Income Taxation of Trusts and Estates (Portfolio 852)

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Tax Management Portfolio, Income Taxation of Trusts and Estates, No. 852-4th, provides detailed coverage of the rules governing the income taxation of estates, trusts, and their beneficiaries.

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Tax Management Portfolio, Income Taxation of Trusts and Estates, No. 852-4th, provides detailed coverage of the rules governing the income taxation of estates, trusts, and their beneficiaries.
The Portfolio discusses the types of entities covered by the rules of subchapter J of the Code, including the practical problems that may occur if an entity is classified as a business entity instead of a trust or the administration of an estate is unduly prolonged.
The Detailed Analysis provides comprehensive coverage of the rules governing the gross income and exclusions of an estate or trust, allowable deductions, and credits. The Portfolio also discusses the net investment income tax in effect for tax years beginning in 2013, insofar as it applies to trusts and estates. The Portfolio includes a detailed discussion of the rules concerning the interrelationship of the taxation of estates and trusts and their beneficiaries. The concept of distributable net income and its applicability in determining the taxation of simple trusts, complex trusts, and estates and their respective beneficiaries are analyzed in depth. This analysis includes the appropriate methods to determine the distribution deduction resulting from distributions to beneficiaries of simple trusts, complex trusts, and estates. The rules regarding the manner of determining the income taxable to beneficiaries also are explained. Further, the Portfolio addresses the repeal of the throwback rules, the election to treat the decedent's revocable trust as part of the decedent's estate, and the simplified taxation available for pre-need funeral trusts, as well as the impact of related IRS regulations.
Throughout the Portfolio, practical applications of these rules are included.
The Portfolio gives a comprehensive analysis of the tax issues that arise in the application of subchapter J to estates, trusts, and their beneficiaries. But, certain areas of subchapter J are considered in separate Tax Management Portfolios. These Portfolios are T.M., Subchapter J — Throwback Rules (which have been repealed for most domestic trusts), T.M., Grantor Trusts: Income Taxation Under Subpart E, and T.M., Income in Respect of a Decedent.
This Portfolio may be cited as Acker, 852-4th T.M., Income Taxation of Trusts and Estates.
This think and code Portfolio is not intended to provide legal, accounting, or tax advice for any purpose and does not apply to any particular person or factual situation. Neither the author nor the publisher assumes responsibility for the reader's reliance on information or opinions expressed in it, and the reader is encouraged to verify all items by reviewing the original sources.


Alan S. Acker, Esq.

Alan S. Acker, University of Illinois (B.S. 1974), Illinois Institute of Technology, Chicago-Kent School of Law (J.D. 1977); member, Ohio, Illinois, and Virginia Bar Associations; member, American Institute of Certified Public Accountants and Ohio CPA Society; Fellow, American College of Trusts and Estates Counsel; adjunct professor of law at Capital University Law and Graduate Center, Columbus, Ohio; contributor to Tax Management Estates, Gifts and Trusts Journal, Estate Planning, and other legal publications; lecturer at various tax seminars.

Table of Contents

Detailed Analysis

I. Scope of Portfolio and Subchapter J

Introductory Material

A. Theory and Overview

B. A Working Definition of Estates and Trusts

C. The General Taxation Rules

D. Special Rules for Estates and Trusts

II. Theory and Overview

Introductory Material

A. What Items Should Be Taxed: The Income Tax Conflict Between Excludible Gifts and Devises and Includible Income from Such Gifts and Devises

