Many people choose to put their assets in a living trust to avoid probate, keep their assets private and avoid the possible contention of inheritance. The distribution of assets is clearly outlined in the Trust Agreement document. Upon death, a living trust will automatically revert to an irrevocable trust and start the clock ticking on assets producing income to be distributed to avoid the higher tax rates of a trust.

Responsibilities of the Trustee

As trustee, part of your responsibility includes keeping records of income produced by assets after date of death. It also includes making sure that the distributions of assets and the correlating income, as set forth in the trust document, are distributed timely. This is important as any income should be distributed to the designated beneficiaries before year end to avoid being taxed at the trust’s taxable rates, which are often significantly higher than the individual rates.

Tax Planning for Distributable Net Income

There are several approaches a trustee can take to minimize the tax liability of income produced by the trust. Keep in mind that any income not distributed from the trust to the beneficiaries in a given year will be taxable at a rate of 24% to a maximum of 37%. An analysis of the taxable income before year-end, along with a review of each beneficiary’s current tax rate and potential state tax liability, will determine whether the tax benefit lies in the trust reporting the income or the distribution being made to the individual to report on their individual 1040.

Example

If on 12/15/24, a review of the accounting shows a net distributable income of 15,200 and no distributions are made, the estate will pay 37% tax on that income. If a beneficiary has an estimated annual taxable income of less than $100,525, the tax liability on that $15,200 would be 22% plus any applicable state tax. That would be a federal savings of 15%.

Another option to consider is the 65-day rule election.  This election allows the trustee to make distributions in the first 65 days of a tax year and treat the distributions as if they were made in the previous year.  This is helpful in tax planning for trusts.

Proper planning and timely distributions can help trustees manage a trust’s tax liability effectively, ensuring beneficiaries receive the maximum benefit. To learn more about trust taxation and how we can assist, contact our office at 203-489-0612 to speak with one of our experienced CPAs.

Written By: Kristin Londona