Form 4970 and Form 1041 Schedule J Accumulation Tax: Reporting Distributions From Foreign Trusts

Description

The tax treatment of distributions to U.S. beneficiaries from foreign non-grantor trusts is particularly complex for tax advisers and compliance professionals. While foreign non-grantor trusts are not usually subject to U.S. income tax on non-U.S.-sourced or effectively connected income, U.S. beneficiaries are subject to income tax on distributions made out of the trust’s distributable net income (DNI).

IRC 643 provides that all income earned by a complex foreign non-grantor trust is considered as DNI. However, the throwback rules require that, unless current DNI is distributed within 65 days of the tax year’s end, the DNI must be reclassified as undistributed net income (UNI), rather than being treated as an addition to trust corpus.

U.S. beneficiaries receiving distributions from foreign trusts in excess of DNI in a given year must calculate and pay an “accumulation” or throwback tax, plus interest, on any portion of the distribution classified as UNI. This throwback tax is reported on Form 4970 and Schedule J of Form 1041 and involves difficult computations.

Tax advisers must have a thorough understanding of the throwback rules in reporting distributions from foreign non-grantor trusts to avoid costly consequences.

Listen as our expert panel provides practical guidance to reporting accumulation tax on foreign trust distributions from DNI and UNI on Form 4970 and Schedule J of Form 1041.