Interesting article for fiduciary tax people:
Framing your lawsuit at its inception as a claim for non-taxable inheritance rights means your settlement is going to be non-taxable.
Category: Estate Administration
65-Day Rule — 2015
Fiduciaries of estates and complex trusts have the option to treat certain distributions as having occurred last year. An election can be made with respect to distributions made within 65 days after the end of a tax year. The 65th day of 2015 is Friday, March 6.
Fiduciaries are allowed a deduction for amounts actually paid. During this 65-day period, a fiduciary can compute its fiduciary accounting income and distributable net income and compare these amounts to distributions already made during the year. If necessary, additional distributions can be made to balance the allocation of income between the fiduciary and beneficiary.
The election can be made on all or part of the additional distributions made. Therefore, a fiduciary can over distribute what might be necessary to pass out 2014 income to a beneficiary, but elect a smaller amount when the income tax return is prepared. Any amount distributed but not treated as 2014 distributions will naturally be 2015 distributions.
These distributions are then treated as having been made on the last day of 2014.
Remember that fiduciaries pay the highest tax rate (i.e. 39.6%) on all taxable income over $12,150 in 2014, and only have a personal exemption of either $100 (for complex trusts) or $600 (for estates). It may be advisable to make distributions to beneficiaries in a lower tax bracket for overall tax savings.
Example: A complex trust earned interest and ordinary dividends during 2014 of $20,000, and paid investment advisory fees of $2,000. If no distribution is made from the trust, the trust will pay federal income tax of $5,486. If the trustee makes a distribution to an income beneficiary in the 25% tax bracket, then she would have additional income tax of $4,500. The net tax savings is $986.
Net Investment Income Tax
In addition, fiduciaries must pay the Net Investment Income (NII) tax (at a rate of 3.8%) on the lesser of investment income or AGI over $12,150 (in 2014). Married individuals (who file jointly) must pay the NII tax only if their AGI exceeds $250,000.
While taxes are not always the driving force behind trust administration decisions, they should always be considered.
Reporting: The Form 1041 does not require any kind of formal declaration of the amount of distributions paid in 2014 and treated as paid in 2014. (However, be sure to keep good records so that the amount is not reported again as a 2015 distribution.) There is a check box on the bottom of page 2 of the Form 1041 which must be checked when a §663(b) election has been made.
Timing: A §663(b) election must be made on a timely filed return (including extensions). The election becomes irrevocable once the due date of the return has passed [Reg. §1.663(b)-2.1]
Simple trusts are not required to consider actual distributions when determining the trust’s Income Distribution Deduction, as all accounting income is required to be distributed. If some amount of accounting income has not been distributed during a calendar year, then it should be distributed as soon as administratively possible, without regard to a hard 65-day limit.
Citation: IRC §663(b)
Final Misc. Itemized Deduction Regulations
The IRS has issued, effective today, final regulations for trusts and estates to follow on the proper treatment of expenses subject to the 2% floor for miscellaneous itemized deductions.
Background
Individuals and fiduciaries must reduce certain expenses, and not deduct the full amount, under IRC §67(a). These expenses include tax preparations fees, professional dues, home office expenses, and investment costs. IRC §67(e) says that expenses incurred by a trust are not limited if they “would not have been incurred if the property were not held in such trust or estate”. There has been must discussion about what expenses “would not have been incurred”.
The issue was litigated and reached the US Supreme Court who said (in 2008) that investment advisory fees incurred by trusts ARE subject to the 2%-floor limitation. Around that time, the IRS released temporary regulations regarding the deduction of certain expenses by trusts and estates. Those regulations are final and effective as of last Friday (May 9, 2014).
Regulations
The final regulations confirm that trusts and estates must subject expenses to the 2%-floor limitation any miscellaneous itemized deduction which “commonly or customarily would be incurred by a hypothetical individual holding the same property” [see Reg. §1.67-4(a)].
The regulation’s next section elaborates on the meaning of “commonly” and “customarily”. It discusses costs considered “ownership costs” (which are generally subject to limitation since an individual would incur the same costs); “tax preparation fees” (which EXCLUDE from limitation the cost of estate tax returns, all fiduciary income tax returns, and a decedent’s final Form 1040); “investment advisory fees” (which are generally subject to limitation, except for advice specifically identifiably as not likely to be incurred by an individual); and “appraisal fees” (which exclude from limitation the costs associated with appraisal’s for an estate’s or trust’s income tax return, or a GST tax return).
