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August 15, 2019

The Supreme Court Case That Will Impact Your Estate and Trust Planning

As states have become increasingly aggressive to generate tax revenue, the US Supreme Court issued a unanimous decision limiting at least some state taxation for trusts. On June 21, 2019, the Supreme Court held that North Carolina’s law authorizing taxation of any trust income that “is for the benefit of” a North Carolina resident is unconstitutional by violating the Due Process Clause. The ruling from North Carolina Department of Revenue v. Kimberley Rice Kaestner 1992 Family Trust is a narrow ruling but can still impact estate and trust planning.

About the Kaestner Case

In the Kaestner case, the beneficiary of the trust had no right to distributions and did not receive any distributions during the tax years involved. The beneficiary was also not guaranteed to ever receive the income or principal from the trust. Instead, distributions were to be made in the trustee’s “absolute discretion.” However, North Carolina argued that the beneficiary’s mere presence in the state was enough nexus to tax the income of the trust.

Other than the beneficiary’s residence, the Kaestner trust did not have any other presence in North Carolina. The trust was formed in New York by a New York resident. The trustee of the trust was also a New York resident. The trustee had “infrequent” contact with the beneficiary and no meetings regarding the trust were conducted in North Carolina. The trust did not have a physical presence, make direct investments, or hold real property in North Carolina. Still, North Carolina assessed more than $1.3 million in income tax from 2005-2008.

The Supreme Court held that the presence of in-state beneficiaries alone does not empower a State to tax trust income that has not been distributed to the beneficiaries where the beneficiaries have no right to demand that income and are uncertain to receive it.

What You Can Do

Because of this ruling, taxpayers may want to file amended returns or protective claims for refunds as soon as possible in North Carolina for trusts that fit the Kaestner fact pattern. Trusts timely filing a Notice of Contingent Event will have until December 21, 2019, six months after the ruling date, to file an amended return. Trusts that have not filed a notice will be subject to the general statute of limitations. Talk to your tax advisor for guidance around your personal situation.

The Kaestner ruling will not impact every trust directly; however, it brings up concepts that should be considered in the broader scale of state fiduciary income taxes. States have several bases for taxing trusts including the residency of the grantor, trustees and beneficiaries and locations of trust assets and administration. Some states only look at one of these factors to determine filing requirements while others look at a combination of factors.  As a result, trusts with several trustees and beneficiaries living in different states may have to review the statutes and instructions for multiple states. It’s important to consider all of these factors when determining which state returns are necessary and monitor state statutes to see if states make any changes as a result of the Kaestner ruling.

Although the Kaestner case brings a little relief from states’ ability to tax trusts, by issuing such a narrow ruling, many avenues still exist which allow states to assess tax. Careful consideration of all the factors will help make sure trusts are filing in the appropriate states. The Anders Family Wealth and Estate Planning Services Group can help determine if and how you will be impacted by the ruling. Contact an Anders advisor to discuss your situation.

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