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We have recently had a family trust inheritance foisted upon us by a MIL looking to extend her control in perpetuity from the grave. We are unlikely to ever benefit from the trust as need has to be demonstrated to receive funds. Our kids receive the balance upon DH's death in yet another trust situation, then their kids.... MIL set up a wonderful way to provide support for corporate fiduciaries and CPAs while keeping the funds from her descendants.

Who pays taxes on the investment income from the trust? Is this yet another tax return we will have to do? And since I will cross post this on the trust board, is there any way we can skip a generation and decline the trust, passing it directly to our kids who can demonstrate need, particularly the one still in college?

TIA,

IP
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Who pays the taxes on the trust income is something that might be addressed in the trust document. Its possible for the trust to say that the trust will pay the taxes. That's often not a good idea, though, because the trust gets into higher tax brackets much faster than an individual will. The trust cannot force a beneficiary to pay the tax without actually giving the income to the beneficiary.

If the trust is silent on taxes, generally the beneficiaries pay the tax to the extent they receive any funds from the trust. This is accomplished through a special deduction for trusts called the income distribution deduction. If a trust distributes income to a beneficiary, the beneficiary pays the tax, not the trust.

--Peter
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Who pays the taxes on the trust income is something that might be addressed in the trust document. Its possible for the trust to say that the trust will pay the taxes. That's often not a good idea, though, because the trust gets into higher tax brackets much faster than an individual will. The trust cannot force a beneficiary to pay the tax without actually giving the income to the beneficiary.

Though I have not read all 3" of the trust, only reading the inch that is to be given out to the institutional fiduciary or CPA the trust requires to be co-trustee, I have seen nothing on taxes and I would think the managing institution would need that info.

As I said we are highly unlikely to ever benefit from the trust and are already battling a high tax bracket even in retirement given all the traditional IRAs we have to deal with. I have zero desire to pay taxes on this trust. I have zero desire to tap this trust unless it is to close it out so we have one less complication to deal with.

So far we are looking at 1% of the balance each year for the financial planner, 0.75% for the corporate fiduciary, and now taxes on top for money we will never get to use. I wonder how many other ways MIL managed to screw her kids over with what is really not a lot of money.

IP,
hoping to reduce the 0.75% by using a CPA instead of a bank but no idea how to find a good one
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Peter

If a trust distributes income to a beneficiary, the beneficiary pays the tax, not the trust.

That is my condition. Because of distributions from the Trust, it is down to alot of one common stock, a significant health care mutual fund and a preferred stock plus some cash. If the common stock is sold in part, very large capital gains would be entailed as the stock has been held for something like 50 yrs. As I am retired, my paying these taxes on capital gains would seriously jeopardize me, so the trust pays them. As a result I do not trade in the trust account to keep taxes to a minimum, essentially just the capital gains tax on the health care mutual fund. If I sold something in the Trust, I would then have to sell extra shares to cover Federal and State taxes so I just let the account run, something I had to do in the distributions (for example paying off the grandchildren's college debts which is in the Trust).

I, of course, pay the tax on the dividends and interest I get from the trust.

brucedoe
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now taxes on top for money we will never get to use. I wonder how many other ways MIL managed to screw her kids over with what is really not a lot of money.

As has been pointed out, you will not be paying taxes on that money unless it has been distributed to you, so you will not be paying taxes on money you will never get to use. Either the trust owes the taxes, which would be paid prior to distribution, or the person receiving the distribution pays the taxes, so if that is you, you have the money that remains after the taxes are paid. Either way, you are not paying taxes on money you aren't getting.

As far as your MIL screwing her children over, the money was hers to do with as she pleased. She didn't have to leave it to her children, and even though it seems to be part of a complex trust, she did opt to have it eventually go to her children or grandchildren. I'm sure you don't mean it this way, but you are most certainly coming across with a feeling of entitlement to MIL's money via an expected or desired inheritance.

But if that attitude is actually real, then perhaps MIL knew what she was doing.
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Feeling of "entitlement" does not go along with my wanting nothing to do with this money and asking if there is a way it can skip our generation. I wish she had given it to charity, something we can not do.

IP
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I'm sure you don't mean it this way, but you are most certainly coming across with a feeling of entitlement to MIL's money via an expected or desired inheritance.

To me it sounds more like irritation and a preference NOT to be included in the trust.

