A lot of time has been spent examining the implications of tax reform as it relates individuals and businesses. Yet, estates and trusts were also significantly impacted by the Tax Cuts and Jobs Act (TCJA) and deserve some much-needed attention.
As with other taxable entities, there are many opportunities for planning and tax savings available to estates and trusts. As explained below, fiduciary entities and their beneficiaries are eligible to take advantage of the new 199A pass-through deduction. Moreover, consideration should be given to certain expenses that are no longer deductible under the new laws. Be sure to contact your tax advisor if you have any questions about these or any other tax law changes.
Pass-through deduction for estates and trusts:
- Grantor trusts – not eligible to take the deduction but can be passed down to the individual owner
ESBT (electing small business trusts) are eligible to take the pass-through deduction
- Non-grantor trusts:
- QBI, W2 wages and UBIA are calculated at the trust level.
- Depreciation and depletion must reduce QBI, regardless of where they are ultimately allocated.
- QBI, W2 wages and UBIA are allocated to the beneficiaries pro-rata based on percentage of DNI (distributable net income). If not all income is distributed then some 199A deduction will stay in the trust. If there is no DNI, then all of the pass-through deduction is allocated to the trust or estate.
- For purposes of calculating taxable income limitations for a trust or estate, the threshold is the same as a single individual ($157,500-$207,500). However, DNI is added back to taxable income to determine eligibility. For example, if taxable income is $100,000 but DNI of $75,000 was deducted, then taxable income for purposes of calculating the 199A deduction would be $175,000 and therefore subject to the wage and property limitations.
- Other than the add back of DNI to taxable income, all other calculations for a trust or estate are the same as a single individual. This also includes the limitations for a “specified service” business.
- QBI that is passed out to the beneficiary is subject to the individual’s taxable income limitation the same as any other pass-through entity. If the beneficiary is married then he/she would still benefit from the higher taxable income limitations.
- Trustee fees/income paid to the trustee/executor are eligible for the pass-through deduction. The trustee/executor can take advantage of this deduction even if the fees are not subject to self-employment taxes (as is generally the case for an executor appointed by a family member or friend).
- As with individuals, estates and trusts are no longer able to deduct miscellaneous deductions subject to the 2% limitation (investment advisor fees and expenses).
- However, the IRS has clarified that attorney, accountant and trustee fees are still deductible as they have always been “above the line” deductions.
- The IRS intends to clarify whether or not final expenses of a terminating estate or trust are still deductible as an itemized deduction by an individual. Until guidance is issued, trustees should try to pay as many expenses as possible to offset income before the final year of the trust.
Real estate taxes:
- Property taxes paid by a trust for real property held as an investment or in the course of a trade or business are still 100% deductible and not subject to the $10,000 cap.
If you have questions about how these or any other tax law changes affect you, please contact your tax advisor.