Tuesday, June 10, 2014
States are constantly searching for methods of increasing tax revenues; thus any settlor, beneficiary, or trustee must be aware of whether a trust is subject to income tax. As we enter into an era where states are increasingly attempting to tax trusts with minimal contacts to the jurisdiction, the days of a trust being taxed in the state where it has its “principal place of administration” are rapidly vanishing.
Since laws related to taxation of trusts vary widely from state to state, a single trust could end up being subject to income tax in multiple jurisdictions. It is sometimes possible to get credit in one state for tax payable in another state. If the settlor, trustees, and/or beneficiaries plan properly, a trust could avoid being subject to state income tax entirely. This is possible because some states do not impose an income tax, therefore, if a trust can establish or move its situs to one of these states while simultaneously avoiding income tax in other states, the trust may create significant savings.
Further, if the trust is subject to tax on the basis that the testator of the will creating the trust resided there, there is little that can be done to remedy the tax result. It may also be difficult to avoid an income tax imposed by a beneficiary living in a certain state. The easiest income tax triggering situation to remedy is the taxation of a trust based upon the residence of a trustee. If a trustee resigns as trustee of the trust the tax problem may be avoided.
A detailed analysis of state laws in which settlors, beneficiaries, and trustees live is necessary to evaluate whether a trust is subject to income tax.
See Linsey Glosier and Stephen Daiker, Do You Know Which States are Trying to Tax Your Trust? Life, Death and Taxes, June 9, 2014.
Special thanks to Brian Cohan (Attorney at Law, Law Offices of Brian J. Cohan, P.C.) for bringing this article to my attention.