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What is Trust Taxation?

By Victoria Blackburn
Updated May 17, 2024
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Trust taxation is the legal method in which taxes get paid on all property. A trust is a legal arrangement that is a means to hold and manage assets. It has four basic components, including a trustee, trust property, instructions and beneficiaries. Any type of property that is considered an asset can be placed in a trust.

There is no way that an individual who owns the property can be exempt from trust taxation once he or she becomes the rightful owner of the estate. Trust taxation is the legal responsibility of the beneficiary. To avoid trust taxation either willfully or by accident is considered illegal and may have serious consequences, including incarceration.

Living trusts and testamentary trusts are the two main types of trusts. A living trust is established during a grantor’s lifetime and the grantor is the legal holder of the trust. A living trust can be either revocable or irrevocable. Revocable means that the stipulations of the trust can be changed, and irrevocable trusts are unchangeable once the trust is established.

An irrevocable trust saves on trust taxation in the long run because of the way these trusts are designed. The assets in these trusts are considered a gift and the grantor is not considered the trustee or the beneficiary, so trust taxation is calculated according to the rules of the trust which will depend on the type of trust that is established. Taxation is also based on the worth of the assets. A revocable trust transfers the property in the trust and the grantor is the trustee and the beneficiary. No taxes are due on the actual transfer, but taxes are due on the assets.

There are different types of legal trust situations. Each circumstance has laws that outline taxation on the trust. Some examples of common trusts include domestic, foreign, legitimate and valid. Each trust, and the country in which a person resides, defines the laws surrounding it as well as the guidelines for trust taxation. Regardless of the kind of trust, all income that a trust collects is taxable either to the beneficiary, the trust or the grantor, unless there are exceptions that are approved by the government, such as hardship exceptions or job loss.

The laws surrounding trusts can be very complex. The penalties for trust fraud can be severe, regardless of the intent. It is always advisable to know the rules for the trust situation as well as the trust taxation laws for the country where the trust was established. Tax attorneys can be helpful in dealing with the legalities surrounding trust taxation.

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