She didn't have to leave it to her children,

In fact, she left a bookkeeping headache for the children without giving them access.
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IP,

Contact the trust administrator and see if they have a process for your DH to disclaim his interest in the trust.

The trust would control where the disclaimed funds would be allocated. If there are other siblings, it might go to them instead of his children but that doesn't sound like an issue.
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Contact the trust administrator...

There doesn't seem to be one. Even the law firm that put together this trust, (original lawyer has retired,) is scratching their head over how this trust is to operate. I did read that when one of the siblings die the trust goes to their descendants proportioned as they dictate, back to the remaining sibs or their descendants if there are no kids to give it to, but seemingly no way to say no thanks and pass it down to the kids right away.

Honestly, we don't need the complication.

IP
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Honestly, we don't need the complication.

IP


My sympathy.
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Even the law firm that put together this trust, (original lawyer has retired,) is scratching their head over how this trust is to operate. I did read that when one of the siblings die the trust goes to their descendants proportioned as they dictate, back to the remaining sibs or their descendants if there are no kids to give it to, but seemingly no way to say no thanks and pass it down to the kids right away.
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Actually, the provisions don't have to be in the trust agreement. Every state's laws on trusts and estates, PLUS the Internal Revenue Code, provide rules about QUALIFIED DISCLAIMERS. (Technical term, which makes the disclaimer not subject to gift tax if done timely and properly.) I would re-address this issue with the law firm, if this is really what you really want to do.

Bill
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I have seen nothing on taxes and I would think the managing institution would need that info.

It isn't necessarily to be found in the trust agreement, as to who pays the taxes. You have to read between the lines a little. Actually, who pays the taxes is a function of:

1. State law on estates and trusts, and
2. The Internal Revenue Code (and state tax law, if different. Some are.)

GENERAL RULE: (Gross generalization, but pretty valid) FOLLOW THE MONEY. GENERALLY, the trust will pay the tax on the income UNLESS the income is distributed to the beneficiary(ies.)

ODD RULE #1: Contrary to tax law: (and common sense) When a trust refers to "income" that does not include capital gains. Capital gains are generally treated as an addition to trust principal, and not "income", in determining what income is available for distribution to beneficiaries. State law may change this, depending on how a trustee records it on his/her books and reports it to beneficiaries. Some state laws provide for an alternative minimum income, based on unitrust amounts, originally used with charitable remainder trusts.

ODD RULE #2: "Income" from partnerships, including LLC's, and MLP's, is not the K-1 figures that apply for tax purposes, but rather the distributions received, on the cash basis. (Subject to state law requirements, also.)

Based on all of this, the income may be taxed to:
1. The Grantor (but not after he/she is dead;)
2. The trust (general rule)
3. Beneficiary(ies) to the extent distributed.
4. Some combination of the above. For example, if a trust owns stock in an S Corp., the portion of the trust assets consisting of S Corp stock is treated as a grantor trust, or disregarded entity, but taxed to the beneficiary, if a QSST, and taxed at the maximum personal rate, if an ESBT. If the trust has other assets, say other liquid investments, those are taxed under the general rules.

And if you're in doubt about this, discuss it with the law firm where it was produced.

Bill
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Thanks Bill, that was hugely helpful.

IP
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Honestly, we don't need the complication.

I don't get this. All you have to do is cash the check, and possibly, maybe, return a portion of it to the govt in the form of taxes.

Do you also disclaim your employer's paycheck (assuming gainful employment here) because taxes are involved?

IDK, but this seems to be about more than the trust.
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I don't get this. All you have to do is cash the check, and possibly, maybe, return a portion of it to the govt in the form of taxes.

I don't think that the OP is wanting to disclaim the trust because of the taxes. If you read the original post, it says that they probably won't ever get any money, because they won't be able to 'demonstrate need':

We are unlikely to ever benefit from the trust as need has to be demonstrated to receive funds.

It appears to me that the OP was posting here to ask if they were going to be responsible for paying taxes on the trust even though they were unlikely to receive any money, and secondly, to see if there was a way to let their kids claim from the trust without the kids having to inherit the trust themselves.

AJ
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It appears to me that the OP was posting here to ask if they were going to be responsible for paying taxes on the trust even though they were unlikely to receive any money, and secondly, to see if there was a way to let their kids claim from the trust without the kids having to inherit the trust themselves.

