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Trust Question


Patrick Michael

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Don't do many trust returns and had a question from a client.  Client's Mom and Dad creating an irrevocable trust, naming my client as trustee. They put their home into the trust, but retained exclusive right to occupy the property and the right to all property tax exemptions, and are responsible for paying all expenses for upkeep of the property.  Mom and Dad also manage any other assets placed in the trust. 

Mom and Dad are the beneficiaries of any income and their children get the principal and undistributed income upon Mom and Dad's death. 

Dad passed away in September this year and the proceeds of a life insurance policy was paid to the trust.  The trust received a 1099 from the insurance company for interest (over $600).

From what I have read I believe this is a grantor trust.  A 1041 should be filed which contains only the trust’s name, address, and tax identification number along with a statement letting the IRS know that the items of income or deductions are instead reportable by the “deemed owner.” 

Am I on the right track or is there something else I'm missing?

As always, thanks for any and all help.

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You need to read the trust document.  If the parents retained "power of appointment," meaning they could change the terms, beneficiaries, trustees, borrow against trust assets, etc.--in other words, they maintained control over the trust assets and what they did with them--this is a grantor trust and income should flow to their personal return like you plan.  Some irrevocable trusts are written to be "intentionally defective" so your plan still works.  The trust doc may contain that exact phrase.

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17 minutes ago, Patrick Michael said:

I'm waiting on the actual trust documents.  Trustee supplied me with this info.  

Forgot to mention that the lawyer who wrote up the trust told the mother that no 1041 was necessary and the mother should just include the interest on her 1040.

If it is a revocable trust, this is correct. If it is an irrevocable trust it is wrong information. An irrevocable trust must have its own TIN.

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The need for a 1041 depends on who got the 1099.  The life insurance interest was paid to the trust, so if the trust's EIN is on the 1099 you'll have to file a 1041.  You stated that the house was put in the trust's name.  If it is sold the 1099S will also go to the trust's EIN.  I agree that this looks like a grantor trust, but a 1041 is required if the trust gets any of the tax docs.

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17 hours ago, Sara EA said:

The need for a 1041 depends on who got the 1099.  The life insurance interest was paid to the trust, so if the trust's EIN is on the 1099 you'll have to file a 1041.  You stated that the house was put in the trust's name.  If it is sold the 1099S will also go to the trust's EIN.  I agree that this looks like a grantor trust, but a 1041 is required if the trust gets any of the tax docs.

Again, depends on the trust.  If it is a grantor trust but docs were issued in trust EIN, you can put it in and back it out with "reported on t/p Form 1040; ssn xxx-xx-xxxx" or flow it through on a K-1 if the t/p is the beneficiary.  I've generally done the former, with never an issue, when required.

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Finally received the docs.  One paragraph states that a "Irrevocable Trust is created by this instrument"  and that "during their lifetime trustee shall pay to grantors all the net income from the trust.".  Next paragraph states that upon death of surviving grantor the trust will terminate and the children will receive the principal and any undistributed income.  But then the next paragraph states that grantor "shall have limited power to to appoint the remainder of the trust to any other person or charitable organization...exercising such power by the surviving Grantors Last Will and Testament".

So it looks like this is a "intentionally defective" irrevocable trust as mentioned by Sara and the 1041 needs to be filed, with the K-1 to the mother.  The 1099 INT is issued with the trusts EIN.  

And to add to the confusion, the trustee received a letter from the IRS yesterday looking for 1041's back to 2017, when the trust was created.  So my next question for this very knowledgeable group is why is the IRS looking for returns if there was no income reported?   I'm fairly confident there was no income since the only asset in the trust up to the father's death in 2020,  is non-rental real estate. 

Thanks for all the replies and educating me on this subject.

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The IRS letter is easily satisfied with a letter stating the trust had no income in the years cited.  I've had the same letter come when a person died demanding 1041s for six years.  In this case it was a grantor trust and reported on the individual returns for those years, satisfied by a letter and some back up docs showing income docs in the deceased's own Soc Sec number.  In your case, since the interest is reported to the trust, you will have to file the 1041 with just the statement pushing the income to the surviving spouse.  While you're into the situation, document the step-up basis of that real estate for future transactions.  If it's jointly owned, half of it gets step up.

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On 1/31/2021 at 10:49 AM, Patrick Michael said:

 

And to add to the confusion, the trustee received a letter from the IRS yesterday looking for 1041's back to 2017, when the trust was created.  So my next question for this very knowledgeable group is why is the IRS looking for returns if there was no income reported?   I'm fairly confident there was no income since the only asset in the trust up to the father's death in 2020,  is non-rental real estate. 

 

If they requested an EIN from the IRS, the IRS will be expecting a tax return for each year until they are notified the EIN is no longer in use. File a 1041 for each year with $0 in income.

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