Courts Seek to Clarify How States Can Tax Trusts

Every state has laws concerning how trusts are taxed.  Varying state laws can result in situations where a trust might be required to file tax returns in three or more separate jurisdictions based on any number of factors, including the residency of the trustee and beneficiaries, as well as the formal location of the trust’s assets.

Last week, a Supreme Court issued a unanimous decision in North Carolina Department of Revenue v. Kimberley Rice Kaestner 1992 Family Trust, barring North Carolina’s taxation of a trust in a case where the in-state residence of a beneficiary was the trust’s sole connection with North Carolina.

Earlier this summer, the Minnesota Supreme Court ruled in Fielding v. Commissioner that four trusts had been unconstitutionally taxed as Minnesota "resident trusts." In this case, the state of Minnesota had attempted to tax a trust on the basis that the original trust creators resided in Minnesota at the time that the trust became irrevocable. Because the trust had no other connection to the state—the beneficiaries and trustee did not even reside in Minnesota—the Minnesota supreme court eventually ruled that the state did not have the authority to tax the trust.

In light of these rulings, many high net worth clients with substantial assets in trusts may wish to consider revising the terms of those trusts to minimize potential state tax exposure. In some cases, this could mean moving the trust assets entirely or replacing the trustee to ensure no state has sufficient grounds to impose a tax.

If you have questions regarding trust planning, or it has been a while since your estate documents have been reviewed, please contact us to schedule a consultation.

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