Trusts and Taxes

[Daniellekj]

We're starting to do estate planning this year. What sort of differences, tax-wise, should we expect when moving to a family trust? Do we need to file differently? Are there things to prep or look out for?

Thanks in advance for the help!

[RobertB4444]

Most family trusts don't change your tax situation at all.  They are created and then they aren't funded until the death of one of the principals who created it.  So all of your taxable income just continues to operate as though it were held by you.

Some trusts, however, can be more complex.  If ownership of a lot of income producing items is transferred to the family trust while you are still alive then the trust may be required to file a tax return reporting that income.  When creating the trust you should be consulting with your attorneys about what will be in the trust's name now and what will not be moved until you pass away.  

@Daniellekj 

[M-MTax]

If the trust is a grantor trust, you can use an optional method of filing (rather than filing a 1041).

See https://www.irs.gov/instructions/i1041#en_US_2024_publink1000286018

Note that, in order to be effective, you will have to transfer title of your real estate holdings, bank accounts, brokerage accounts, et al, into the name of the trust.

You really do need to consult with local legal counsel with experience in wills, trusts, and estates prior to making any firm decisions.

[DaveF1006]

Yes, moving to a family trust may have significant tax implications and filing requirements thus you would need to make a decision on how you wish to structure it. Here’s are some considerations you may wish to make.

Income Tax Treatment: 

• Revocable Trusts: These are treated as part of your personal tax return, meaning income generated by the trust is taxed at your individual rate.
• Irrevocable Trusts: These are separate tax entities and can face higher tax rates—trusts reach the highest federal bracket (37%) at just $14,450 of income, compared to $578,125 for single filers.

Estate & Gift Taxes:

• A properly structured trust can help reduce estate taxes by removing assets from your taxable estate.
• The estate tax exemption for 2024 is $13.61 million, meaning estates below this threshold won’t owe federal estate tax.

State Taxes:

• Some states impose income taxes on trusts, while others (like Florida) do not.

Filing Requirements

• Trusts must file Form 1041 (U.S. Income Tax Return for Estates and Trusts) if they generate $600 or more in gross income or have a non-resident alien beneficiary.
• Beneficiaries receiving distributions report them on Schedule K-1, which they include in their personal tax returns.

Preparation Steps

1. Choose the Right Type of Trust: Decide between revocable vs. irrevocable, depending on your estate planning goals.
2. Select a Trustee: This person will manage the trust and ensure compliance with tax laws.
3. Understand Distribution Rules: Trusts can distribute income to beneficiaries to reduce tax burdens.
4. Consider State Tax Implications: Some states have higher trust tax rates, so choosing the right jurisdiction matters.

Here's an additional resource you may read for additional information. 

Family Trust Considerations

6 Family Trust Advantages and Disadvantages

[M-MTax]

Irrevocable trusts can also be grantor trusts (or partial grantor trusts) and the grantor treated, for federal income tax purposes, as the owner of the trusts' assets.

Moving assets (cash or property) out of one's estate for federal income tax purposes is a complicated matter. Most trusts cannot accomplish that goal with the exception of IDGTs. However, removing the assets in that manner also has a downside which, basically, is the fact that the assets in the trust do not get a stepped up basis when the grantor dies.

A nongrantor trust must file a 1041 if it generates $600 or more in gross income OR any taxable income.

Estate planning can be very complex and trusts are only one tool in the planning toolbox (and not necessarily the best one for a host of purposes). A proper estate plan for an estate with not insubstantial assets requires consultation, in person, with a qualified professional.