QUESTION: I have some questions as a beneficiary from an offshore non grantor trust. My father established the trust in the Isle of Jersey, off of UK in 1978. Out of the seven family beneficiaries, three reside in the US. My brother who is not a US resident is insisting that we may loose as much as 100% of all distributed assets in taxes and therefore he is advising to let him take all the money. My brother is specifically quoting following lines from your website.
“Thus, in order to avoid or defer US income taxation to both the US settlor and any US beneficiaries, the foreign trust must be a foreign non-grantor trust with no US beneficiaries.”
Please note, the settlor, my father never resided in the US and these are not expatriated assets. Also, it is likely that no taxes have thus far been paid. If I am going to give it all to Uncle Sam, I might as well let that go to my brother but that constitutes a loss of over $150,000 to me. Do you have any suggestions?
REPLY: First of all, it is extremely unlikely that 100% of the distribution from a foreign trust to a US beneficiary would be consumed by US taxes, even if the income were 100% taxable to US persons.
Second, I’m not sure what part of my web site the above quote was from, but it was either quoted out of context or was misinterpreted. Please note that the above quote refers to a “US settlor”. The tax treatment of a foreign trust is very different if there is a US settlor (grantor) versus a foreign trust formed (settled) by a foreign person. Based on the information you provided, the quote from my web site is not applicable because the foreign trust was apparently formed by a foreign person — your father.
When a distribution is made from a foreign trust to a US beneficiary (regardless of where they reside), the law treats the distribution as ordinary (taxable)income to the US beneficiaries unless the trustee will provide the US beneficiaries with an annual statement of the income earned by the trust. If distributions exceed the current year income of the trust, there is a moderately complicated tax calculation referred to as the “throw-back tax”. But that should never exceed the beneficiary’s distribution from the trust. The rules are described in the instructions to the Form 3520 and 3520-A, which can be found at the IRS web site.
Please note that this is a VERY BRIEF discussion of a VERY COMPLICATED subject in the US tax law and it can’t be relied upon as an authoratative source of information about the tax law. It merely represents my personal interpretation of the tax law in the context of the facts described.
The comments in this memorandum are not intended to constitute an opinion regarding any specific tax issues because additional tax issues may exist that could affect the tax treatment of the tax issues addressed in this memo. This memorandum does not consider or reach a conclusion with respect to those additional issues and was not written and cannot be used for the purpose of avoiding penalties under code section 6662(d). For further details see