It’s Not Too Late to Minimize 2013 Tax Liabilities for Certain Trusts

Yes, the 2013 calendar year has already ended, ushering in several tax law changes – such as the 3.8% Medicare surcharge - that could increase your tax liabilities. The good news is that it is still not too late for you to minimize your 2013 tax liabilities. The bad news is that these trust-planning strategies must be implemented before March 6.

Some of you will recall that the section 663(b) election, also known as the “65-day rule,” enables you to treat certain trust distributions as having occurred in the prior year. In other words, a trust can make an election within the first 65 days of the year (for 2014: before Tuesday, March 6) to distribute net income and have it “count” as a distribution for the previous tax year.

While this planning tool has been used to maximize tax savings for trusts and beneficiaries since 1997, it takes on added significance this year in light of the new 3.8% tax on net investment income. As we’ve mentioned to you before, that new Medicare surcharge – along with the maximum 39.6% tax rate – are assessed on trust taxable income over $11,950.

In order to produce the most effective tax planning, trustees should have already examined their trust’s income for 2013, particularly in light of the income tax brackets of the beneficiaries. For example, it may make sense to elect section 663(b) in order to supplement the 2013 income distributions to beneficiaries in lower income tax brackets. Not only will the beneficiaries pay income tax at a rate less than the trust’s 39.6%, but those distributions could also reduce the trust’s distributable net income in order to avoid the Medicare surcharge at the trust level.

In some instances, trustees may also realize significant tax savings by considering the distribution of capital assets, in kind, to those beneficiaries in a lower tax bracket. For example, a beneficiary may recognize his or her capital gains at a relatively modest 15% rate (or, in some instances, at 0% tax). Those same assets, when sold by the trust, would result in taxation at a 23.8% rate (20% capital gain rate plus 3.8% Medicare surcharge).
Please note this election does not apply to grantor trusts.   Also note the trust document may not provide for this strategy hence the trustee should consult legal counsel.

Of course, it goes without saying that, besides taxes, trustees need to keep other considerations in mind when making distributions from a trust. If you have any questions about trust-planning strategies in general, or the 65-day rule in particular, please don’t hesitate to contact me, or your EisnerAmper tax advisor, before March 6.