Chapter 19 - Income Taxation of Estates and Trusts

Question 1

Distributable Net Income

Answer 1

Income distributed to beneficiaries results in a deduction.

Question 2

There is a $600 exemption for estate tax returns, but no standard deduction?

Answer 2

True

Question 3

Income in respect of decedent (IRD)?

Answer 3

Income earned by a decedent but not received before their death.

Question 4

IRD may be included in the estate and federal tax returns, meaning potential double taxation?

Answer 4

True

Question 5

Do estates file on a fiscal or calendar year?

Answer 5

They can file on a fiscal year!

Question 6

Revocable and Irrevocable Trusts have which type of tax filing?

• Separate tax filing
• Grantor Trust Rules

Answer 6

Revocable = Grantor Trust Rules
Irrevocable = Separate tax filing

Question 7

Distributable Net Income

Answer 7

Income tax is passed through to beneficiaries whether the property is distributed or stays in the trust.

Question 8

Simple Trusts

Answer 8

Simple

• Simple trusts are merely conduits
• All net income distributed
• Deductions for distributable net income
• No distribution of corpus
• No charitable contributions
• $300 exemption (no standard deductions)
• Beneficiaries are taxed on DNI (Distributable net income)

Question 9

Complex Trusts

Answer 9

Complex

• Accumulation of income allowed
• Distributions of corpus allowed
• Charitable contributions allowed
• Trust is taxed on income retained
• Deductions for actual distributions
• Beneficiaries taxed on DNI

Question 10

DNI

Answer 10

Distributable net income is income created in a trust that can be distributed to beneficiaries.

Question 11

Are capital gains considered DNI?

Answer 11

No. Capital gains are still taxed as capital gains inside of a trust, minus the small exemption amount.

Question 12

Corpus?

Answer 12

Principal (or Corpus)
The real property and personal property in a trust to be used for the benefit of trust beneficiaries, either through distribution or income generation In the trust, the grantor specifies how and when the trustee can use the principal.

Question 13

One can avoid grantor trust taxation by setting up an adverse party?

Answer 13

True

Question 14

Kiddie Tax Rules

Answer 14

All unearned income of children under the age of 19 or 24 if a full time student will be taxed at either child rate, not taxed or at the estate and trust tax rate level.

Any EARNED income will be taxed a usual rates.

Question 15

In order to avoid unearned income for a minor consider investing in?

Answer 15

Assets that are high in growth but offer low annual income.

Question 16

Income in respect of a decedent (IRD) is includible in the gross estate of the decedent and, therefore, is not taxable to the estate or beneficiary when received for income tax purposes?

Answer 16

False
Income in respect of a decedent (IRD) is an asset of the estate because the decedent was entitled to receive it had he or she lived. However, when the income is finally received, it is taxable for income tax purposes to the recipient of the income. There is, however, an income tax deduction allowed for any estate tax payable because the IRD was included in the gross estate.

Question 17

In general, trusts and estates are taxed on distributable net income (DNI) that is retained?

Answer 17

True

Question 18

A distinguishing feature of a simple trust is that it can never make distributions of principal or have a charitable beneficiary?

Answer 18

True

Question 19

When there is more than one beneficiary of a single trust, a separate trust should be established for each beneficiary or the beneficiary will be taxed on more income than received?

Answer 19

False
Although a trust has multiple beneficiaries, each beneficiary is taxed only on the amount of income received under the sharing concept.

Question 20

A trustee under a testamentary trust may be authorized to use trust income both to purchase life insurance on the lives of the beneficiaries and to pay the premiums?

Answer 20

True

Question 21

With the exception of tax-exempt income, trusts and estates must pay income tax on income received but not distributed?

Answer 21

True

Question 22

An estate is entitled to take as a deduction any ordinary and necessary business expenses incurred in managing a decedent’s business during the period of estate administration?

Answer 22

True

Question 23

If a grantor establishes a trust to provide support for his minor children, the income will be taxed to either the trust or the minor beneficiary?

Answer 23

False
If trust income is used to satisfy a grantor’s legal support obligation, the trust income will be taxed to the grantor to the extent it is so used.

Question 24

A concept known as distributable net income (DNI) has been developed for the purpose of advising beneficiaries of the amount of income the trust has earned?

Answer 24

False
Distributable net income (DNI) is a concept that has been developed for the following purposes: (1) It limits the deduction a trust may receive for amounts distributed to beneficiaries, (2) It limits the amount of distribution that may be taxable to the beneficiaries, (3) It establishes the character of the amounts taxable to the beneficiaries.

Question 25

Trusts and estates each get a $600 income tax exemption?

Answer 25

False
Estates get an income tax exemption of $600, but trusts receive an exemption of $100 if they are classified as complex trusts or $300 if they are classified as simple trusts.

Question 26

For the purposes of the grantor-trust rules, the grantor can escape income taxation on the trust income by providing a reversionary interest, valued at 25 percent of the trust’s total value, to the grantor’s spouse?

Answer 26

False
The grantor is deemed to hold any interest held by a spouse living with the grantor when the interest is created. Thus, the reversionary interest causes the grantor-trust rules to apply, and the grantor is taxed on the trust’s income.

Question 27

An executor has the legal responsibility to file the decedent’s final income tax returns, the estate tax returns, and the estate income tax return?

Answer 27

True

Question 28

For most purposes, transferring unearned income to a child under age 19 (or 24, if a full-time student) will provide little income tax savings to the parents?

Answer 28

True

Question 29

Trusts and estates file income tax returns for informational purposes only, as do partnerships?

Answer 29

False
Trusts and estates are separate taxpaying entities and are not taxed under a conduit theory of taxation. To the extent income earned by the trust or estate is retained, it is taxed to the trust or estate. Any income distributed is deductible by the trust or estate and taxable to the recipient of the income.

Question 30

Revocable trusts provide opportunities for income tax savings by creating a separate taxpayer so income can be taxed in a potentially lower bracket?

Answer 30

False
A revocable trust is treated as a grantor trust for tax purposes, and the trust’s income continues to be taxed to the grantor.

Question 31

All living trusts are separate taxpaying entities whether they are revocable or irrevocable?

Answer 31

False
By definition, income from revocable trusts is taxable to the grantor since the grantor has the power to alter, amend, revoke, or terminate the trust. Irrevocable trusts may be separate taxpaying entities if trust income may be and is accumulated rather than distributed.

Question 32

The general theory of trust income taxation is that trust income is taxed only once, either to the beneficiary or to the trust?

Answer 32

True

Question 33

Trustees and executors have similar fiduciary responsibilities

Answer 33

True

Question 34

A sprinkle provision may be used in a trust to provide flexibility to distribute income among beneficiaries as their needs arise and in proportion to those needs?

Answer 34

True

Question 35

An estate remains in existence until all the testator’s assets have been transferred, debts and taxes have been paid, and distribution is made to beneficiaries?

Answer 35

True

Question 36

All trusts come into existence and are funded when a person dies?

Answer 36

False
While testamentary trusts are trusts created under a will and do not become funded until the creator dies, there are other kinds of trusts that are created during a lifetime. (Also see chapter 6.)