)(2) to prevent the trust from having a double deduction and a beneficiary from claiming a charitable deduction already taken by the trustee.” Statler Trust v. Commissioner, 361 F.2d 128, 132 (2d Cir. 1966). Therefore, neither the legislative history nor the statute requires a conclusion that an amount distributed by an estate or trust to a charity, which does not meet the requirements of section 642(c), cannot under any circumstances qualify for a deduction under section 661(a). Under a literal interpretation of the statute a finding that section 642(c) is inapplicable (the majority did so at page 173) in fact automatically makes section 663(a)(2) inapplicable.2  In my opinion section 1.663(a)-2,3 Income Tax Regs., is inapplicable to the facts before us; the regulation is consistent with the aforenoted statute and legislative history. Congress having authorized an exceptionally broad deduction for charitable gifts under section 642(c) understandably Wanted to prevent a double deduction under section 661. To deny the deduction under section 642(c) because of its inapplicability and then to further deny a distribution deduction under section 661 would be the killing of two birds with one stone. In my view the second sentence of section 1.663(a)-2, Income Tax Regs., must be read with the first sentence to preclude a deduction under section 661 when both sections 642(c) and 661 are applicable. However, where section 642(c) is inapplicable one must then test the deductibility of the distribution to the foundation under section 661. It cannot be gainsaid that distributions to the foundation were amounts “properly paid” within the meaning of section 661(a)(2). It becomes necessary, however, to determine whether the foundation qualifies as a “beneficiary” of decedent’s estate4 so as to permit the deduction of distributions to it under section 661(a). Implicit in this is that section 661 deductions are confined to distributions properly paid to beneficiaries.5  Section 643(c) provides that “the term ‘beneficiary’ includes heir, legatee, and devisee.” For purposes of the provisions here in issue “includes” is not deemed to exclude “other things otherwise within the meaning of the term defined.” Sec. 7701(b). In construing section 643(c) there is no legislative history to aid us and judicial authorities are almost nonexistent.6  In duPont Testamentary Trust v. Commissioner, 66 T.C. 761, 767 (1976), we held that to be deductible under section 661, “a distribution must be made to a beneficiary in his status as a beneficiary, not as a creditor or in some other capacity.” In the present case the source of the foundation’s interest is the gratuitous assignment by Mrs. O’Connor of her right to income and corpus of the marital trust. The validity of an assignment is determined under local law, Blair v. Commissioner, 300 U.S. 5 (1937), and under New York law Mrs. O’Connor’s assignment was valid. See New York Est., Powers & Trusts Law, Sec. 7-1.5 (McKinney 1967). Thus, the question narrows to whether the foundation, as an assignee-donee, is a “beneficiary” under section 643(c). Absent judicial construction or legislative history we must look to the plain meaning of the term “beneficiary.” The beneficiary of an estate or trust is simply the person for whose benefit the trust property is held by the trustee. See G. Bogert, The Law of Trusts and Trustees, sec. 1, p. 4 (2d ed. 1965). Although the majority opinion correctly notes that Blair v. Commissioner, supra, specifically involved the issue of whether an assignor of an income interest continued to be liable for the tax upon the income or whether the assignees were so liable, in my opinion, the case is helpful in defining the term “beneficiary” herein. The Court stated at 300 U.S. 12: The Government points to the provisions of the revenue acts imposing upon the beneficiary of a trust the liability for the tax upon the income distributable to the beneficiary. But the term is merely descriptive of the one entitled to the beneficial interest. These provisions cannot be taken to preclude valid assignments of the beneficial interest, or to affect the duty of the trustee to distribute income to the owner of the beneficial interest, whether he was such initially or becomes such by valid assignment. The one who is to receive the income as the owner of the beneficial interest is to pay the tax. If under the law governing the trust the beneficial interest is assignable, and if it has been assigned without reservation, the assignee thus becomes the beneficiary and is entitled to rights and remedies accordingly. We find nothing in the revenue acts which denies him that status. [Emphasis added; fn. ref. omitted.] Thus an assignee steps into the shoes of its assignor, here the transferring beneficiary. “It does not matter how the benefits are to come to the beneficiary. The important trust concept is that he has a right to obtain them.” G. Bogert, The Law of Trusts and Trustees, supra, sec. 188 at 289 (2d ed. 1965). It is an elementary principle of trust law that the trustee holds the trust property for the benefit of the beneficiary. After the assignment the foundation was entitled to and did receive the benefits of the trust. Clearly, it was entitled to enforce the duty of the trustee. Thus, in my opinion, the foundation received the benefits of the trust in its capacity as a “beneficiary.” Having decided that the foundation qualifies as a “beneficiary” one final point remains. That is, whether deductions should be denied for amounts distributed to the foundation because section 661(a) permits deductions only for distributions to taxable beneficiaries. In my