## Facts

- A trust created under a will paid its income beneficiary all net income other than capital gains for life; capital gains were retained in corpus.
- In 1955, the trust received tax-exempt municipal bond interest, taxable dividends and interest, and substantial net long-term capital gains.
- The trust incurred general administrative expenses not directly tied to any specific class of income; the expenses were charged to and paid from corpus.
- The trustee allocated those expenses pro rata across all trust income, including capital gains, which reduced the portion allocable to tax-exempt interest and increased the portion offsetting taxable income.
- The Commissioner allocated the same expenses only among income items distributable to the beneficiary (tax-exempt interest and taxable dividends/interest), excluding retained capital gains.
- The Commissioner’s allocation increased the expenses treated as allocable to tax-exempt income, reducing expenses that could offset taxable income, and produced a 1955 deficiency.
- The Tax Court sustained the Commissioner’s approach; the beneficiary and estate sought review in the Second Circuit.

## Issues

1. Under I.R.C. § 652(b), must general trust administrative expenses be allocated only among classes of income entering distributable net income and distributable to the beneficiary, thereby excluding retained capital gains?
2. Or must such expenses be allocated pro rata among all trust income, including capital gains retained in corpus?

## Decision

- The Second Circuit affirmed the Tax Court.
- The court upheld the Commissioner’s allocation of general expenses only among distributable taxable income and tax-exempt interest, excluding capital gains retained in corpus.
- The resulting deficiency was sustained.

## Legal Principles

- For a “simple trust” governed by I.R.C. § 652, the character of amounts included in a beneficiary’s gross income under § 652(b) is determined by reference to distributable net income and the income items distributable to the beneficiary.
- General trust administrative expenses not directly attributable to a specific class of income are allocated, for § 652(b) character purposes, among the classes of income that comprise distributable net income and are distributable to the beneficiary.
- Capital gains retained in corpus and not part of distributable net income may be excluded from the allocation base when determining the taxable and tax-exempt character of beneficiary distributions.
- Expense allocation that increases the portion allocable to tax-exempt income is consistent with the rule disallowing deductions allocable to tax-exempt income (as reflected in related Code policies).

## Conclusion

The court held that § 652(b) requires allocating general trust expenses by reference to distributable net income and distributable income classes, so retained capital gains are excluded from the allocation base even if they are part of the trust’s overall economic income.


Tucker v. Comm’r, 322 F.2d 86 (2d Cir. 1963)