I didn't read that from the post. Thanks for the clarification.

I wish she had given it to charity, something we can not do.

With that in mind, there's nothing to be done. Ignore it.
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RoyGeeBiv,

The original post stated that given the conditions of the trust, it wasn't possible for IP to ever take any funds from the trust but caused possible tax liability and bookkeeping problems.
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It appears to me that the OP was posting here to ask if they were going to be responsible for paying taxes on the trust even though they were unlikely to receive any money, and secondly, to see if there was a way to let their kids claim from the trust without the kids having to inherit the trust themselves.

Bingo. Our kids could use this money and now rather than when DH dies. We won't be able to qualify for distribution to pay Youngest's college expenses, but if the trust can skip our generation he would meet the need test, and in that way it would benefit us because we would then not have to pay his college expenses! Eldest hopes to start his own company in 5 years. This trust could support him in his needs for "health, maintenance and support" during the lean years when he is pouring the income from his company back into his business. Let them deal with it and benefit from it.

Perhaps I would feel differently if this trust made any sense and was easy to understand. Right now even the law firm that drafted it are not sure about it. Every professional who has dealt with this trust seems to want nothing to do with it.

IP,
who seems to have finally gotten DH to start paying attention to the trust, no doubt prompted by suggesting we turn it down as useless
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IP: Our kids could use this money and now rather than when DH dies. We won't be able to qualify for distribution to pay Youngest's college expenses, but if the trust can skip our generation he would meet the need test, and in that way it would benefit us because we would then not have to pay his college expenses! Eldest hopes to start his own company in 5 years. This trust could support him in his needs for "health, maintenance and support" during the lean years when he is pouring the income from his company back into his business. Let them deal with it and benefit from it.
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Often, the terminology used is "health, education, maintenance, and support," or HEMS in legal shorthand. These are magic words, also referred to as an "ascertainable standard" in the estate tax law.

Essentially, this means that the beneficiary can be entitled to receive income distributions up to the total amount of expenses incurred or required for those purposes, and the trust will not be includible in his/her estate at his/her death.

In many cases the beneficiary is entitled to all the income annually, AND principal as needed for HEMS. This is usually desirable for income tax purposes, as most beneficiaries will be in a lower tax bracket than a trust of any size, unless the trust is completely invested in stocks paying qualifying dividends. Even then the trust's Medicare tax on investment income kicks in at taxable income of $12,500, along with the 39.6% bracket on income other than qualified dividends and capital gains.

At the opposite extreme, if the beneficiary can help himself to distributions of principal and/or income without limit, then the trust is his/hers in every sense of the word, and it will be included in his/her estate.

This is why that language gets put into trusts. In many cases it is a LIMIT on the distributable AMOUNT, but it doesn't require a proof of NEED to get it. In other words, most lawyers would say that in the absence of additional requirements, you could use the trust income to pay all your living expenses -i.e., maintenance and support - and your other income available would be completely irrelevant.

And if the trustee is one of the beneficiaries, I would expect him/her to be (ahem) very flexible about the nature of documentation required of the beneficiaries.

This is another thing to talk about with the lawyers.

Bill
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Thanks Bill.

Often, the terminology used is "health, education, maintenance, and support," or HEMS in legal shorthand.

Yes, that is the laundry list, but I did not reference "education" when talking about Eldest as he has his degree.

In many cases it is a LIMIT on the distributable AMOUNT, but it doesn't require a proof of NEED to get it.

Proof of need is specified in this trust, as is the stated intent that this trust will preserve capital, grow, and go on "in perpetuity. " The beneficiary is one co-trustee with a "corporate fiduciary or CPA" being the other. Obviously it is not the beneficiary who determines need, since they are the interested party. So far I have not found verbiage on what constitutes need. Are we expected to tap our retirement funds to pay for Youngest's college before we meet the need requirement? Really no idea. Maybe we'll just try it and see.

Will suggest to DH that they have a sit down with the lawyer to have him outline how this trust should work. How do they get funds from the account, (deemed possible in one section and subject to need in others.) Sometimes you don't even know the questions to ask so thanks. In the very least a better understanding will have to be arrived at before the CPA would have a clue what to do. I've read the full packet they are to receive and it too is unclear on how to do things like determine need and inconsistent on whether need must be shown to receive income.

It's a start.

IP
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