Probate & Trust Law Section Conference Manual ... - Minnesota CLE

• The estate’s income tax return (Form 1041) shows an income
distribution deduction for the assets paid to the children. Each child
receives a K-1 showing the child’s share of the distributable net income
(DNI). The entire amount of the IRA account ($200,000) is taxable
income that must be reported on the children’s income tax returns.
Example C – No DNI Deduction: Assume the same facts as Example B for Betty who
died in January 2012. The personal representative promptly collected $40,000 from the
IRA and paid that amount to the church. Because the house wasn’t sold promptly, no
other distributions were made during 2012 (or in the first 65 days of 2013).
RESULT:
•The estate’s 1041 income tax return shows $40,000 of taxable income
from the IRA withdrawal.
•The estate does not get a charitable contribution deduction because this is
a pecuniary gift from principal.
•The estate does not get an income distribution deduction to the children
because nothing was distributed to them.
•The estate must pay tax on the $40,000 IRA withdrawal at the estate’s
highly compressed tax brackets. Individuals reach the top federal income
tax bracket of 35% at $388,350 of taxable income. Estates and trusts
(filing a 1041) reach the top tax bracket of 35% at $11,650 of taxable
income (2012 returns).
•The income tax due on the IRA withdrawal (1041 & Minnesota M2)
is over $15,000.
Example D – Charity As Residual Beneficiary: Betty owns the following assets (same
assets as Example B):
IRA - no beneficiary $200,000
home 100,000
Bank savings and C/D’s 100,000
All assets (including the IRA) are paid to her probate estate.
Betty’s will creates the following gifts:
• I give 10% of my net estate to my church. I specifically direct that this
gift to my church is to be given from distributions from my IRA account.
• I give the residue of my estate to my children.
This will was drafted in reliance on IRS Reg §1.642(c)-3(b)(2) [relating to
charitable deductions on Form 1041] which provided:
“In determining whether the amounts of income so paid . . . include
particular items of income of an estate or trust . . ., the specific provision
controls if the governing instrument specifically provides as to [the]
source out of which amounts are to be paid, permanently set aside, or
used for such a purpose.”
13