Changes in Trust Law
Very infrequently can trust work be described as exciting or fast moving. Most trusts are founded on long-standing laws and move slowly. This has not been the case this year, however. Recent tax law changes have brought life to the use of non-grantor trusts for avoiding State and Local Tax Caps, or SALT Caps.
There are a few rules to keep in mind, but the strategy rests firmly within the bounds of well established trust law. Continue reading to see whether our asset protection attorney can help lower your tax bill.
What is a Non-Grantor Trust?
For the purposes of this conversation, a "Non-Grantor Trust" is simply a trust which files its own tax returns. The trust is established and it owns all or some of a home (generally via an LLC). The trust is considered its own person in the eyes of the law, and thus is eligible to receive its own $10,000 deduction. Multiple trusts may be established to claim the deduction as many times as desired.
SALT Deduction Changes
One of the most publicized and fiercely contested portions of the new tax bill was the limiting of federal deductions for local and state taxes at $10,000 per filer. Wealthier states argued they were disproportionately and unfairly targeted, but eventually the measure passed.
The end result is this is the first year property owners cannot deduct the full amount of their local taxes from their federal return, without getting creative. Wealthy individuals and real estate investors are just two groups expecting higher taxes if they don't adjust their planning.
It is estimated nearly 10% of taxpayers in New York, Maryland, California and New Jersey will see their tax bills rise.
SALT Deduction Changes
The first step is to place your property into an anonymous LLC. Fractions of the LLC are then spread across as many non-grantor trusts as needed.
For example, if there are $40,000 in potential deductions, then you would form 4 trusts. Each trust may then claim the maximum $10,000 deduction.
Through this method you may continue claiming the same deduction as in previous years. Note, the trust must generate its own income, e.g. via securities or a rental property.
Using a Non-Grantor Trust to Avoid SALT Deduction Caps
There are a few factors at play, e.g. marginal tax rates, but most clients see benefits almost immediately.
Assuming a 35% marginal tax rate, an individual will save $3,500 per year per trust. If three trusts are formed this would be $10,500 saved per year via avoiding the new SALT Caps.
Every practitioner differs, but our total fees for three trusts and a private trust company are $10,000. Future years are less than $750 to maintain the structure. The trusts thus pay for themselves the first year and significant savings are realized starting the second.
There is an IRS provision which states non-grantor trusts established with identical grantors and identical beneficiaries, for the purpose of avoiding taxes, may be disregarded and treated as a single entity.
This provision has not been clarified and is considered vague by legal experts. While the IRS may move to clamp down on the proposed structure, there are limits to what can be accomplished given the flexible nature of trust law.
For example, a floating beneficiary may be established. Said trusts may also be incorporated into larger asset protection or estate planning goals as well. This would provide significant differences between said trusts and would continue to allow them to qualify for the SALT deduction.