Trust DNI - can you split the tax between trust and bene?

[BulldogTom]

New client.  Complex trust, but not very complicated.  Trust established by grandfather.  Client is the trustee.  The beneficiaries are the trustees two children (age 15) and his nephew (age 26).  The main asset in the trust was the home in the Silicon Valley.  At date of death valued at 500K, sold for 775K 3 years later (per the wishes of the grantor, that the home be sold at the 26th birthday of the oldest beneficiary). 

If trust pays the tax, the rates max very quickly and the NIIT comes into play. 

If the beneficiaries take the distribution, because of the kiddie tax (trustee has a great income), the trustees kids get hammered.  The nephew does well on the transaction because he does not have very much income.  Trustee is also concerned about the kids having all that cash in their names when they go to college (I think that is overblown, because unless he is going to quit his job, the kids are not going to qualify for financial aid).

The trustee has asked me if the trust can pay the tax on the 2 children's portion so he can leave it in the trust and the remainder of the income be distributed and paid by the nephew?  I think they can, but I have never done this before.   Can someone check me on this?  I think I can just have the trustee distribute 1/3 of the gain to the nephew.  DNI would still be the full amount of the gain, but the deduction for DNI would be the amount actually distributed?  Am I correct?

Then I have to figure out how to make the software show the K-1s correctly when they go out....

Thanks in advance for your help.

Tom
Newark, CA

[Catherine]

You'll have to read the trust document.  Lots of times there IS provision for unequal distributions specifically because of disparate ages of beneficiaries.  If the trust allows it, the trustee can distribute 1/3 to the nephew and the trust can hold on to the balance within the trust - and pay tax at trust rates on that portion.

But if the document says "equal distributions no matter what" then everyone gets 1/3 or no one gets any. 

[BulldogTom]

1 hour ago, Catherine said:

You'll have to read the trust document.  Lots of times there IS provision for unequal distributions specifically because of disparate ages of beneficiaries.  If the trust allows it, the trustee can distribute 1/3 to the nephew and the trust can hold on to the balance within the trust - and pay tax at trust rates on that portion.

But if the document says "equal distributions no matter what" then everyone gets 1/3 or no one gets any. 

The Trust document gives the trustee power to make unequal distributions, and specifically notes that they can equalize the tax consequences with unequal distributions.  The trustee has a great deal of discretion in the trust document to take action to minimize tax consequences. 

Can you confirm that the DNI will be the full amount of the capital gain, but the DNI deduction would only be for the 1/3 actually distributed?

Thanks Catherine.  I appreciate your input.

Tom
Newark, CA

[Catherine]

25 minutes ago, BulldogTom said:

Can you confirm that the DNI will be the full amount of the capital gain, but the DNI deduction would only be for the 1/3 actually distributed?

Maybe tomorrow - but I'm teaching tonight (US Constitution class) and need to leave early so I can have dinner first.  My gut says yes - but it may just be hungry... 

[BulldogTom]

Bump.

Where I am right now is the trustee wants the trust to pay the tax on 2/3 of the gain and distribute the 1/3 to the nephew.  I am trying to work in the software to show this on the K-1 and the only way I can make it happen is to show the Nephew at 100% and the other two at 0%.  I don't think that is the way to do this correctly. 

Any help would be appreciated.

Thanks

Tom
Newark, CA

[Catherine]

Hi Tom, 

Sorry; completely forgot about this one.  Capital gain gets allocated to corpus and the trustee has to make an election to distribute.  See attached; I *think* you want Examples 2, 3, and 4 from section (e).

Treasury Regulations __ §1-643a-3 for trusts.pdf

[BulldogTom]

Yeah, I got that.  But my question is about the software.  I figured out the DNI and the deductions and distributions.  I am struggling with how to show this on the K1 in the software.

Thanks for the backup documentation.  I know you don't use ATX anymore, darn it.  I was hoping you could help me with the buttons and boxes and settings in the software to make this all come out the proper way on the 1099.

Tom
Newark, CA

[Catherine]

Sorry Tom!  The buttons and boxes I cannot help with any longer.  Over-rides can be your friend...