This Type of Trust (ING) Can Reduce Your State Income Tax Liabilities
What is an ING?
The term ‘ING’ trust stands for Incomplete Gift Non-Grantor Trust. When a trust is established as a non-grantor trust, the donor (grantor) is giving up control of all assets transferred to the trust; the assets become the property of the trust. Once the assets are transferred to a non-grantor trust, the grantor is no longer responsible for paying income taxes on the income generated from the assets. The trust becomes the new “taxpayer” and is responsible for reporting the income and paying the tax. An ING trust is set up in states that do not have an income tax. This allows income generated from the trust’s assets to avoid state income taxes. Utilizing an ING trust can be an attractive consideration for a grantor who lives in a state that has a very high state income tax rate.
Alas, ING trusts are designed for state income tax efficiency and wealth preservation.
As previously noted, one of the primary purposes for establishing an ING trust is to reduce state income tax liability. This is accomplished by shifting income tax exposure from the grantor’s home state (e.g. Massachusetts) to a state that does not tax income (e.g. Nevada). To set up the trust in a non-income tax state, the trust typically must be administered by a trustee who is located within that state. In doing so, the trust accomplishes two objectives. First, the resident trustee allows the trust to avoid paying income taxes. Secondly, the resident trustee provides an additional benefit by allowing the trust to meet the self-settled domestic asset protection trust status. This very important provision is the “icing on the cake” since (in certain ING states) it can provide creditor protection from divorce and bankruptcy, not to mention the income tax savings.
Finally, when considering long-term overall income and estate tax planning, an ING trust is beneficial because the assets held in an ING trust at the time of death are included in the grantor’s gross estate and are eligible for a basis adjustment to fair market value at the time of death. Essentially, the best of all worlds – asset protection and income tax savings while the grantor is alive and tax basis “step-up” for the trust assets upon the grantor’s death.
Location Matters with INGs
The most popular states to establish an ING trust are Delaware, Nevada and Wyoming since these states do not tax income on trusts maintained for non-residents. Each state offers its own advantages and disadvantages, so it is important to thoroughly understand the intricacies of each state prior to setting up an ING trust. Additionally, South Dakota, Alaska and, our neighboring state, New Hampshire, are ING-friendly states.
Some states have chosen to ignore ING trusts. These states will tax the grantor on trust income as if the trust does not qualify for non-grantor trust status. The effective result is that the grantor will continue to be taxed on the income as if the assets were never transferred to the ING trust. This will be the result for as long as the grantor remains a resident of the state. The state of New York is a good example of a state that does not recognize ING trusts as “non-grantor” trusts.
Another consideration to factor into the ING trust decision is the 3.8% Net Investment Income Tax (NIIT) which is assessed against certain levels of investment income. Unlike individuals, a trust has a much lower threshold for being subject to NIIT. For 2017, the NIIT threshold was adjusted gross income exceeding $12,500. Trusts having investment income of more than $12,500 pay an additional 3.8% tax on income exceeding the threshold amount. Therefore, the potential additional NIIT assessed at the federal level has to be weighed against the income tax savings derived at the state level.
Is an ING Right for You?
An ING trust could be right for you if you are looking to establish a trust that avoids triggering the grantor trust rule as well as the completion of a gift. This minimizes the burden of state income tax without incurring a federal gift tax. However, shifting your trust assets to an ING-friendly state requires detailed planning that incorporates both the regulations of the resident state and of the non-resident state. Therefore, it is imperative to partner with a skilled tax advisor as well as an attorney who are familiar with ING trusts and will keep an eye on the frequently changing tax laws to ensure the safety of your ING trust.
To learn more about an ING Trust and other trust options for your estate planning needs, please connect with us.
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