Other costs which are fiduciary in nature are not subject to the limitation; these include probate court fees and costs; fiduciary bond premiums, and other costs listed in the regulation. Not mentioned, but not subject to limitation, are trustees fees.
Bundled Fees
Finally, the regulation addresses the problem of bundled fees. If a trust or estate pays a single fee for services which are subject to limitation and services which are not subject to limitation, then the single fee must be separated and the appropriate part made subject to the limitation. The regulation permits any reasonable method of allocation to divide the single fee.
Application
The final regulation apply to tax years beginning on or after May 9, 2014. Previously issued (temporary) regulations have been removed. IRS Notices issued in 2008, 2010 and 2011 have been superseded by these final regulations.
See: TD 9664
65-Day Rule — 2014
For an updated article about the 65-Day Rule in 2015, click here.
Fiduciaries of estates and complex trusts have the option to treat certain distributions as having occurred last year. An election can be made with respect to distributions made within 65 days after the end of a tax year. The 65th day of 2014 is Thursday, March 6.
Fiduciaries are allowed a deduction for amounts actually paid. During this 65-day period, a fiduciary can compute its fiduciary accounting income and distributable net income and compare these amounts to distributions already made during the year. If necessary, additional distributions can be made to balance the allocation of income between the fiduciary and beneficiary.
The election can be made on all or part of the additional distributions made. Therefore, a fiduciary can over distribute what might be necessary to pass out 2013 income to a beneficiary, but elect a smaller amount when the income tax return is prepared. Any amount distributed but not treated as 2013 distributions will naturally be 2014 distributions.
These distributions are then treated as having been made on the last day of 2013.
Remember that fiduciaries pay the highest tax rate (i.e. 39.6%) on all taxable income over $11,950 in 2013, and only have a personal exemption of either $100 (for complex trusts) or $600 (for estates). It may be advisable to make distributions to beneficiaries in a lower tax bracket for overall tax savings.
Example: A complex trust earned interest and ordinary dividends during 2013 of $20,000, and paid investment advisory fees of $2,000. If no distribution is made from the trust, the trust will pay federal income tax of $5,486. If the trustee makes a distribution to an income beneficiary in the 25% tax bracket, then she would have additional income tax of $4,500. The net tax savings is $986.
New in 2013: Net Investment Income Tax
In addition, fiduciaries must pay the Net Investment Income (NII) tax (at a rate of 3.8%) on the lesser of investment income or AGI over $11,950 (in 2013). Married individuals must pay the NII tax only if their AGI exceeds $250,000.
While taxes are not always the driving force behind trust administration decisions, they should always be considered.
Reporting: The Form 1041 does not require any kind of formal declaration of the amount of distributions paid in 2014 and treated as paid in 2013. (However, be sure to keep good records so that the amount is not reported again as a 2014 distribution.) There is a check box on the bottom of page 2 of the Form 1041 which must be checked when a §663(b) election has been made.
Timing: A §663(b) election must be made on a timely filed return (including extensions). The election becomes irrevocable once the due date of the return has passed [Reg. §1.663(b)-2.1]
Simple trusts are not required to consider actual distributions when determining the trust’s Income Distribution Deduction, as all accounting income is required to be distributed. If some amount of accounting income has not been distributed during a calendar year, then it should be distributed as soon as administratively possible, without regard to a hard 65-day limit.
Citation: IRC §663(b)
Will New York Soon Have a Gift Tax?
Governor Cuomo’s recent budget proposal for New York incorporated some tax proposals made by two separate blue-ribbon panel.
A recent post by John D. Dadakis (a Partner at Holland & Knight in New York), explores the Governor’s proposal.
New York Gift Tax Changes Imminent? | Estate Planning content from WealthManagement.com
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It seems reasonable to think that Governor Cuomo would not have made any proposals in his budget which he didn’t think that a reasonable chance of becoming legislation. Time will tell, but not too much time since New York’s budget is due April 1, 2014. New York has had 3 years running of on-time budgets; expect the trend to continue.
65-Day Rule — 2013
For an updated article about the 65-Day Rule in 2015, click here.
