IDGT Real Estate Sale: What Rev. Rul. 2023-2 Costs in Step-Up

What the trust is, in two halves

“Defective” is the planner's word for a trust built to fail one test and pass another. The income tax half: if the grantor is treated as the owner of the trust, “those items of income, deductions, and credits against tax of the trust which are attributable to that portion of the trust” are taxed to the grantor (26 U.S.C. 671). Section 675 lists the powers that do it. Two matter here: a trust is a grantor trust if “the grantor has directly or indirectly borrowed the corpus or income and has not completely repaid the loan” (675(3)), and if a person holds, in a personal capacity rather than as a trustee, “a power to reacquire the trust corpus by substituting other property of an equivalent value” (675(4)(C)). The estate and gift tax half is the opposite: the transfer is a completed gift and the grantor keeps no power that brings the trust back into the estate under sections 2036 or 2038.

Sources: 26 U.S.C. 671, 675 and 2036 (Cornell LII copy of the Code); Rev. Rul. 2004-64 (IRB 2004-27, July 6, 2004); IRS Private Letter Ruling 202022002. We could not retrieve the text of Rev. Rul. 85-13, 1985-1 C.B. 184, from irs.gov; the private letter ruling, which is not precedent, describes it as holding that the owner of a grantor trust “is not merely taxable on a trust's income, but is treated as the owner of the trust's assets for federal income tax purposes”, and that acquiring trust assets for the owner's note was “in substance, the economic equivalent of borrowing trust corpus.”

The 2036(a) exception is the load-bearing phrase for a sale: the Code includes transferred property in the estate “except in case of a bona fide sale for an adequate and full consideration in money or money's worth.” That is why the price must be a real appraisal and the note a real debt. The tax-reimbursement point from Rev. Rul. 2004-64 also matters for a building: rent and any gain belong on your return, and the trust document has to be drafted so that reimbursement is discretionary.

The note: which AFR, which month

The sale price is paid with a note, usually interest-only with a balloon at the end. The Code sets the minimum rate: “In the case of any sale or exchange, the applicable Federal rate shall be the lowest 3-month rate” (26 U.S.C. 1274(d)(2)(A)), meaning the lowest AFR “in effect for any month in the 3-calendar-month period ending with the 1st calendar month in which there is a binding contract in writing.” The band follows the term: “over 3 years but not over 9 years” takes the mid-term rate, longer takes the long-term rate (1274(d)(1)(A)). Our applicable federal rate guide lists every 2026 month.

Source: IRS Rev. Rul. 2026-13, 2026-17, 2026-19 and 2026-21 (Table 1 and Table 5). The note rate and interest columns are our arithmetic from 26 U.S.C. 1274(d)(2): the lowest of the three months ending with the month of the contract. The August mid-term figure is printed by the IRS in a misaligned row of its PDF; it matches the 4.35% on our AFR page. The December ruling is not out as of October 21, 2026.

Two consequences. A contract signed in October 2026 locks 4.35% even though the October rate is 4.61%, so in a rising year signing earlier is cheaper (our reading). And the 7520 rate is not the sale rate: it values annuities and remainders, which is why it drives a GRAT. A 5-year zeroed-out GRAT on $5,000,000 pays $1,174,095 a year at the October 5.6% rate and $1,193,447 at the November 6.2% rate (our arithmetic; see our GRAT guide).

What Rev. Rul. 2023-2 says, and what it leaves open

The ruling asks whether there is a section 1014 basis adjustment for the assets of a trust when its owner dies and “the trust assets are not includible in the owner's gross estate.” The facts: an irrevocable trust, a completed gift, a retained power making the donor the income tax owner, no power that would put the assets in the estate, appreciation by the date of death. The answer: because the asset “does not fall within any of the seven types of property listed in § 1014(b)”, there is no adjustment, and the result is that “the basis of Asset immediately after A’s death is the same as the basis of Asset immediately prior to A’s death.” Under 26 U.S.C. 1014(a)(1) the heirs of an asset in the estate would instead take “the fair market value of the property at the date of the decedent’s death”; a gift keeps the donor's basis under 26 U.S.C. 1015(a). Our step-up in basis guide covers the ordinary case and our revocable versus irrevocable trust guide the wider trade.

Three gaps are visible in the text (our reading):

• The facts are a gift, not a sale. The ruling funds the trust by gift. A sale to an IDGT leaves the building outside the estate on the same reasoning, but the ruling does not mention sales.
• The note. The facts state that “neither T nor A held a note on which the other was the obligor.” If you die with the sale note unpaid, the ruling is silent. The regulation on a change in grantor status, 26 CFR 1.1001-2(c) Example 5, treats the owner, when the trust stops being a grantor trust, as having “transferred ownership of the interest in P to T”; whether a death with a note outstanding triggers gain is a question the sources we read do not answer, and we do not model it.
• Dates. The ruling is dated April 17, 2023 (IRB 2023-16). We found no later ruling in the sources we read that changes it.

Break-even: sale to an IDGT vs GRAT vs outright gift vs holding until death

All numbers in this section are our arithmetic; the script is saved with the CSV. The inputs are assumptions you should replace with your own.

