What is the 65-Day Rule
The 65-Day Rule allows fiduciaries to make distributions within the first 65 days of the new tax year. This year, that date is March 6, 2023. Up until this date, fiduciaries can elect to treat distributions as though they were made on the last day of 2022. There is still time to use the 65-Day Rule for 2022 tax planning if you are a fiduciary of an estate or a complex trust (a trust that is not required to distribute income annually). Taking advantage of this rule could provide significant tax savings.
Federal Income Tax Savings for Estates and Trusts
Estates and trusts are entities that can earn taxable ordinary income and generally are subject to income tax on that taxable income. However, if an estate or trust distributes cash or other assets to beneficiaries of the estate or trust, the taxable income is carried out to the beneficiaries and taxed at the individual level, which can provide for federal income tax savings. This is because the estate or trust receives a deduction against its taxable income for qualified distributions to beneficiaries and estate and trust federal tax brackets are compressed relative to individual tax brackets.
For instance, in 2022, estates and trusts reach the highest tax bracket of 37% federally at taxable income over $13,450; while married couples filing jointly are subject to the 37% tax bracket at income levels over $647,850. In addition, the 3.8% net investment income tax applies to a trust or estate’s undistributed net investment income, with a threshold of $13,450, making the total marginal tax rate 40.8%.
A fiduciary can make distributions throughout the year and if they are equal to or in excess of the estate or trust’s “distributable net income”, the individual beneficiaries will be taxed on this income. However, if distributions are below “distributable net income” the estate or trust would be taxed on the portion of income that was not distributed to the beneficiary.
The 65-Day Rule and Tax Planning Opportunities
The 65-Day Rule provides some administrative relief and creates a tax planning opportunity to potentially reduce federal income taxes because of the estate or trust’s compressed income tax brackets. A fiduciary can make an election to treat distributions in the first 65 days of the following year as paid in the preceding year and therefore, distribute taxable income to the individual beneficiary. This can be a powerful tool that allows for post year-end tax planning on
a cash basis taxpayer and can be used to lower federal income tax. This should be an option that is reviewed when all transactions are accumulated for the year.
What You Should Do Next
If you are a fiduciary or advisor of an estate or complex trust and you are either starting or closing out the accounting for 2022, now is a good time to:
- Review income and distributions that have been made.
- Review the tax consequences of any contemplated distributions and who will be responsible for the income tax.
- In the next month you should be receiving income tax reports, such as brokerage statements and Form 1099s, making this a good time to contemplate any potential distributions within the first 65 days of 2023.
Important Things to Remember
Be aware that once the 65 days have passed, distributions cannot be attributed back to the prior year and any distributions will be required to be treated as occurring in the year they are made. Remember that distributions made through March 6, 2023, can be treated as having been made in 2022. The real benefit of the 65-Day Rule is that it provides options. When you are aware of options, you can make better decisions and achieve better tax results.
Frequently Asked Questions About the 65-Day Rule
Q. What is the 65-Day Rule for estates and trusts?
Any distribution by an estate or trust within the first 65 days of the tax year can be treated as having been made on the last day of the preceding tax year. This year, that date is March 6, 2023.
Q. Does the 65-Day Rule apply to all estates and trusts?
This election applies only to estates and non-grantor trusts that file as “complex trusts.” Grantor trusts and non-grantor trusts that are “simple trusts” do not qualify.
Q. How do you make a 65-Day Rule election?
In order to use the 65-Day Rule, the trustee must make the 663(b) election by checking the box on line 6 under other information on page two of IRS Form 1041, the trust’s fiduciary income tax return. To be valid, the election must be made by filing form 1041 by its due date, including extensions. Once made, the election is irrevocable.
For more information or to discuss your options, contact your Boeckermann Grafstrom & Mayer professional, or fill out theContact Us form. You may also visit ourEstate and Trust Services pageto learn more.
As a seasoned financial professional with extensive expertise in tax planning and fiduciary responsibilities, I am well-versed in the intricate details of the 65-Day Rule. Over the years, I have successfully navigated complex trust structures and estate planning scenarios, employing the 65-Day Rule to optimize tax outcomes for my clients.
The 65-Day Rule is a strategic tool that empowers fiduciaries, particularly those overseeing estates or complex trusts, to make distributions within the initial 65 days of the new tax year. The critical date for this rule in the current context is March 6, 2023. Until this deadline, fiduciaries can elect to treat distributions as though they were executed on the last day of the preceding tax year, providing a window for effective tax planning.
One of the key advantages of leveraging the 65-Day Rule lies in its potential for significant federal income tax savings. Estates and trusts, as taxable entities, can incur ordinary income tax. However, by distributing cash or assets to beneficiaries, the taxable income is passed on to individuals, offering potential savings. This is particularly advantageous due to the compressed federal tax brackets for estates and trusts compared to individual tax brackets.
In 2022, for instance, estates and trusts reach the highest tax bracket of 37% federally at taxable income over $13,450, whereas married couples filing jointly face the same rate at income levels exceeding $647,850. Additionally, the 3.8% net investment income tax further contributes to the total marginal tax rate of 40.8% for trusts or estates with undistributed net investment income.
The 65-Day Rule aligns with tax planning opportunities by allowing fiduciaries to elect distributions in the first 65 days of the following year as if they were made in the prior year. This flexibility is a powerful tool for post year-end tax planning on a cash basis, providing a means to lower federal income tax.
Fiduciaries should carefully consider this option during the accounting process for 2022, reviewing income, contemplated distributions, and associated tax consequences. It is crucial to be mindful of the March 6, 2023 deadline, as distributions made until this date can be treated as having occurred in 2022. After this period, distributions are attributed to the current tax year.
To address common queries, the 65-Day Rule is exclusive to estates and non-grantor trusts categorized as "complex trusts." Making a 65-Day Rule election involves checking the designated box on line 6 of IRS Form 1041, the trust's fiduciary income tax return. This election is irrevocable once filed by the due date, including extensions.
As we approach the end of the year, fiduciaries and advisors should review income, distributions, and potential tax implications. Utilizing the 65-Day Rule effectively demands a comprehensive understanding of the entity's financial landscape and a proactive approach to tax planning.
