Life and Death Planning for Retirement Benefits

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324 Life and Death Planning for Retirement Benefits
When retirement benefits are distributed after the participant’s death to a trust that is named
as beneficiary of the plan, the distribution is includible in the trust’s gross income just as it would
have been included in the gross income of an individual beneficiary; see
Qualifying as a “see-through trust” under the minimum distribution rules makes
no difference to the trust’s income tax treatment. See-through trust status matters only for purposes
of determining when the trust must take distribution of the benefits; it has no effect on the tax
treatment of those distributions once they arrive in the trust’s bank account.
There are several differences between trust (fiduciary) income taxes and individual income
taxes. On the bright side, the trust may be able to reduce its tax by passing the income out to the
individual trust beneficiaries ; and a trust is not subject to the reduction of itemized
deductions under .
On the negative side, trusts are generally in a higher income tax bracket than human
beneficiaries. A trust (unless its existence as a separate entity is ignored under the “grantor trust
rules”; or estate is a separate taxpayer and pays tax on its taxable income at the rate
prescribed for trusts and estates. A trust or estate goes into the highest tax bracket (35%) for taxable
income in excess of $11,200 (2010 rates). For an individual, the top income tax bracket applies
only to taxable income above $373,650. Regarding scheduled future income tax rate increases, see
Thus, in all but the wealthiest families, income paid to a trust will be taxed at a higher rate
than would apply to the individual family members, unless the high trust tax rates can be avoided
or mitigated by one of the following means:
 Pass income out to individual beneficiaries. A trust is entitled to an income tax deduction
for distributions it makes from the trust’s “distributable net income” (DNI) to individual
trust beneficiaries, if various requirements are met. See
 Charitable deduction. A trust is entitled to an income tax charitable deduction for certain
distributions it makes to charity. See
 Transfer the retirement plan to a beneficiary. A trust can transfer the retirement
benefits, intact, to the trust beneficiary. Following such a transfer, distributions
will be made directly to the former trust beneficiary and (in most cases) taxed directly to
such former trust beneficiary. See
 Grantor trust rules. If the individual trust beneficiary is a U.S. citizen or resident, and has
the unlimited right to take the retirement benefits out of the trust, the trust is considered a
“grantor trust” as to that beneficiary, and distributions from the retirement plan to the trust
would be gross income of the beneficiary rather than of the trust
 Use the IRD deduction. If the participant’s estate was liable for federal estate taxes, the
trust gets an income tax deduction for the estate taxes paid on the retirement benefits. See
6.5.02 Trust passes out taxable income as part of “DNI”
A trust gets a unique deduction on its way from “gross income” to “taxable income”: The
trust can deduct certain distributions it makes to the trust’s individual beneficiaries.
These distributions are then includible in the beneficiaries’ gross income The trust’s