For an updated article about the 65-Day Rule in 2014, click here.
Fiduciaries of estates and complex trusts have the ability to treat certain distributions as having occurred last year. An election can be made with respect to distributions made within 65 days after the end of a tax year. The 65th day of 2013 is Wednesday, March 6.
Fiduciaries are allowed a deduction for amounts actually paid. During this 65-day period, a fiduciary can compute its fiduciary accounting income and distributable net income and compare these amounts to distributions already made during the year. If necessary, additional distributions can be made to balance the allocation of income between the fiduciary and beneficiary.
The election can be made on all or part of distributions made. Therefore, a fiduciary can over distribute what might be necessary to pass out 2012 income to a beneficiary, but elect a smaller amount when the income tax return is prepared. Any amount distributed but not treated as 2012 distributions will naturally be 2013 distributions.
The distributions are then treated as having been made on the last day of 2012.
Remember that fiduciaries pay the highest tax rate (i.e. 35%) on all taxable income over $11,650 in 2012, and only have personal exemption between $100 (for complex trusts) or $600 (for estates). It may be advisable to make distributions to beneficiaries in a lower tax bracket for overall tax savings.
Example: A complex trust earned interest and dividends during 2012 of $20,000, and paid investment advisory fees of $2,000. If no distribution is made from the trust, the trust will pay federal income tax of $5,374. If the trustee makes a distribution to an income beneficiary in the 25% tax bracket, then she would have additional income tax of $4,500. The net tax savings is $874.
While taxes are not always the driving force behind trust administration decisions, they should always be considered.
Reporting: The Form 1041 do not require any kind of formal declaration of the amount of distributions paid in 2013 and treated as paid in 2012. (However, be sure to keep good records so that the amount is not reported again as a 2013 distribution.) There is a check box on the bottom of page 2 of the Form 1041 which must be checked when a §663(b) election has been made.
Timing: a §663(b) election must be made on a timely filed return (including extensions). The election becomes irrevocable once the due date of the return has passed [Reg. §1.663(b)-2.1]
Simple trusts are not required to consider actual distributions when determining the trust’s Income Distribution Deduction, as all accounting income is required to be distributed. If some amount of accounting income has not been distributed during a calendar year, then it should be distributed as soon as administratively possible, without regard to a hard 65-day limit.
Citation: IRC §663(b)
State Estate Taxes Information
Update: The January 25, 2014 version of the chart is here.
The American College of Trust and Estate Counsel (ACTEC) maintains a document summarizing the estate taxes assessed by state. The most recent copy of the summary is here.
This is a great reference for both estate pre-mortem planning, as well post-mortem estate administration.
Coming soon: new Medicare Tax on Net Investment Income for Estates and Trusts
As part of the Healthcare and Education Act signed into law in 2010, an additional Medicare tax was added to the Internal Revenue Code (see §1411). The tax is a flat 3.8% assessed on “net investment income”. The tax applies to US individuals as well as estates and trusts (other than charitable trusts).
Until 2013, Medicare tax has been assessed only on earned income: wages earned by employees (paid half each by the employee and the employer) and self-employment income; the rated had been 2.9%. The new Medicare tax will be imposed on unearned income of high-income individuals, estates and trusts.
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Here is a table comparing how §1411 impacts the two types of taxpayers:
| Individuals | Estates & Trusts | |
| IRC Section | §1411(a)(1) | §1411(a)(2) |
| Tax Rate | 3.8% | 3.8% |
| Medicare Tax Base: lesser of | ||
| (i) Net Investment Income | Net Investment Income (defined below) | Undistributed Net Investment Income (see comments below) |
| (ii) Excess of | Modified AGI | Adjusted Income (as defined in §67(e)) |
| over | Threshold amount:- $250,000 for MFJ or surviving spouse;- $200,000 for single taxpayers of HOH;- $125,000 for MFS. | Threshold amount:- the highest tax bracket in §1(e) – currently $11,650 |
Net investment income is defined as the following types of income:
(a) gross income from interest, dividends, annuities, royalties and rents [§1411(c)(1)(A)(i)];
(b) net gains (e.g. capital gains) excluding gains from trade or business property (e.g. §1231 gains) [§1411(c)(1)(A)(iii)];
(c) trade or business income from a passive activity [§1411(c)(2)(A)]; and,
(d) trade or business income of trading in financial instruments or commodities (see §475(e)(2)) [§1411(c)(2)(B)].