opinion the answer is no. As previously stated sections 661 and 662 together apply the “conduit principle” to the basic pattern of taxability of complex trusts. Without these provisions a trust would compute its taxable income and pay the tax thereon according to rules substantially similar to those applicable to individuals. See secs. 641-643. Sections 661 and 662 in general require, however, that the beneficiary and not the trust be taxed (to the extent of the trust’s distributable net income) on any amounts which are paid, credited, or required to be distributed to that beneficiary. Section 661 permits the trust a deduction for the amounts so distributed whereas section 662 requires their inclusion in the gross income of the beneficiary. See duPont Testamentary Trust v. Commissioner, supra at 765-766. In my opinion, even if the beneficiary is exempt from tax on distributions required to be included in gross income under section 662, distributions to that beneficiary would still be deductible by the trust under section 661. Congress’ intent in enacting the distribution rules cannot be read in a vacuum. Thus Congress’ statement that “The bill adopts the general principle that to the extent of the trust’s current income all distributions are -deductible by the estate or trust and taxable to the beneficiaries,”7 must be read in conjunction with other statutory provisions specifically exempting income. In Helvering v. Butterworth, 290 U.S. 365 (1933), which antedated the enactment of subchapter J, the Court, in discussing the statute then in effect, stated at 290 U.S. 369, that the evident general purpose of the statute was “to tax in some way the whole income of all trust estates.” However, the Court observed at 290 U.S. 369, that “Certainly, Congress did not intend any income from a trust should escape taxation unless definitely exempted.” (Emphasis supplied.) It follows that, since the income to the foundation is “definitely exempted” under section 501, effect must be given to such provision. Similarly in Rev. Rul. 74-299, 1974r-l C.B. 154, a nonexempt employees’ trust was permitted a deduction under section 661 despite the fact that the specific provisions of section 402(b), rather than section 662(a), applied to the employee as beneficiary of the trust. Additionally, in Estate of Tait v. Commissioner, 11 T.C. 731 (1948), remanded by stipulation in compromise (4th Cir. 7/20/49), the parties agreed that the trust would be permitted a deduction for payments made to four foreign domiciliaries who were exempt from U.S. tax under a treaty between the United States and Canada. I respectfully submit that the trust or estate, as one may have it, should be allowed a section 661(a) deduction for amounts distributed to the foundation and, accordingly, the foundation will then pick up its allocable share of D.N.I. under section 662. Drennen and Wiles, JJ., agree with this dissenting opinion.  Unfortunately, the majority has chosen to decide this complex issue regarding the separate transactional existence of a grantor trust without the benefit of the parties’ thoughts on the matter. See n. 19 of the majority’s opinion. Also, compare Norwood v. Commissioner, 66 T.C. 467, 469 (1976), with Smith v. Commissioner, 56 T.C. 263, 291 n. 17 (1971), cited by the majority in n. 19 of its opinion.   “Portion” could include part or all of a trust depending upon the extent of a person’s rights over its income and corpus. See sec. 1.671-3, Income Tax Regs. See also L. Schmolka, “Selected Aspects of the Grantor Trust Rules,” U. Miami Ninth Inst, on Est. Plan., par. 1400 (1975).   See text accompanying n. 17 of the majority opinion.   For a brief but excellent discussion of this issue, see L. Schmolka, supra n.2.   Because of a concession made by respondent, this Court never reached the precise issue stated in the text and dealt with by the Eighth Circuit.   “Amended sec. 1371(a)(2) and new sec. 1371(f) provide a “trust all of which is treated as owned by the grantor under subpart E” may be a shareholder in a subch. S corporation. (Emphasis added.) The statute, as written, would not appear to permit as a shareholder, a trust less than all of which is treated as owned by the grantor. Unfortunately, I believe the approach taken by the majority herein has arguably undercut this implicit limitation. For example, assume that in year 1, G is a 100-percent shareholder in X corporation which is governed by subch. S. In year 2, G places all of his X stock along with $100,000 in trust for the benefit of his nephew, A, for A’s life with remainder to A’s estate. As grantor, G has the power to revoke the trust and revest in himself title to the X corporation stock only. By virtue of sec. 676(a), G would be treated as the “owner” of that portion of the trust which includes the X stock but not as to that portion which includes the $100,000. Because G is not treated as the “owner” of the entire trust, it would appear that under sec. 1371(a)(2) and (f), X corporation would no longer qualify as a subch. S corporation. However, under the majority’s view of the grantor trust rules, that portion of the trust which includes the X stock would not exist for tax purposes and X corporation would not be disqualified from subch. S treatment on the basis of its stock ownership.   