1
Chapter 14,
Income Taxation of
Trusts & Estates
2
INCOME TAXATION OF
TRUSTS & ESTATES
?Fiduciary taxation
?Basic concepts and definitions
?Trust taxable income
?Distributable net income (DNI)
?Simple trusts
?Complex trusts
?Income in respect of a decedent
3
Fiduciary Taxation
?Trusts and estates are separate
taxpayers
?Deductions permitted for distributions
to beneficiaries
?Distributed income from trust retains
its character in hands of beneficiary
?Limited personal exemption available
and no dependent exemptions
4
Basic Concepts and
Definitions (1 of 5)
?Estate comes into existence upon
death of person whose assets are
being administered
?Trust is a legal entity created while
a person is alive or under direction
of a will following a person’s death
?Testamentary trust receives assets
from estate of decedent
5
Basic Concepts and
Definitions (2 of 5)
?Principal or corpus
–Initial assets transferred by grantor plus
certain additions/deductions required
by provisions of trust instrument
?Income
–Earnings derived from principal but
certain gains,losses or deductions may
be considered adjustments to principal
6
Basic Concepts and
Definitions (3 of 5)
?Grantor
–Party that transfers assets to the trust
?Trustee
–Party that administers the trust
?Income Beneficiary
–Party (or parties) who receives income
when distributed by Trustee under
provisions of trust instrument
7
Basic Concepts and
Definitions (4 of 5)
?Remaindermen
–Party (or parties) who eventually
receives trust principal
–Same person may receive both income
and principal
?Simple trust
–Must distribute all income annually
–Does not distribute any principal AND
–Makes no contributions to charities
8
Basic Concepts and
Definitions (5 of 5)
?Complex trust
–Any trust that is not a simple trust
?Personal exemption
–$300 if all income required to be
distributed annually
–$100 if current income may be retained
9
Trust Taxable Income
Gross Income
- Deductions for expenses
- Personal exemption
= Taxable income before distribution
- Distribution deduction
= Trust taxable income
10
Distributable Net Income
(DNI) (1of 2)
?DNI is maximum distribution deduction
& income reportable by beneficiaries
?No distribution deduction available for
portion of distribution deemed to
consist of tax-exempt income even
though net tax-exempt income
included in DNI
11
Distributable Net Income
(DNI) (2of 2)
Taxable income before distributions
+ Personal exemption already deducted
- Capital gains added to principal
+ Capital losses subtracted from principal
+ Tax exempt interest (net of expenses)
= Distributable Net Income
12
Simple Trusts
?Must distribute all of its net
accounting income currently
?Aggregate gross income reported
by beneficiaries cannot exceed DNI
?Income received by beneficiaries
retains its character
13
Complex Trusts
?Complex trusts permit the following
activities
–Making distributions < current earnings
–Distributing principal
–Making charitable contributions
?Complex trust’s DNI
?Impact on beneficiaries
14
Complex Trust’s DNI
(1 of 2)
?Complex DNI not reduced by
charitable contribution deduction
when determining maximum
distribution for mandatory
distributions
15
Complex Trust’s DNI
(2 of 2)
?DNI reduced when calculating
deductible discretionary distributions
?Distribution deduction is smaller of
DNI or sum of mandatory and other
amounts properly paid
16
Impact on Beneficiaries
?In general
–Beneficiary includes distributions as
gross income up to current DNI for the
trust
?Accumulation distribution or throwback
rules attempt to tax individual as if
distributions were made annually
?Higher trust tax rates make
accumulation less desirable
17
Income in Respect of a
Decedent (IRD) (1 of 2)
?Most individuals use cash basis
?IRD is income constructively,but
not actually received before death
–Interest on CDs,bonds or savings
–Salary,commissions or bonus
–Dividends received after date of death
with record date before death
18
Income in Respect of a
Decedent (IRD) (2 of 2)
?IRD must be included
–As gross income on estate’s income
tax return AND
–As part of the gross estate for transfer
tax purposes
?Estate may claim an income tax
deduction for the extra transfer tax
due because these items were
counted as part of the estate
19
Comments or questions about PowerPoint Slides?