From these income items above, a deduction is allowed for expenses properly allocated to the income. In addition, net investment income does not include distributions from retirement plans [§1411(c)(5)], nor any income already subject to self-employment tax [§1411(c)(6)].
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Note that the threshold floor for estates and trusts is extremely small compared to the floor for single or married taxpayers. To the extent that a trust incurs and retains net investment income, it will be subject to this additional Medicare tax.
With adequate planning and proper use of the 65-day rule, a trustee can work to balance the income tax burden and the Medicare tax burden between a trust and the trust’s beneficiaries.
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For estates and trusts, §1411(a)(2)(A) refers to “undistributed net investment income”, but does not define this term. It seems logical to assume that the same Income Distribution Deduction (IDD) concept that reduces an estate or trust’s taxable income would apply here and reduce an estate or trust’s net investment income. One must assume that in general, simple trusts and complex trusts making adequate distributions will pass-through all of their undistributed net investment income.
As with other aspects of trust accounting and the tax consequences, we may see unintended results from the application of the IDD rules. For example, IDD is limited to the lesser of DNI and Accounting Income. If a trust invests only in a partnership which reports taxable interest and dividends, but does not report any distributions, there may not be any accounting income, and therefore no distribution of the net investment income.
65-Day Rule – 2012
For an updated article about the 65-Day Rule in 2015, click here.
For an updated article about the 65-Day Rule in 2014, click here.
For an updated article about the 65-Day Rule in 2013, click here.
Fiduciaries of estates and complex trusts have the ability to treat certain distributions as having occurred last year. An election can be made with respect to distributions made within 65 days after the end of a tax year. The 65th day of 2012 is Monday, March 5.
Fiduciaries are allowed a deduction for amounts actually paid. During this 65-day period, a fiduciary can compute its fiduciary accounting income and distributable net income and compare these amounts to distributions already made during the year. If necessary, additional distributions can be made to balance the allocation of income between the fiduciary and beneficiary.
The election can be made on all or part of distributions made. Therefore, a fiduciary can over distribute what might be necessary to pass out 2011 income to a beneficiary, but elect a smaller amount when the income tax return is prepared. Any amount distributed but not treated as 2011 distributions will naturally be 2012 distributions.
The distributions are then treated as having been made on the last day of 2011.
Remember that fiduciaries pay the highest tax rate (i.e. 35%) on all taxable income over $11,350 in 2011, and only have personal exemption between $100 (for complex trusts) or $600 (for estates). It may be advisable to make distributions to beneficiaries in a lower tax bracket for overall tax savings.
Reporting: The Form 1041 do not require any kind of formal declaration of the amount of distributions paid in 2012 and treated as paid in 2011. (However, be sure to keep good records so that the amount is not reported again as a 2012 distribution.) There is a check box on the bottom of page 2 of the Form 1041 which must be checked when a §663(b) election has been made.
Timing: a §663(b) election must be made on a timely filed return (including extensions). The election becomes irrevocable once the due date of the return has passed [Reg. §1.663(b)-2.1]
Simple trusts are not required to consider actual distributions when determining the trust’s Income Distribution Deduction, as all accounting income is required to be distributed. If some amount of accounting income has not been distributed during a calendar year, then it should be distributed as soon as administratively possible, without regard to a hard 65-day limit.
Citation: IRC §663(b)
Section 1022 Election: Alternate Estate Tax Rules and the Income Tax Implications
Executors of the estate of decedents who died during the 2010 have a choice between the traditional estate tax regime (i.e. $5M exemption and basis set-up) or an alternate zero estate tax/modified carry-over basis regime. The alternate regime is elective [authorized by TRA §301(c), called in Rev. Proc. 2011-41 a “Section 1022 Election”], and elected by an executor by filing Form 8939 (Allocation of Increase in Basis for Property Acquired From a Decedent).
This post is not about the pros and cons of the two systems, or even the filing requirements and deadlines for executors, but is a summary of the income tax implications of the alternate tax-free regime.