In Terriberry v. United, States, an unreported case (M.D. Fla. 1974, 34 AFTR 2d 74-6267, 74-2 USTC par. 13,002), revd. 517 F.2d 286 (5th Cir. 1975), W, decedent’s wife, created a revocable grantor trust and transferred several life insurance policies on the decedent’s life to the trust. Decedent, H, was named cotrustee and was specifically prohibited from exercising any incidents of ownership in his individual capacity. Subsequently, H died and the issue was whether he died possessing sufficient incidents of ownership in the policies to cause the proceeds to be includable in his estate under sec. 2042. The District Court held that because W was treated as the “owner” of the policies for all tax purposes under the grantor trust rules, H could not be said to have died possessing any incidents of ownership to cause inclusion of the proceeds in his estate. The Fifth Circuit reversed. It is interesting to note that in its reversal, the Fifth Circuit dismissed out of hand as being unpersuasive the District Court’s grantor trust reasoning. That reasoning formed the foundation of the District Court’s decision just as it does in the opinion of the majority herein.   Moreover, the Service in its ruling has not been entirely consistent in its treatment of the recognizability of a grantor trust for tax purposes. Compare Rev. Rui. 69-450, 1969-2 C.B. 168, and Rev. Rui. 57-214,1957-1 C.B. 203, where the separate existence of a grantor trust is not ignored, with Rev. Rul. 73-584,1973-2 C.B. 162, and Rev. Rui. 74-613,1974-2 C.B. 153, where the trust’s existence is apparently ignored.   The majority, in n. 18, cites Furman v. Commissioner, 45 T.C. 360, 364 (1966), affd. per curiam 381 F.2d 22 (5th Cir. 1967). In that case we ignored a trust which only served as a vehicle for avoiding taxes. This is not the situation here, and for this reason I believe the case is not on point.   The majority attempts to obfuscate this point in its n. 17. The footnote properly recognizes that if the marital trust exists for tax purposes then the estate would be entitled to a sec. 661 deduction for payments thereto. It also correctly points out that the foundation by virtue of secs. 671 and 678 would be responsible for reporting the income of the trust. It then goes on to make the curious statement: “Because of the operation of section 678 at this level only, the issue of whether or not the trust may claim a section 661 deduction for its distributions to the foundation is mooted because the trust would have no income to offset with a section 661 deduction.” I cannot agree with the majority’s interpretation of the operation of subpart E. The question of whether the marital trust is entitled to a sec. 661 deduction for distributions it makes to the foundation is, of course, mooted. But the reason it is mooted is not “because the trust would have no income to offset with a section 661 deduction;” rather, the reason is because the penultimate sentence in sec. 671 essentially says that where, as is the case here, an entire trust is governed by the provisions of subpart E, sec. 661 does not even apply. The footnote goes on to make the misstatement that the trust has no income. However, sec. 671 refers on its face to the “income * * * of the trust.” A correct interpretation of the statute is that the trust does indeed have income. Sec. 671 merely identifies who shall report it.   Under the majority’s view sec. 678 precludes recognition of the marital trust for tax purposes and the foundation is treated as the owner of the trust property. A logical extension of this view would seem to require the application of sec. 678 to the estate, and therefore the estate would also have no income vis-a-vis the foundation. To my mind, the logical extension of the majority’s view demonstrates the weakness of its original premise. It is apparent that Congress, in enacting sec. 678, did not recognize this problem (the applicability of sec. 678 to an estate), but as the majority has decided the ease under secs. 642(c) and 661(a)(2) resolution of the issue, for purposes of this dissent, is unnecessary.   See M. Ferguson, J. Freeland, & R. Stephens, Federal Income Taxation of Estates and Beneficiaries, 379 (1970).   Sec. 1.663(a)-2. Charitable, etc., distributions. Any amount paid, permanently set aside, or to be used for the charitable, etc., purposes specified in section 642(c) and which is allowable as a deduction under that section is not allowed as a deduction to an estate or trust under section 661 or treated as an amount distributed for purposes of determining the amounts includible in gross income of beneficiaries under section 662. Amounts paid, permanently set aside, or to be used for charitable, etc., purposes are deductible by estates or trusts only as provided in section 642(c). * * *   Since the validity of the marital trust for Federal income tax purposes is irrelevant with respect to the sec. 661(a) deductions, reference to decedent’s estate or the marital trust shall be used interchangeably.   This construction is confirmed by the legislative history as follows: “This section (subject to the limitations discussed below) allows an additional deduction to estates or trusts for amounts paid, credited, or required to be distributed to beneficiaries. * » * ” [H. Rept. 1337, 83d Cong., 2d Sess. A198 (1954); S. Rept. 1622,83d Cong., 2d Sess. 347 (1954); U.S. Code Cong. & Adm. News 4988.]   Except for duPont. Testamentary Trust v. Commissioner, 66 T.C. 761 (1976), the cases cited by the majority (at p. 179 of its opinion) pertain to the definition of beneficiary under sec. 642(h). In my opinion these cases are inapposite to the inquiry herein involved because the term “beneficiary” under sec. 642(h) has a narrower purpose than in sec. 643(c) in that it is intended as a relief provision to the beneficiary. See Sletland. v. Commissioner, 43 T.C. 602, 610 (1965).   H. Rept. 1337, 83d Cong., 2d Sess. 60 (1954); S. Rept. 1622, 83d Cong., 2d Sess. (1954), U.S. Code Cong. & Adm. News, 4714-4715.