Email Richard Newmark at Dr.Newmark@PhDuh.com
Chapter 14,
Income Taxation of
Trusts & Estates
2
INCOME TAXATION OF
TRUSTS & ESTATES
?Fiduciary taxation
?Basic concepts and definitions
?Trust taxable income
?Distributable net income (DNI)
?Simple trusts
?Complex trusts
?Income in respect of a decedent
3
Fiduciary Taxation
?Trusts and estates are separate
taxpayers
?Deductions permitted for distributions
to beneficiaries
?Distributed income from trust retains
its character in hands of beneficiary
?Limited personal exemption available
and no dependent exemptions
4
Basic Concepts and
Definitions (1 of 5)
?Estate comes into existence upon
death of person whose assets are
being administered
?Trust is a legal entity created while
a person is alive or under direction
of a will following a person’s death
?Testamentary trust receives assets
from estate of decedent
5
Basic Concepts and
Definitions (2 of 5)
?Principal or corpus
–Initial assets transferred by grantor plus
certain additions/deductions required
by provisions of trust instrument
?Income
–Earnings derived from principal but
certain gains,losses or deductions may
be considered adjustments to principal
6
Basic Concepts and
Definitions (3 of 5)
?Grantor
–Party that transfers assets to the trust
?Trustee
–Party that administers the trust
?Income Beneficiary
–Party (or parties) who receives income
when distributed by Trustee under
provisions of trust instrument
7
Basic Concepts and
Definitions (4 of 5)
?Remaindermen
–Party (or parties) who eventually
receives trust principal
–Same person may receive both income
and principal
?Simple trust
–Must distribute all income annually
–Does not distribute any principal AND
–Makes no contributions to charities
8
Basic Concepts and
Definitions (5 of 5)
?Complex trust
–Any trust that is not a simple trust
?Personal exemption
–$300 if all income required to be
distributed annually
–$100 if current income may be retained
9
Trust Taxable Income
Gross Income
- Deductions for expenses
- Personal exemption
= Taxable income before distribution
- Distribution deduction
= Trust taxable income
10
Distributable Net Income
(DNI) (1of 2)
?DNI is maximum distribution deduction
& income reportable by beneficiaries
?No distribution deduction available for
portion of distribution deemed to
consist of tax-exempt income even
though net tax-exempt income
included in DNI
11
Distributable Net Income
(DNI) (2of 2)
Taxable income before distributions
+ Personal exemption already deducted
- Capital gains added to principal
+ Capital losses subtracted from principal
+ Tax exempt interest (net of expenses)
= Distributable Net Income
12
Simple Trusts
?Must distribute all of its net
accounting income currently
?Aggregate gross income reported
by beneficiaries cannot exceed DNI
?Income received by beneficiaries
retains its character
13
Complex Trusts
?Complex trusts permit the following
activities
–Making distributions < current earnings
–Distributing principal
–Making charitable contributions
?Complex trust’s DNI
?Impact on beneficiaries
14
Complex Trust’s DNI
(1 of 2)
?Complex DNI not reduced by
charitable contribution deduction
when determining maximum
distribution for mandatory
distributions
15
Complex Trust’s DNI
(2 of 2)
?DNI reduced when calculating
deductible discretionary distributions
?Distribution deduction is smaller of
DNI or sum of mandatory and other
amounts properly paid
16
Impact on Beneficiaries
?In general
–Beneficiary includes distributions as
gross income up to current DNI for the
trust
?Accumulation distribution or throwback
rules attempt to tax individual as if
distributions were made annually
?Higher trust tax rates make
accumulation less desirable
17
Income in Respect of a
Decedent (IRD) (1 of 2)
?Most individuals use cash basis
?IRD is income constructively,but
not actually received before death
–Interest on CDs,bonds or savings
–Salary,commissions or bonus
–Dividends received after date of death
with record date before death
18
Income in Respect of a
Decedent (IRD) (2 of 2)
?IRD must be included
–As gross income on estate’s income
tax return AND
–As part of the gross estate for transfer
tax purposes
?Estate may claim an income tax
deduction for the extra transfer tax
due because these items were
counted as part of the estate
19
Comments or questions about PowerPoint Slides?
Email Richard Newmark at Dr.Newmark@PhDuh.com