The two most important issues regarding assets inherited from an estate which made a §1022 election are the basis and holding period of the assets in the hands of the estate (if sold by the estate) or in the hands of the beneficiary (if distributed by the estate).
Basis Issues
The application of §1022 is laid out in Rev. Proc 2011-41.
First, §1022 only applies to assets owned by the decent, as defined in §1022(d), and acquired from the decedent, as defined in §1022(e). This would generally include assets owned directly (or jointly) by a decent, any may include assets in a revocable trust owned by the decent. Also included are assets inside a trust over which the decent has a power of appointment. However, This generally excludes assets passing outside of probate (e.g. a retirement account). Asset in a QTIP trust (created by a predeceased spouse) are not considered owned by the decent [§1022(c)(5)] even though the assets are included in the decedent’s gross estate.
Under §1022, assets are generally treated as having been transferred by gift. The gift basis rules (the topic for a future post) apply to these assets [IRC §1022(a)]. This requires the executor to determine the basis in every asset owned by the decedent.
Next, sections §1022(b) and §1022(c) can apply to modify the basis of these assets. Executors have a pool of $1.3M to allocate to the various assets in the decedent’s estate (the General Basis Increase). [The basis increase available to a non-resident non-citizen decent is only $60,000.] An additional $3M may be available to allocate to certain qualifying marital property (the Spousal Property Basis Increase). The allocation is made solely by the executor, and he is not required to follow the advice or direction of any beneficiary of the estate.
The General Basis Increase under §1022(b) can be increased to the extent that there was any unused capital loss carryforward by the decent, any unused NOL, or any §165 losses. The losses available here for basis adjustment must be computed after the decent (or the surviving spouse) files the personal income tax return (covering the year of death) and the losses are first utilized on this income tax return.
The Spousal Property Basis Increase can only be applied to property which meets the additional requirement of passing to a surviving spouse. This covers both property passes outright (whether through direct bequest, or like jointly owned property passing by operation of law) as well as property covered by a QTIP election. Note that the property contributed to a QTIP trust might enjoy a basis adjustment from the estate of the first spouse to die, but will not have an additional basis adjustment from the estate of the second spouse to die.
Interesting, the Rev. Proc. 2011-14 notes that assets meet the definition of qualified spousal property if a QTIP election could be made, but does not require that the QTIP election is actually made. This creates a broad definition of qualified spousal property, which probably allows for flexibility and coordination with GST tax exemption (and state QTIP) rules, elections and allocations.
Spousal Property Basis Increase may be allocated to eligible property, even if that property is sold by the estate and not actually transferred to the surviving spouse, but only if the proceeds from the sale of such property is distributed to the surviving spouse.
Finally, the basis allocation can only raise the basis to the extent that the basis is lower than the fair market value (FMV) as of the decedent’s date of death. The basis cannot be allocated to match any increases in an assets value occurring after the decedent’s death. There is no concept of an alternate valuation date in this estate regime. The determination of FMV follows the same manner as existing rules and regulations under §2031.
There does not appear to be any requirement that an executor actually utilize the full amount of available basis adjustment, even assuming that there exist eligible assets with basis lower than FMV.
Basically, the only way for a beneficiary to know the basis of any asset if to wait for the executor to (1) determine the original basis, (2) determine how the adjustment should be allocated, and (3) report the adjusted basis to the beneficiary.
Holding Period
The holding period for an asset sold by the estate, or distributed to a beneficiary, includes the holding period of the decedent. Therefore, an asset held by a decedent for more than one year (prior to date of death) will be treated as long-term property when sold by the estate or a beneficiary. An asset purchased shortly before death will retain its original acquisition date; this date will be used by the seller of the property
Summary
The application of these rules is very complicated. The executor must choose the estate tax regime to apply to the decedent’s estate. If a §1022 election is made, the executor must determine the starting basis. If an asset qualifies (i.e. is acquired from the decedent) it MAY have a basis adjustment. If an asset passes to a spouse it MAY have a basis adjustment.
Because of these complications, it is required that an executor inform the beneficiary of the basis and holding period of all assets distributed. [IS THIS REQUIRED BY STATUE?] The basis allocation is documented on Form 8939 (recently issued by the IRS).
Notes
* TRA = Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (Pub. L. No. 111-312, 124 Stat. 3296, H.R. 4853)
Fiduciary Income Tax 
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