April 16, 2014
Authored by: Stacie J. Rottenstreich and Karin Barkhorn
The New York Budget bill made changes not only in the estate tax arena, as previously reported on this blog, but also to the income taxation of certain trusts.
Under law prior to the passage of the Budget bill, a resident trust created by a New Yorker was entirely exempt from New York income tax if there was (i) no New York resident trustee, (ii) no assets located in New York and (iii) no New York source income. The new law, effective for calendar years beginning January 1, 2014, provides that a New York resident beneficiary receiving a distribution of income from a New York State resident trust which is exempt from New York State income tax, will be taxed on that “accumulated distribution”. The new accumulation distribution tax, will not apply if the accumulated income was earned before 2014 or if the trust itself is subject to New York State income tax or for periods before the beneficiary become a New York resident. This is also not applicable to grantor trusts, where the income of the trust is taxed to the grantor, rather than the trust or its beneficiaries.
The second big change relates to the taxation of incomplete non grantor trusts which were created by a New York resident grantor (so-called “INGS”). Such trusts were designed to be incomplete gifts (because of the retention of some control by grantor), yet non grantor trusts because the grantor retained none of the powers that would cause the ING’s income to be taxed to the grantor. The New York resident grantor was able to create such trust and avoid New York State income tax. However, under the new law these trusts will be treated as grantor trusts for New York State income tax purposes, and thus the trust income will be taxed by New York State. This law is designed to prevent the avoidance of New York State income tax by establishing a trust in another state which did not subject trusts to income tax.
Both of these new trust income tax rules, the accumulation tax and the ING rules, apply to taxable years beginning on or after January 1, 2014. However, to ease transition there is a grace period until June 1, 2014, wherein taxpayers can receive distributions of accumulated income from exempt resident trusts and liquidate INGs without New York income tax consequences.