Simple and complex trusts
Simple and complex trusts (irrevocable)
Simple trust is a term used in the Internal Revenue Code to define a trust that:
- Is not a grantor trust or required to be treated as a grantor trust (see Grantor Trust below);
- Is required to distribute all income annually; and
- Does not distribute the corpus of the trust (although the trustee may have discretion to distribute corpus – see the Note on Discretion below)
- Cannot make charitable contributions (no discretion allowed).
Note on Discretion
A simple trust may give a trustee discretion over making distributions of corpus. Granting that authority to the trustee does not make the trust a complex trust. However, in a year the trustee does make a discretionary distribution of corpus, the trust is treated as a complex trust for that year. All simple trusts are complex in the year they terminate.
A complex trust is a trust that is not defined as a simple trust (above) or a grantor trust (below) under the Internal Revenue Code.
Grantor trust is a term used in the Internal Revenue Code to describe any trust over which the grantor or other owner retains the power to control or direct the trust's income or assets. If a grantor retains certain powers over or benefits in a trust, the income of the trust will be taxed to the grantor, rather than to the trust. For example, the power to decide who receives income, the power to vote or to direct the vote of the stock held by the trust or to control the investment of the trust funds, the power to revoke the trust, etc. All revocable trusts are by definition grantor trusts. An irrevocable trust can be treated as a grantor trust if any of the grantor trust definitions contained in the Internal Revenue Code (§§ 671, 673, 674, 675, 676, or 677) are met. If a trust is a grantor trust, then the grantor is treated as the owner of the assets, the trust is disregarded as a separate tax entity, and all income is taxed to the grantor.
Grantor trust rules provide that if the owner of property transferred to a trust retains an economic interest in or control over it, the owner is treated for income tax purposes as the owner of the trust property. Thus all transactions by the trust are treated as transactions of the owner.
Foreign Trust as Grantor Trust
Foreign trusts to which a U.S. taxpayer has transferred property are treated as grantor trusts as long as the trust has at least one U.S. beneficiary. The income the trust earns is taxable to the grantor under the grantor trust rules. This means all expenses and income of the trust would belong to and must be reported by the owner, and tax deductions and losses arising from transactions between the owner and the trust would be ignored. Grantor trusts are not recognized as separate taxable entities, because under the terms of the trust, the grantor retains one or more powers and remains the owner of the trust income. In such a case, the trust income is taxed to the grantor, whether or not the income is distributed to another party.
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