Usually not — and the reason has nothing to do with the trust being offshore. Under Revenue Ruling 2023-2, assets in an irrevocable grantor trust receive no §1014 basis adjustment at the grantor’s death unless those assets are included in the grantor’s gross estate. Most offshore asset protection trusts are funded as completed gifts specifically to remove assets from the estate. That choice forfeits the step-up. The question is not domestic versus offshore. It is completed gift versus incomplete gift.
For a client with low-basis assets, the difference is often larger than the entire cost of the structure.
Key Points
- The ruling’s premise is a completed gift. Its facts describe a trust funded in a transfer that was a completed gift for gift tax purposes.
- The test is estate inclusion, not trust type. Offshore, domestic, revocable, irrevocable — none of it matters. Only whether the assets are in the gross estate.
- The IRS reasoning is narrow and hard to argue with: trust assets outside the gross estate fit none of the seven categories in §1014(b).
- Estate inclusion and creditor exposure are independent questions. One is a tax computation; the other is about what a court can compel.
- The real cost of estate inclusion is estate tax, not creditor reach — and exemptions plus dynasty provisions address that.
- A substitution power is now the standard fix. Structures built with one from inception did not need retrofitting.
What Rev. Rul. 2023-2 Actually Says
That assets held in an irrevocable grantor trust do not receive a §1014 basis adjustment at the grantor’s death when those assets are not includible in the grantor’s gross estate — even though the grantor paid income tax on the trust’s earnings for their entire life.
Revenue Ruling 2023-2, 2023-16 I.R.B. 1, issued March 2023, addressed a question practitioners had argued about for years.
The facts matter more than the holding. An individual established an irrevocable trust and funded it in a transfer that was a completed gift for gift tax purposes. The individual retained a power causing the trust to be treated as a grantor trust for income tax purposes under subpart E. At death, the trust assets were not includible in the gross estate.
The holding: no basis adjustment.
The reasoning is the part worth understanding, because it forecloses the workaround people had hoped for. Section 1014(a) applies to property “acquired from a decedent,” and §1014(b) lists seven categories of what that means. The IRS worked through all seven and concluded that assets in an irrevocable grantor trust outside the gross estate fit none of them.
Congressional committee reports, citing case law, had explained that property cannot be said to come from a decedent by bequest, devise, or inheritance unless it forms part of the decedent’s estate.
Paying the income tax during life did not change that. Being the owner for income tax purposes under chapter 1 is a different question from being the owner for estate tax purposes under chapter 11, and §1014 keys to the second one.
Why This Reaches Most Offshore Asset Protection Trusts
Because they are deliberately funded as completed gifts. Removing assets from the estate is what makes them protective, and it is the same act that forfeits the step-up. The ruling made that trade explicit.
A conventional offshore asset protection trust is structured so the settlor no longer owns the assets. That is the entire mechanism. If a creditor can show you still own something, the structure has failed at its purpose.
Funding it is therefore a completed gift — a reportable transfer that uses gift tax exemption and removes the assets from your estate.
Which lands exactly on the ruling’s facts.
The IRS forced a choice, and commentators described it plainly at the time: if you want the step-up, the asset has to be in your estate at death and therefore exposed to estate tax. If you want the assets out of the estate, you lose the step-up.
For a client holding a low-basis asset, the number is not small. A founder whose $200,000 basis grew to $8 million inside a completed-gift trust leaves heirs with the original basis. They sell and pay capital gains on the full $7.8 million appreciation. At combined federal and state rates frequently above 30 percent, that is more than $2.3 million.
That cost is invisible until the grantor dies. It usually exceeds the lifetime cost of the structure by a wide margin.
So the Real Question Is Completed Gift or Incomplete Gift
Not offshore versus domestic. Not protective versus not. The ruling turns on one fact — whether funding the trust was a completed gift that removed assets from the gross estate.
If funding was a completed gift, assets are out of the estate, and Rev. Rul. 2023-2 controls. No step-up.
If funding was an incomplete gift, assets remain in the gross estate. Section 1014 applies on its own terms, and the ruling never reaches the question — because its premise is absent.
A trust designed as an incomplete-gift grantor trust keeps assets in the estate during the grantor’s life. That is deliberate, and it is the specific design choice that preserves the basis adjustment.
Two mechanisms typically produce that result, and both appear in a properly drafted instrument.
A retained limited power of appointment, exercisable at death, is a long-recognized way to keep a transfer incomplete for gift tax purposes.
A non-fiduciary power of substitution under IRC §675(4)(C) — the right to reacquire any trust asset by substituting property of equivalent value — maintains grantor trust status. A well-drafted instrument states that purpose expressly rather than leaving it to inference.
The Objection Worth Taking Seriously
That keeping assets in your estate for §1014 must weaken creditor protection — because if the assets are “in your estate,” surely a creditor can reach them. That conflates two independent questions, and the confusion is understandable.
This is the sharpest version of the criticism, and it deserves a direct answer rather than a dismissal.
Estate inclusion is a tax computation. The gross estate under chapter 11 is a valuation exercise performed after death to determine estate tax. It is a number on a return. It is not a pool of assets sitting somewhere that a creditor can attach.
Creditor reach is a jurisdictional and enforcement question. Whether a creditor can collect depends on whether a court with jurisdiction can compel someone to hand something over. That turns on situs, on who holds legal title, on which law governs enforcement, and on whether the person before the court has the ability to comply.