B. Who Should Be Taxed - Entity, Conduit, and Hybrid Theories

C. The Subchapter J Model - Who Is Taxed, When and How They Are Taxed - Use of a New Concept: Distributable Net Income

D. Special Rules for Grantors Who Directly or Indirectly Control Trusts or Transfer Appreciated Property in Trust

E. Historical Perspective on Reform

III. A Working Definition of Estates and Trusts

A. General Discussion

B. Definition of Estate

1. Real Property

2. Bankrupt Estates

3. Guardianship Estates

C. Commencement and Termination of an Estate

1. General Rules and Discussion

2. Applicable Case Law

D. Definition of Trust

1. Gratuitous Transfers

a. Revocable Inter Vivos Trusts

b. Legal or Equitable Life Estates and Remainder Interests

c. Gifts to Custodians Under a Uniform Gifts or Transfers to Minors Act

2. Contractual Relationships

a. Trust or Agency

b. Trust or Debt

(1) Unsecured Debt

(2) Secured Debt

3. Trust or Business Entity

a. Business Trusts

b. Land or Real Estate Trusts

c. Investment Trusts

d. Liquidating Trusts

e. Environmental Remediation Trusts

4. Settlement Funds and Escrow Accounts

E. Commencement and Termination of Trusts

F. Single or Multiple Trusts

G. Election to Treat Revocable Trust as Part of the Estate

IV. General Taxation Rules

Introductory Material

A. Taxable Year

B. Taxable Income of Estates and Non-Grantor Trusts

1. Gross Income and Exclusions

a. Gains Derived from Dealings in Property

b. Income in Respect of a Decedent

2. Deductions

a. Deductions in Context

(1) Trade or Business Deductions

(2) Deductions with Respect to Investments - Income-Producing Activities

(3) Other General or Personal Deductions

b. Trade or Business Expenses

c. Net Operating Losses

d. Deduction for Domestic Production Activities - § 199

e. Income-Producing Activities, Costs of Administration and Tax Advice - § 212

f. Depreciation, Depletion, and Amortization - § § 167, 611, 169, and 642(e), (f)

(1) Allocation Between Estates and Heirs, Legatees, and Devisees

(2) Allocation Between Trustee and Income Beneficiaries

(3) Allocation Among Beneficiaries

(4) Depreciation or Depletion from Partnership Property

g. Losses Incurred in a Trade or Business or from Casualties, or Theft - § 165

h. Losses from Sales or Exchanges of Capital Assets

i. Bad Debts - § 166

j. Interest Paid or Accrued

(1) Delayed Bequests

(2) Interest on Taxes

k. State, Local, and Foreign Taxes

l. Charitable Contribution Deduction - § 642(c)

m. Deduction for Estate Taxes Paid - § 691(c)

n. Personal Exemption

o. Adjusted Gross Income

p. Miscellaneous Itemized Deductions

(1) Generally

(2) Miscellaneous Itemized Deductions Not Subject to the 2% Floor

(3) Computing Miscellaneous Itemized Deductions - Interelated Computations

q. Losses from Pass-Through Entities and Passive Activity Losses

r. Deductions Allowed to Individuals but Not to Estates or Trusts

s. Distribution Deduction Available to Estates or Trusts

t. Disallowance of Double Deductions - § 642(g)

u. Nondeductibility of Expenses Allocated to Tax-Exempt Interest - § 265

(1) General Allocation Method

(2) Special Allocation Methods for Termination Fees

(3) Allocation of Expenses - Timing

(4) Other Expenses

v. Carryovers and Excess Deductions - § 642(h)

(1) NOL Carryovers and Loss Carryovers

(2) Excess Deductions

(3) Beneficiaries Who Succeed to Property

w. Distributions by Cemetery Perpetual Care Funds - § 642(i)

C. Federal Income Taxes and Credits

1. Regular Income Tax

2. Alternative Minimum Tax

3. Estimated Taxes and 65-Day Election

4. Backup Withholding - Credit, Distribution, and Deduction

5. Credits

V. Special Rules for Estates and Trusts

A. Fiduciary Accounting Income Under State Law

B. Distributable Net Income

1. No Distribution Deduction

2. No Personal Exemption

3. Capital Gains and Losses

a. Capital Gains Allocated to FAI

b. Capital Gains Treated Consistently as Part of a Distribution

c. Actual Distributions of Capital Gains Allocated to Principal

d. Capital Gains Used to Determine Amount of Distribution

e. Capital Gains for Charitable Purposes

f. Expenses Attributable to Capital Gains

4. Extraordinary Dividends and Taxable Stock Dividends

5. Net Tax-Exempt Interest

6. Example of DNI Computation

C. Specific Gifts and Bequests

1. Specific Sum

2. Three-Installment Rule

D. Classification of Trust as Simple or Complex

E. Taxation of Simple Trusts

1. Distribution Deductions - § 651

2. Taxation of Beneficiary in Simple Trust

a. Summary

b. Discussion

3. Allocation of Income

4. Allocation of Deductions

a. Direct Expenses

b. Indirect Expenses

c. Allocation of Expenses - Timing

5. Additional Examples for Simple Trusts

6. When Distribution Is Taxable to Income Beneficiary

7. Death of Income Beneficiary

F. Taxation of Complex Trusts and Estates

1. General Rules Applicable to Complex Trusts and Estates

2. Distribution Deduction

a. Categories of Distributions

b. First-Tier Distributions

c. Annuity Distributions

d. Other Amounts Properly Paid, Credited, or Required to Be Distributed Currently - Second-Tier Distributions

