January 09, 2018 | News
A trustee may be able to reduce income taxes by making a distribution of income from a trust to beneficiaries by March 6, 2018. Similarly, an estate that reports its income on the basis of a calendar year may be able to reduce income taxes by distributing income to one or more beneficiaries by March 6, 2018.
Trust or estate income that is distributed to one or more beneficiaries is taxed to such beneficiaries, while trust or estate income that stays in the trust or estate is taxed to the trust or estate. Tax brackets for trusts and estates accelerate much faster than tax brackets for individuals. The highest 2018 marginal income tax rate of 37% applies at a low amount of income for trusts and estates ($12,500) and a significantly higher amount of income for single individuals ($500,000) and married filers ($600,000). The 3.8% Net Investment Income Tax applies to trusts and estates with income over $12,500 and applies to single individuals with income over $200,000 and married filers with income over $250,000. Therefore, if income is distributed to a beneficiary, the distributed income may be taxed at a lower marginal rate than if the income remained in the trust or estate.
If a trust or calendar year estate makes a distribution during the 65 days from January 1, 2018 to March 6, 2018, for income tax purposes the trustee or executor can elect to treat the distribution as if it had been made on December 31, 2017—the last day of the prior taxable year. This timing rule can create a tax-savings opportunity. If, during the 65-day period following the end of the estate’s or trust’s taxable year, a trustee or executor determines that beneficiaries may pay less tax on the trust’s or estate’s prior year’s income than would be paid by the trust or estate, the trustee or executor could choose to distribute income to the beneficiaries to take advantage of the beneficiaries’ lower tax rates. Of course, the trustee or executor will need to balance any income tax savings against other considerations, such as estate tax or the desire to accumulate assets. The terms of the Will or trust agreement must also authorize such distributions of income.
We strongly advise all executors and trustees to consult with the trust’s or estate’s accountant to calculate the advisability of making income distributions before March 6, 2018.
If an estate reports its income on the basis of a fiscal year rather than a calendar year, the same principles described above apply except that the 65-day period will end 65 days after the last day of the estate’s fiscal year. The tax rates described above will differ in fiscal years that began in 2017 because of the changes in the law that took effect on January 1, 2017.
Please call your accountant or our firm if you have any questions regarding this Legal Alert.