The U.S. reporting and income tax filing requirements imposed on a grantor trust

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As a general rule, every trust having for the taxable year any taxable income, or having gross income of $600 or more, regardless of the amount
of taxable income, or having a beneficiary that is a nonresident alien must
file a fiduciary income tax return, i.e., Form 1041. [IRC § 6012(a)(4) and
(5)]

The IRS has ruled that income, deductions and credits attributed to a
grantor under Subpart E must be taken into account by the trust in
determining if it must file an income tax return in accordance with Code
Section 6012(a)(4). [Rev. Rul. 75-278, 1975-2 C.B. 461]. Another general rule provides that a trust that is treated as owned by one or more persons under Code Sections 671 through 678 must obtain a taxpayer identification number (an employer identification number) for income tax reporting purposes. [IRC § 6109; Reg. §§ 301.6109-1(a)(ii)(C) and 301.6109-1(a)(2)]

There are, however, major exceptions to these general rules with respect to the reporting and filing requirements for a grantor trust. If a trust has items of income, deductions or credits some of which do fall within the grantor trust provisions and some of which do not fall within the grantor trust provisions, the trust must include those items of income, deductions and credits that do not fall within the grantor trust provisions on the fiduciary income tax return (Form 1041) for the trust. Those items of income, deduction and credit which are attributable to the grantor or such other owner of the trust are not reported directly on Form 1041, but are instead listed on a separate statement which is required to be attached to the Form 1041 of the trust when Form 1041 is filed. [Reg. § 1.671-4(a)]

If only a portion of the trust is a grantor type trust, indicate both grantor
trust and the other type of trust, for example, a simple or complex trust, as
the type of entities checked in Section A on page 1 of Form 1041. The due
date of Form 1041 is 3 1/2 months following the end of the taxable year of
the trust.

A further exception applies to eliminate entirely the obligation of the
trustee to file an annual Form 1041 for a grantor trust. If the trust is a
domestic trust and all of the trust assets fall under the grantor trust rules
such that all of the income, deductions and credits are attributable to the
grantor and the grantor and trustee are the same person, then the trustee is
permitted to not file any tax return for the trust. Instead, the grantor reports all of the trust income, deductions and credits on his or her personal income tax return and the trust uses the tax identification number of the grantor (i.e., the social security number of an individual or other federal identifying number of a grantor not an individual) for such reporting purposes. [Reg. § 1.671-4(b)(1) and (2)]

Another exception applies to eliminate entirely the obligation of the trustee to file an annual Form 1041 for a grantor trust if the trust is a domestic trust, all of the trust assets fall under the grantor trust rules, and the sole grantors of the trust are spouses who file their income tax returns jointly (now applicable to legally married same-sex couples after United States v. Windsor [570 U.S 744 (2013)] and Obergefell v. Hodges [576 U.S.644, (2015)]), and one or both spouses are either the trustees of the trust or co-trustees of the trust with a third party. [Reg. § 1.671-4(b)(8)]

The trust owner reports the items of income on his or her individual return. If the owner is also the trustee or a co-trustee of the trust, the trustee has no further reporting requirements. If the owner is not a trustee of the trust, the trustee must then provide the owner with a statement indicating:
• All items of income, deduction and credit of the trust for the tax year;
• The payor of each item of income;
• The information necessary to take these items into account in
computing the owner’s taxable income; and
• Information advising the owner that the items on the statement must
be included in the owner’s tax return. [Reg. § 1.671-4(b)(2)(ii)(A)]

In addition to these “more typical” methods of reporting the income of
a grantor trust, there are several additional Optional Methods available for
reporting as alternatives to filing Form 1041. These Optional Methods are
available where there is a single grantor or other person treated as the
owner of the trust. A married couple will be treated as a single grantor for
purposes of these Optional Methods if all of the trust income is treated as
owned by the married couple and they file their income tax return jointly.
These Optional Methods are not available for certain trusts, including: a
common trust fund (as defined in Code Section 584(a)); a foreign trust or a
trust with any assets located outside the United States; a qualified
Subchapter S trust (as defined in Code Section 1361(d)(3)); a trust whose
owners report using a year other than a calendar year; a trust having an
owner that is not a United States person; or a trust with an exempt
recipient for information reporting purposes.