3. Satisfaction of Legal Obligations of Grantor, Trustee, or Beneficiary

4. Estate Allowances for Support of Surviving Spouse or Dependents; Elective Share

5. 65-Day Rule - § 663(b) Election for Trusts and Estates

6. Taxation of Distributions to Beneficiaries

a. First-Tier Distributions

b. First-Tier Distributions and the Charitable Deduction

c. Second-Tier Distributions

d. When Distributions Are Taxable to Beneficiaries

(1) General Rules

(2) Death of Beneficiary

e. Symmetry Between Distribution Deduction and Taxation of Beneficiaries

G. Distributions in Kind

1. First Issue: Realization of Gain or Loss on Distribution in Kind

a. Subsidiary Issue: Transfer of Items of IRD in Satisfaction of Pecuniary Amount

b. Subsidiary Issue: Transfers When Liability Exceeds Basis

c. Subsidiary Issue: Disallowance of Losses Between Related Parties - § 267

2. Second Issue: Election to Recognize Gain or Loss

3. Third Issue: Is the Gain or Loss Included in DNI?

4. Fourth Issue: Valuation of Asset for Purpose of Computing Distribution Deduction and Distribution Amounts

5. Fifth Issue: Basis to Beneficiary

H. Rights of Withdrawal in Beneficiaries

I. Separate Share Rule

J. Separate Trust Rule for Electing Small Business Trusts

K. Treatment of Qualified Funeral Trusts

Working Papers

Working Papers

Table of Worksheets

Worksheet 1 Internal Revenue Code of 1954 (P.L. 591) H.R. Rep. No. 1337, 83d Cong., 2d Sess. 60-64, A191-211 (1954)

Worksheet 2 Trust and Partnership Income Tax Revision Act of 1960 (H.R. 9662) S. Rep. 1616, 86th Cong., 2d Sess. 12-23 (1960)

Worksheet 3 Tax Reform Act of 1969 (P.L. 91-172) S. Rep. No. 552, 91st Cong., 1st Sess. 84-86 (1969)

Worksheet 4 Tax Reform Act of 1976 (P.L. 94-455) H.R. Rep. No. 1380, 94th Cong., 2d Sess. 71-72 (1976) S. Rep. No. 938, 94th Cong., 2d Sess. 169-175 (1976)

Worksheet 5 Deficit Reduction Act of 1984 (P.L. 98-369) H.R. Rep. No. 432 (Part 2), 98th Cong., 2d Sess. 1237-1240 (1984) H.R. Rep. No. 861, 98th Cong., 2d Sess. 869-870 (1984)

Worksheet 6 Tax Reform Act of 1986 (P.L. 99-514) H.R. Rep. No. 426, 99th Cong., 1st Sess. 906-907 (1985) S. Rep. No. 313, 99th Cong., 2d Sess. 925 (1986) H.R. Conf. Rep. No. 841, 99th Cong., 2d Sess. II-763-II-766 (1986)

Worksheet 7 Technical and Miscellaneous Revenue Act of 1988 (P.L. 100-647) S. Rep. No. 445, 100th Cong., 2d Sess. 361-363, 397-398 (1988)

Worksheet 8 Taxpayer Relief Act of 1997 (P.L. 105-34)

Worksheet 9 [Reserved.]

Worksheet 10 California Probate Code (1999, as amended through 2006)

Worksheet 11 Florida Statutes

Worksheet 12 New York State Consolidated Laws Estates, Powers & Trusts

Worksheet 13 Form 1041, U.S. Income Tax Return for Estates and Trusts, and Form 1041 Schedules

Worksheet 14 Case Study of Estate of John Smith, Deceased

Worksheet 15 Case Study of Simple Trust

Worksheet 16 Comments on Passive Activity Loss Regulations Application to Trusts and Estates, by Section of Taxation of American Bar Association (1993)

Worksheet 17 Regs. § 1.642(c)-1(b) Election to Deduct Charitable Contribution in Prior Year



Statutes and Regulations:

Treasury Regulations:

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