Non-grantor trusts could stack big tax breaks under OBBBA

The One Big Beautiful Bill Act will lead to a “renaissance” of income tax planning through non-grantor trusts that can “stack” the available savings, according to two experts.

In light of the law, financial advisors, tax professionals and their clients should consider income strategies involving methods that shift their earnings to multiple trust entities that could harness several of the benefits at once, according to a webinar earlier this month held by Leimberg Information Services, which provides training courses, newsletters and other resources for financial advisors and tax and law professionals with high net worth customers. 

The potential opportunities stem from new provisions that include the state and local tax deduction, the deduction for qualified business income for pass-through entities and the breaks on capital gains duties from qualified small business stock. With higher, permanent exemptions from the estate tax, those income and earnings-based provisions have grown in importance.

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Short stack or big stack?

However, a white paper and the subsequent online presentation led by Robert Keebler, partner with advisory and accounting firm Keebler & Associates, and Steven Oshins, member of the Oshins & Associates Law Firm, pointed out that there are some guardrails related to IRS rules against the multiplication of income tax advantages across several non-grantor trusts for a single beneficiary. So they presented case studies involving high net worth households that created just one trust entity for each child or grandchild of the grantor. The “stack” of savings from several trust entities can yield significant benefits — tens of thousands of dollars in lower taxes or more in many of the examples.

“Now that we have this $30 million exemption for a married couple, very few of our clients are above the $30 million, so the new estate planning is to do income tax planning,” said Oshins, whose firm maintains rankings of states based on their rules and tax treatment for various trust entities. “There’s going to be less estate tax planning from here on out, and we should be focusing on income tax planning using one or more non-grantor trusts. … This created a lot of different income tax planning opportunities that we may or may not have had prior to this new tax bill being passed and signed into law.”

Those rule shifts, such as the law’s expansion of the SALT deduction to $40,000 from only $10,000 for most households, plus the shortage of incoming CPA talent, create a new landscape for tax professionals.

“If you’re an estate planning lawyer, you might say to yourself, ‘Well, this is income tax. I usually don’t jump into the income tax,'” Keebler said. “But what’s happened because of the CPA shortage? Many, many clients are not getting the same proactive planning they might have received 10 or 15 years ago, and you can offer some of that, especially when it largely overlaps with your estate and trust expertise.” 

The law represents “a watershed moment for tax planning that will result in a renaissance in the world of income tax planning with non-grantor trusts,” according to the paper by Oshins and Keebler, which described that type of entity as the cornerstone of “a renewed focus on income tax planning.” The available strategies send income flowing to several trusts for each of the grantor’s beneficiaries, giving clients a chance to qualify for several benefits at the same time while forming the trust in states with the most advantageous rates for their earnings.

“Each one on its own may or may not be enough to sweeten the pot enough for a client to move forward with creating one or more non-grantor trusts described hereinabove,” the report said. “However, it is possible to ‘stack’ these benefits. If one benefit isn’t enough, maybe two benefits are enough for the client to see the value in creating the trust. With one benefit, the planning is a ‘maybe.’ With two benefits, the planning is a ‘probably.’ With three or more benefits, the planning is likely a ‘no-brainer.'”

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Be fruitful and multiply savings from trusts

For advisors with clients in states or cities that have high income rates, the new SALT deduction phases out to its earlier level of only $10,000 when their annual income reaches $600,000 or higher. But the trusts offer the ability for high-earning clients to distribute their income across beneficiaries who are usually in a lower tax bracket, for starters, with a wider deduction available of $40,000 if their yearly earnings are below $500,000.

“The name of the game — now that we have the higher estate tax exemption — is to set up these non-grantor trusts so we can do the income tax planning, because a non-grantor trust is a separate income taxpayer,” Oshins said. “We can stack multiple opportunities in the same non-grantor trust. The problem, prior to this tax act, was that we were working off of a $10,000 SALT deduction. So the tax savings of $10,000 to use a non-grantor trust were too small for a client to pay an attorney to set up a trust and pay an accountant to prepare the tax return. That one opportunity wasn’t enough. So now we have the $40,000 per year, and we can stack other opportunities.”

In other words, each of the trust entities earning below half a million dollars per year would be eligible to deduct up to $40,000 in state and local taxes from their federal income. And the clients could then apply more savings based on qualified business income or qualified small business stock through each trust as well, to “stack” those breaks on top of each other. That means that there are some clients who could use the trusts to tap into all three tax breaks in a way that multiplies their savings across the board, depending on circumstances.

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Cautions and caveats

The use of several trusts for one beneficiary would likely fail to bring all of those savings, since Section 643(f) of the code prevents taxpayers from multiplying their breaks with a non-grantor trust, unless the entities have different beneficiaries, according to the white paper. But assigning each benefactor a trust fills other reasonable purposes, beyond the available tax savings.

“If I came to Steve and said, ‘I only have one child, but here’s what I want you to do, Steve: I want you to draft three trusts. One trust pays the child when he’s 30, one trust pays the child when he’s 40, and one trust when he’s 50,'” Keebler said. “My guess is the government would consolidate that under 643(f). They would crush us.” 

“But, on the other hand,” he continued, “if I came with three children, and we have three legitimate trusts separately, the reason we’re setting them up is so that the children don’t have anything to fight about with distributions. The last thing an 80-year-old parent wants to hear is his children whining because the beneficiary of trust No. 1 went to law school, the trust paid for it, and another beneficiary of that trust went to tech school and the bills are 80 times different. And the parents in their 50s are upset about that. If they’re all in separate trusts, you keep better family harmony. There are plenty of reasons to do that, but you can stack up these exclusions. That is a beautiful and powerful thing.”