Optional Method 1 requires the trustee to give all payers of income during the tax year the name and tax identification number of the grantor
or other person treated as the owner of the trust and the address of the
trust. The trust owner must provide the trustee with a signed Form W-9.
The trustee (if not the grantor or other person treated as owner of the trust)
must give the grantor or other person treated as the trust owner a statement that shows all items of income, deduction and credit of the trust, identifies the payer of each item of income, deduction and credit, and explains how the grantor or other person treated as the owner of the trust takes those items into account when figuring taxable income. Where this Optional Method is used, a trustee is not required to file any income tax returns for the trust with the IRS. [Reg. §§ 1.671-4(b)(1), 1.671-4(b)(2)(i)(A); IRS Form 1041 Instructions]

Optional Method 2 requires the trustee to give all payers of income
during the tax year the name, address and tax identification number of the
trust. The trustee also must file with the IRS appropriate Forms 1099 to
report the income or gross proceeds paid to the trust during the tax year
that shows the trust as the payer and the grantor or other person treated as
the trust owner as the payee. The trustee must report each item of income
in the aggregate and each item of gross proceeds separately. The Forms
1099 must be filed with the IRS by March 1, or March 31 if they are filed
electronically, i.e., the same due date as is otherwise in effect for filing the
1099 Forms. [Reg. § 1.671-4(c)] The trustee (if not the grantor or other
person treated as the owner of the trust) must provide a statement to the
grantor or trust owner that shows all income, deductions and credits of the
trust and explains how the grantor or trust owner must take those items
into account in determining taxable income. This statement satisfies the
requirement to give the recipient copies of the Forms 1099 filed by the
trustee. [Reg. §§ 1.671-4(b)(2)(i)(B), 1.671-4(b)(2)(iii)(B); IRS Form
1041 Instructions] Note that a trustee failing to file a correct Form 1099 or
to provide a correct statement to the deemed owner of the trust is subject
to the penalties imposed by Code Sections 6721 and 6722. [Reg. § 1.671-
4(f)]

Optional Method 3 is available where the trust is treated as owned by
two or more grantors or other persons. The trustee must give all payers of
income during the tax year the name, address and tax identifying number
of the trust. The trustee must also file with the IRS Forms 1099 to report
the income or gross proceeds paid to the trust by all payers during the tax
year that are attributable to the part of the trust treated as owned by each
person, showing the trust as the payer and each trust owner as the payee of
his or her respective share. The trustee must report each type of income in
the aggregate and each item of gross proceeds separately. The trustee must
also give each grantor or other person treated as an owner of the trust a
statement that shows each person his or her share of the income, deductions and credits of the trust, explains how such items must be taken
into account in determining taxable income or tax, and information as to
how the various items are to be addressed on the person’s income tax
return. [Reg. § 1.671-4(b)(3); IRS Form 1041 Instructions]

A trustee can change from filing Form 1041 to using one of the
Optional Methods of filing described above. If Form 1041 had previously
been filed, the trustee must file a final Form 1041 for the tax year that
immediately precedes the first tax year for which the trustee elects to use
one of the Optional Methods. The trustee is instructed to write on the front
of the final Form 1041, “Pursuant to Reg. 1.671-4(g) this is the final Form
1041 for this grantor trust” and check the final return box in item F of Form 1041. [Reg. § 1.671-4(g); IRS Form 1041 Instructions]

Certain grantor trusts are treated as payors that may be subject to the
backup withholding requirements. These include a trust established after
1995 all of which is owned by two or more grantors (with spouses filing
jointly being treated as one grantor) and trusts with ten or more grantors
that were established after 1983 but before 1996. The trustee is required to
withhold 24% of reportable payments made to any grantor who is subject
to backup withholding. [IRC § 3406; Reg. § 1.671-4(e)(1) and (2); IRS
Form 1041 Instructions]

The reporting rules for a grantor trust when the grantor dies?

Following the death of the grantor or other person treated as the owner
of a portion of a trust, the trust, or portion of the trust that had been treated
as owned by the decedent may no longer report under the grantor trust
rules. The trust must obtain a new taxpayer identification number upon the
death of a decedent if the trust is to continue after the death of the
decedent. [Reg. §§ 1.671-4(h)(1) and 301.6109-1(a)(3)(i)]

If a trust was filing a Form 1041 under Regulation Section 1.671-4(a)
during the lifetime of the decedent, the due date of the Form 1041 for the
taxable year ending with the decedent’s death is the fifteenth day of the
fourth month following the close of the twelve month period that began
with the first day of the decedent’s last taxable year. [Reg. §§ 1.671-
4(h)(3), 1.6072-1(a)(2)] If the trust was treated as owned entirely by the
decedent, the return must indicate that it is a final return. For individuals,
that due date is typically April 15. Accordingly, where there is a
continuing trust, two tax returns would be expected to be filed— one as
the grantor trust through the grantor’s date of death and the other as a
simple or complex trust for the remainder of the tax year.

If the trust had been reporting under Optional Method 2 described
above, all filings by the trust for the decedent’s year of death
must indicate that it is the final year of the trust. If the trust had been
reporting under Optional Method 3 described above, the trustee
may no longer use that Method if any portion of the trust has a short
taxable year by reason of the decedent’s death, and the portion of the trust
treated as owned by the decedent does not terminate on the death of the
decedent. [Reg. § 1.671-4(h)(3)(ii) and (iii)]

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