If a beneficiary is not named for an IRA or an Annuity and the total lump sum distributions goes to their estate does the estate pay the taxes due on that income?

[Vic1225]

I'm the executor for my Aunt's estate. I am filing out the Form 1041 and 2 K-1's.  She died in July 2015 and did not have a beneficiary named for her IRA. I received a 1099R in the estate's name showing a total lump sum distribution of her IRA. She also had an annuity but the beneficiary predeceased her. The annuity was paid in a lump sum distribution also to her estate in 2015 and I received a 1099R. She left a will that instructs the contents of her estate to be distributed equally between myself and my brother (50/50). My question is, for both the IRA and Annuity amounts that were distributed as income to the estate, does the estate pay the taxes on these amounts or is that income reported to myself and my brother as income required to be distributed currently on our K-1's and we then pay taxes on the income?

[dmertz · Accepted solution]

Either the estate can pay the taxes and distribute this portion of the residue of the estate to the beneficiaries tax free, or the income can be passed through to the beneficiaries on Schedule K-1 (Form 1041) to be taxed on the beneficiaries' tax returns.  Unless the amount involved is small, it's usually beneficial to pass the income through due to the rapidly increasing tax brackets of the estate.  For 2015, the maximum estate tax rate is reached at $12,300 of estate taxable income.

[fzr4jr]

What if taxes are deducted from the distribution, and you pass thru on Schedule K-1 does the tax deduction already paid also go on the K-1

[dmertz]

From the instructions for Form 1041 line 24e:

"Except for backup withholding (as explained below), withheld income tax can't be passed through to beneficiaries on either Schedule K-1 or Form 1041-T."

(Back-up withholding is withholding required by the IRS, generally as a result of a history of past underpayment of tax:  <a rel="nofollow" target="_blank" href="https://www.irs.gov/pub/irs-pdf/p1335.pdf">https://www.irs.gov/pub/irs-pdf/p1335.pdf</a>)

The estate would have to obtain a refund of excess withholding and distribute it to the beneficiaries.

[LisaMJames]

I have a similar situation with an annuity that was opened in the name of the trust.  After my father passed the trust states to split the funds in to three equal parts to the children.  The annuity company states if I do not withhold any taxes they would send a 1099R at the end of the year to the estate.  So would the estate pay the taxes because of the 1099R or would it be up to  each beneficiary to pay their share of the taxes.  The claim form asks if I want to withhold a percentage of funds for federal and state taxes or withhold nothing.  Do not want to pay taxes twice of the funds--one for the estate and one for the beneficiary.  Which way is better?

[Romni22]

I know this is an old thread but I have a related question.  Assume the same facts (IRA lump sum reported as 1099-r  income to the estate, multiple beneficiaries under the will).  Can the fiduciary give the beneficiaries the option to take their share "pre-tax" (and provide the requisite K-1) or "post-tax" after the estate pays tax on the remainder of the income? (Assume the executor has the discretion to do so under the will and State probate law).   

[dmertz]

Despite what I said in reply to this post many years ago, this income would generally be required to be distributed to estate beneficiaries (tier 1) and the income-tax liability passed through to them.

[Romni22]

I'm sorry - I wasn't clear. The estate hasn't been finalized and I am under no current obligation to make any distributions because the estate hasn't been finalized. It appears I do have some discretion to make preliminary distributions, though, and I was contemplating making those only to the beneficiaries who wanted to incur the tax liability on their returns. For those that don't, the estate would pay tax on the income that wasn't distributed.   

[dmertz]

Tier 1 income taxable to the beneficiaries includes income required to be distributed even if it is not distributed before the end of the estate's income tax year.  The requirement to distribute is a matter of state law and the terms of the will.  However, even if the income is permitted to remain in the estate and be taxed in the estate,  except for small amounts of income it seems that it would not be in the beneficiaries' interests to have the income taxed at estate tax rates because estate income tax rate is likely to be higher than that of the beneficiaries.

I suggest reviewing IRS Pub 559 and the instructions for Form 1041.

[RobertB4444]

@Romni22  Even if it were advisable to have the estate pay the taxes (which it is not) there is no way to have the estate pay the taxes for some beneficiaries and not for others using TurboTax.  Unless you used the desktop program and forced changes to the forms and then paper filed the return.  That would almost guarantee a couple fun IRS letters.  

But like @dmertz said - you probably don't have the option to not have the beneficiaries pay the taxes anyway.

[Romni22]

Thanks for your replies but I am not asking for an opinion on whether it is more advantageous to distribute the income to avoid the estate's tax liability. There are reasons why it is not in this case. Your response suggests that I must exercise my discretion to ensure the beneficiaries incur the tax liability rather than the estate. That doesn't make sense to me. I'll try to re-post my question to solicit additional input, but again, I appreciate your help.