Irrevocable Trust and Grantor Rules

[jasdlm]

Client established an irrevocable trust with himself as Grantor and he and his siblings as Trustee. He is sole income beneficiary and has rights to principle in an emergency. He did not fund the trust. The trust is funded with gifts from his parents (who are now both deceased). It seems to me that his parents should have been the grantors of the trust, but I'm not certain that it matters. I have tried to punt this case to 4 different CPAs in town, but each said that he hadn't really worked much with irrevocable trusts and didn't feel confident taking the case. Perhaps I am making something out of nothing. I have tried to research this, and I am not coming up with a clear answer. If I had been the attorney drafting the trust, I think I would have made the parents the Grantors. The parents did file 709s when they made the initial gift (which was stock in an S-Corp . . . the trust is a QSST). (QSST was another thing, by the way, that none of the 4 CPAs wanted to deal with . . . 1 even told me it was something he had never heard of.) Basically, I'm in over my head and can't find anyone to help me. Any advice I can get would be appreciated. Is there any problem with this Trust setup?

Thanks!

[Margaret CPA in OH]

This is confusing. When was the trust created? Did the client put the money into it after having first received the gifts from the parents? Were the gifts inheritances or gifts while they were alive? I am no attorney but don't understand how decedents can be grantors of a trust. I can understand someone creating such a trust with an inheritance specifying that the trust be a beneficiary of an estate. Is it possible that the client meant that the parents contributed money to the trust rather than giving it to the client outright? Best to read the trust document for further enlightenment.

[Dan]

My understanding is that a trust becomes irrevocable only when a person dies. With both parents deceased, the entire trust is irrevocable by its terms and the Trustees are directed to obtain and report income to the IRS by using the IRS Taxpayer Identification number (not social security number).

The Living Trust is known by many names: Living Trust, Revocable Trust, Changeable Trust, Family Trust, and Grantor Trust. This last name is the Internal Revenue Service designation for a Living Trust. All these names refer to the same Trust.

In the event of the death of both original Trustees, the trust document should have who is to serve as Successor Trustee. He/she should manage the Trust according to the terms of the trust.

[jasdlm]

I'm sorry to be unclear. The client created the trust several years ago while his parents were living. The parents then made gifts to the trust and filed 709s documenting the same. The parents are now deceased. I only put the information about them being deceased into the original fact scenario because it is too late for anything they did to be amended/restated/etc. The irrevocable trust was an estate planning tool (parents had a very large estate and were trying to pass value in the S-corp at a discounted rate). The parents gifted directly to the irrevocable trust.

Again, sorry to muddy up the fact scenario.

My real question is, is there any problem with the fact that my client was the grantor of the trust, but did not fund the trust?

[Margaret CPA in OH]

That's clearer now. I am not an attorney but don't see anything immediately wrong with the situation you describe. The fact that gifts were made to the trust rather than to the son directly wouldn't make the trust invalid or be a problem, I should think. Hopefully, KC will weigh in on this but it seems that someone could create a trust and not fund it immediately or ever. I also don't see why contributions/gifts/whatever cannot be made to the trust from people or other sources besides the grantor. If a trust has interest-bearing investments or stocks yielding dividends, that income would not come directly from the grantor. KC?

[jainen]

>>none of the 4 CPAs wanted to deal with<<

Accounting deals with a great range of things, so CPAs generally focus on certain areas. Find one (or an Enrolled Agent) that does accounting and taxation for corporations and trusts. I don't think you have any problem with the way it is set up as long as all income is being distributed each year. The QSST is a separate entity and should be filing it's own tax returns with a K-1 to beneficiary. If you treat it as a grantor trust it will not be eligible to hold S-Corp stock.

[jasdlm]

Jainen, thank you so much! I thought from my research that the trust 1041 should be bifurcated since there are mutual fund investments in addition to the S-Corp stock, but the returns have not been done that way previously. The attorney/CPA who did the previous returns is a 'Trust and Estate Planning' specialist, so I kept assuming I must be misunderstanding the research material. I will keep trying to find someone to work with this . . . it's not looking good. I might have to go to out of town to find someone.

Thanks again, and thanks to all for responding.

[jainen]

>>The attorney/CPA who did the previous returns is a 'Trust and Estate Planning' specialist, so I kept assuming I must be misunderstanding the research material.<<

A reasonable assumption. What made you think otherwise? Tell us what research material you are looking at, and what it says, and maybe we can help you see it differently. I'm particularly curious about who told you that "the trust 1041 should be bifurcated." [it is true that tax work gets easier when you wear bifurcals to look up at the computer screen and down at the papers.]

[jasdlm]

The 1041 that has been filed since the trust was created reported all income . . . S-Corp as well as income from stocks, bonds, mutual funds, etc. not held by the S-corp, but simply held as other trust assets.

I read the following on cpa-resource.com:

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QSST - Qualified Subchapter S Trust

One of the qualifying shareholders of an S corporation is a QSST. In order for a trust to be a QSST it must meet the following requirements:

1. There is only one income beneficiary and he or she is a U.S. citizen or resident.

2. All income of the trust is required to be distributed currently to the one income beneficiary.

3. All corpus distributions must go to the one beneficiary.

4. The beneficiary’s income interest must terminate at the earlier of the beneficiary’s death or trust’s termination.

5. An election to be treated as an eligible S corporation shareholder must be made.

If there is a successor beneficiary, the QSST election remains valid unless the new beneficiary affirmatively refuses to consent.

A trust can have two different components and still qualify as a QSST trust. For example, part of the trust consisting of assets other than the S corporation stock can be treated as a simple trust while the QSST portion of the trust will be treated similar to a grantor trust. This type of situation requires a bifurcated type of trust income tax return. The trust return will report the income and deductions for all assets, excluding the S corporation, and will separately report the S corporation income and deductions similar to a grantor trust return.

The income beneficiary of the QSST signs the consent required on Form 2553. In addition, a QSST election is made. This separate election is made by the trust beneficiary within 16 days and two months of the date the stock was transferred to the trust or 16 days and two months from the beginning of the first S corporation year. If it is a newly elected S corporation, the special QSST election can be made as part of the S election on Form 2553. It is important to note that if the QSST election is not made, the S corporation election would be revoked.

- Christopher F. Beaulieu, CPA, MST

Nykiel, Carlin & Co., LTD.

***

This information made me think that there should be a separate reporting of the S-corp income. However, I haven't been successful in figuring out exactly how that would work or what the final product (returns) would look like. The returns that have been filed were filed by an estate planning JD/CPA who has probably three times the number of years of experience that I do, so I continued researching on the assumption that the return he prepared was correct, and I was simply still missing pieces in trying to understand the proper tax reporting.

That's where I am now . . . stuck.

The grantor/donor difference also threw me, but you have answered that question.

Thanks for being willing to help me learn this.

[jasdlm]

Would someone please tell me what the proper filing would look like for a QSST that also owned non s-Corp assets?

Thanks.