First, the building alone, ignoring cash flow. The estate tax saved by moving the growth out is 40% of the gain over $5,000,000; the lost step-up is the income tax on the gain over the $1,500,000 basis.

On the building alone, the estate tax saved does not catch the lost step-up even at 8% (our arithmetic). The full model adds what the strategies do with the cash flow and the note, and measures what the family ends with after estate tax and after income tax on a sale by the heirs.

Our arithmetic. Hold: 40% estate tax on the building and the cash, full step-up. Sale to an IDGT: estate tax on the note, the interest you saved and the seed-gift exclusion; income tax on a sale by the heirs. Outright gift: uses $5,000,000 of exclusion (a cost of $2,000,000 at 40%), moves the rent out of your estate, carryover basis. The gift row beats holding even at low growth because it also hands over the rent; it gives you no payment stream, which the sale does.

Read across: the sale to an IDGT trails holding at 4% and 6% growth and leads at 8%. The break-even growth is about 6.7% a year for the IDGT sale, about 5.6% for the GRAT and about 1.5% for the outright gift (our arithmetic, estate above the exclusion). The GRAT ends near holding at 6% growth and ahead of it at 8%.

Our arithmetic, same inputs, no federal estate tax in any column. The difference from holding is exactly the lost step-up: $1,386,741, $1,703,480 and $2,071,816 for the sale and the gift; $523,244, $650,600 and $813,727 for the GRAT, whose remainder is only part of the building.

The lost step-up shrinks as the starting basis grows, because less gain is exposed (6% growth, $1,000,000 of depreciation in every row):

Things this model leaves out, all of which move the answer (our reading): state estate and income taxes, depreciation taken after the transfer, a discount for a minority or illiquid interest, the income tax you pay for the trust (which transfers more value, in the IDGT's favor, under Rev. Rul. 2004-64), a mortgage, a death before year 9, and whether the note is unpaid at death.

The way back: the swap power

A swap power lets you reacquire the building by substituting property “of an equivalent value” (26 U.S.C. 675(4)(C)). Rev. Rul. 2008-22 holds that a power, held in a personal capacity rather than as a trustee, to substitute equivalent-value property “will not, by itself, cause the value of the trust corpus to be includible in the grantor's gross estate under § 2036 or 2038”, provided the trustee has to check that the values are equal and the power cannot shift benefits among beneficiaries. Used before death, a swap puts the appreciated building back in your estate, where 26 U.S.C. 1014 applies, in exchange for cash or the note at the same value (our reading). Two limits: the trust has to contain the power and the trustee has to police it; and, because the value you hand in equals the value you take out, the growth you moved to the trust comes back into your estate. It helps when the estate ends up under the exclusion; if the estate is over, you give up the saving for the step-up (our reading, not a ruling).

Who is in range

At $15,000,000 per person for 2026 (Rev. Proc. 2025-32, section 2.14; see our estate tax exemption guide) most owners of a rental building are far below the federal threshold, and for them the second table above is the whole picture: the lost step-up with nothing saved. Check the state before concluding that: several states tax estates well below $15,000,000 (our state estate and inheritance tax list). An IDGT can also be the vehicle for generation-skipping planning (our dynasty trust guide); that is a different question from the one priced here. An installment sale to an unrelated buyer is a separate topic (our installment sale guide).

The match below is with advisers who can put the break-even on your numbers; the trust itself is drafted by an estate attorney and the sale needs a qualified appraisal and a CPA.

What a reader can do with this

• Find out which table you are in. Total your estate against the $15,000,000 exclusion and your state's threshold. Below both, a sale to an IDGT saves no estate tax and costs the step-up.
• Put your own basis and growth into the model. Ask the adviser for the lost step-up in dollars at your basis, with the 25% rate on depreciation and the 3.8% tax.
• Ask for the note terms in writing. The rate is the lowest AFR of the three months ending with the contract month (1274(d)(2)); the rate for a December contract is not published until the December ruling appears.
• Ask how the trust handles the income tax. Reimbursement must be discretionary (Rev. Rul. 2004-64).
• Ask about the swap power and who polices it, and what you would swap with.
• Ask what happens at death with the note outstanding. Rev. Rul. 2023-2 does not answer it.

FAQ

Sources, read and saved on October 21, 2026: 26 U.S.C. 1, 671, 675, 1014, 1015, 1274, 1411, 2001, 2036 and 7520 (Cornell LII copy of the U.S. Code); 26 CFR 1.1001-2 (eCFR, version of October 15, 2026); Rev. Rul. 2023-2 (Internal Revenue Bulletin 2023-16, April 17, 2023), Rev. Rul. 2004-64 (IRB 2004-27) and Rev. Rul. 2008-22 (IRB 2008-16); IRS Private Letter Ruling 202022002, which describes Rev. Rul. 85-13, whose own text we could not retrieve; Rev. Rul. 2026-13, 2026-17, 2026-19 and 2026-21; Rev. Proc. 2025-32 section 2.14. Lost step-up, estate tax saved, break-even growth, note interest and GRAT annuities are our arithmetic (script saved with the data); interpretations marked “our reading” are ours. This is analysis of public documents, not investment, legal or tax advice.