Those two questions have different answers because they are asked by different bodies of law. An asset can be includible in your gross estate for estate tax purposes and simultaneously sit in a trust that a domestic court cannot reach, because the estate tax rule and the enforcement rule are not connected.
Nothing in the Internal Revenue Code gives a private judgment creditor access to property because it appears on a Form 706.
The layering is what makes the two independent in practice. Operating assets sit in state-matched entities. Those entities are held by a limited partnership whose statute makes the charging order the exclusive remedy. The partnership interest is held by the trust. What is being valued for estate tax purposes is an interest in that chain. What a creditor would have to reach is the chain itself.
Where the criticism is right: estate inclusion has a real cost. It is just not creditor exposure. It is estate tax exposure — assets in the estate are subject to transfer tax above available exemptions.
That is the honest trade, and it is addressed differently: both spouses’ federal exemptions apply at the second death, the excess is taxed once, and dynasty provisions in the same instrument carry the remaining wealth forward without a fresh taxable transfer at each subsequent generational death.
One taxable event instead of a lost step-up plus a taxable event at every generation.
The Substitution Power Became the Standard Fix
After the ruling, practitioners with existing completed-gift grantor trusts started using the substitution power as a remedy — swapping low-basis trust assets back into the estate before death. It works. It also means the tool being retrofitted is one a properly designed structure already had.
The strategy is straightforward. Where a grantor trust holds a low-basis asset, the grantor exercises the substitution power during life to exchange it for higher-basis property of equal value. The low-basis asset returns to the grantor’s estate, and if held until death, becomes eligible for the §1014 adjustment.
That is genuine and useful planning, and estate attorneys have been implementing it since 2023.
It also requires two things. The instrument has to contain the power — many older irrevocable trusts do not. And someone has to actually exercise it, in time, with attention to valuation.
A structure drafted from inception with a §675(4)(C) substitution power stated for that express purpose is not solving the problem after the fact. It has the tool because the design contemplated it.
The Question to Ask
If you hold or are considering an offshore or irrevocable trust, one question settles this:
“Was funding this trust a completed gift, and are the assets includible in my gross estate at death?”
If it was a completed gift and the assets are out of the estate, Rev. Rul. 2023-2 applies. There is no step-up, and the remedy is a substitution power exercised before death — assuming the instrument has one.
If funding was incomplete and the assets remain in the estate, §1014 operates normally.
Anyone selling an offshore structure who cannot answer that question directly has not thought about what happens after you die. And a CPA reviewing the plan will ask it, because the number is large enough to matter.
Tax treatment is one factor in the offshore decision. For the full picture of how an offshore asset protection trust works and how it compares with a domestic trust, see my guide.
FAQs
Does an offshore trust preserve the step-up in basis? Usually not, though the reason is not that it is offshore. Most offshore asset protection trusts are funded as completed gifts that remove assets from the estate, and under Rev. Rul. 2023-2 assets outside the gross estate receive no §1014 adjustment.
What did Rev. Rul. 2023-2 hold? That assets in an irrevocable grantor trust get no basis adjustment at the grantor’s death when they are not includible in the grantor’s gross estate — even though the grantor paid the trust’s income tax during life.
Why doesn’t paying the income tax help? Because being the owner for income tax purposes and being the owner for estate tax purposes are separate questions under separate chapters of the Code. Section 1014 keys to estate inclusion.
What is the difference between a completed and incomplete gift? A completed gift is a transfer where the grantor has parted with sufficient dominion and control that it is treated as final for gift tax purposes, removing the assets from the estate. An incomplete gift leaves the assets in the estate. Retaining a limited power of appointment is one recognized way to keep a transfer incomplete.
If assets stay in my estate, can creditors reach them? Not for that reason. The gross estate is a tax computation performed after death, not a pool of attachable assets. Creditor reach depends on situs, title, governing law, and what a court can compel — a separate analysis.
What is the real cost of keeping assets in the estate? Estate tax exposure above available exemptions. Not creditor exposure. That cost is addressed by using both spouses’ exemptions and by dynasty provisions that prevent a fresh taxable transfer at each subsequent generation.
Can an existing trust be fixed? Sometimes. If the instrument contains a substitution power, the grantor can exchange low-basis trust assets for higher-basis property of equal value before death, returning the low-basis asset to the estate. That requires the power to exist and someone to exercise it in time.
Does a revocable living trust get a step-up? Yes. Assets in a revocable trust remain in the grantor’s estate, so §1014 applies. A revocable trust also provides no creditor protection during life, which is the trade.
Why This Matters More Than It Looks
Most discussion of asset protection stops at the creditor question. Rev. Rul. 2023-2 is a reminder that a structure has to survive the client’s death as well as the client’s lawsuit.
A trust that defeats a judgment and then hands heirs a $2.3 million capital gains bill has solved one problem and created another. The client is not around to notice. The family is.
The design question is narrow and it is answerable: completed gift or incomplete gift. Everything else about the step-up follows from it.
Structure before stress.
📞 For a confidential legal consultation, contact Bradley Legal Corp. at (888) 773-9399, or complete the intake questionnaire at btblegal.com.
By: Brian T. Bradley, Esq. – National Asset Protection Attorney
