I. Introduction

This Technical Information Release explains the changes in the tax treatment of certain estates and trusts as a result of §§ 14 through 17, inclusive, and § 63 of c. 262 of the Acts of 2004. Prior to the enactment of c. 262, and in contrast to federal law, the general rule was that if the income of an estate or trust was subject to tax under c. 62 of the General Laws, the trustee was required to file a Form 2, Fiduciary Income Tax Return, and pay the tax assessed to the estate or trust. G.L. c. 62, § 10 and § 25; G.L. c. 62C, § 6(b). Income distributed to a beneficiary, on which the tax had been paid, was not taxable to him. G.L. c. 62, §§ 10(a) and 10(d). As a result of the enactment of c. 262, effective for tax years beginning on or after January 1, 2005, the above rules no longer apply in certain cases as discussed below. The taxation of grantor-type trusts, pooled income funds, charitable remainder annuity trusts or unitrusts has not been affected by these changes. G.L. 62, §§ 10(e), 11A and 11B.

II. The New Rules

A. G.L. c. 62, § 10(h) - Estate and Trust Income Taxable to Certain Beneficiaries

General Laws c. 62, § 10(h) was added by St. 2004, c. 262, § 15. There it is provided that, effective for taxable years beginning on or after January 1, 2005, estate and trust income includable in the federal gross income of a beneficiary by reason of I.R.C. §§ 652 [1] or 662 [2] is no longer taxable at the estate or trust level; rather, it is to be taken into account in calculating the beneficiary's Massachusetts taxable income under G.L. c. 62, § 2. G.L. c. 62, § 10(h). The amount of estate or trust income to be accounted for by the beneficiary is to be adjusted to account for differences between the calculation of federal taxable income under the Internal Revenue Code ("Code") and the calculation of Massachusetts taxable income under c. 62. Id.

Estate or trust income not includable in the federal gross income of a beneficiary by reason of these Code sections continues to be taxable at the trust level. See section III of this TIR.

B. G.L. c. 62, § 10(h) - Deduction Available for Amounts Included in Beneficiary's Taxable Income

To avoid double taxation, G.L. c. 62, § 10(h) further provides that a trustee or other fiduciary receiving income included in the gross income of a beneficiary by reason of I.R.C. §§ 652 or 662 is allowed a deduction on Form 2 in computing the taxable income of the estate or trust for that portion of Part A, B, or C income attributable to such beneficiary. The amount of the deduction is to be adjusted to account for differences between the calculation of federal taxable income under the Code and the calculation of Massachusetts taxable income under c. 62. Id.

C. G.L. c. 62, § 10(i) - Form 2K-1 Must be Filed by Trustee With Form 2

A trustee or other fiduciary receiving income taxable to a beneficiary under G.L. c. 62, § 10(h), must file with Form 2 a Form 2K-1, Beneficiary's Massachusetts Information, [3] and include thereon (1) the items of income attributable to the beneficiary and (2) the taxpayer identification number of both the beneficiary and the estate or trust. G.L. c. 62, § 10(i); St. 2004, c. 262. § 15.

D. G.L. c. 62, § 10(g) - One Year Requirement to Withhold Tax on Behalf of Beneficiaries Taxable Under G.L. c. 62, § 10(h)

In addition to the above, pursuant to §§ 14 and 63 of c. 262 of the 2004 Act, G.L. c. 62, § 10(g) has been amended to require a trustee or other fiduciary making payments of income taxable to a beneficiary under G.L. c. 62, § 10(h) to withhold and deduct a Massachusetts income tax on these payments at the rate or rates applicable under the provisions of c. 62 to the class or classes of income paid. This requirement applies only to taxable years beginning on or after January 1, 2005 and before January 1, 2006, however. The amount withheld and deducted as tax is to be reported and paid by the trustee or other fiduciary on behalf of each beneficiaryon a Form 1-ES, Estimated Tax Payment. Each Form 1-ES must include the taxpayer identification number of both the beneficiary and the estate or trust. Strike "Spouse's Social Security no." and place the estate or trust's number in that box. The amount reported cannot be used to reduce the amount of income taxable to the beneficiary; rather, it is allowed as a credit on his return of income against the amount of income tax computed thereon. St. 2004, c. 262, § 63.

In taxable years beginning on or after January 1, 2006, every beneficiary receiving income taxable to him under G.L. c. 62, § 10(h), will be liable for making his own estimated tax payments, as applicable, on Form 1-ES.

Example 1: a Massachusetts trust has one beneficiary, a Massachusetts resident, to whom all of the trust's income for the taxable year is distributed. Federally, the beneficiary is required to include the income from the trust in his federal gross income under I.R.C. § 652. The trust and the beneficiary are calendar year taxpayers. In tax year 2004, the trust's tax liability is expected to be $2,000. No change in the kind or amount of income received by the trust is expected in 2005 and 2006.

In 2004, the entire $2,000 tax liability will be payable at the trust level. Additionally, because the amount of tax expected to be owed by the trust exceeds $200, [4] quarterly estimated tax payments must be made by the trustee on behalf of the trust on Form 2-ES. G.L. c. 62B, § 13.

In 2005, because the amount of tax expected to be owed exceeds $400, quarterly estimated tax payments must be made. Although the liability for payment of the $2,000 tax will fall upon the beneficiary, not the trust, the trustee must file Form 1-ES to report the amount withheld and deducted as tax on behalf of the beneficiary. Such amount can be taken as a credit by the beneficiary on the beneficiary's Form 1, Resident Income Tax Return. The trustee can deduct on Form 2 the income attributable to the beneficiary.

In 2006, just as in 2005, the liability for payment of the $2,000 tax will fall upon the beneficiary. However, unlike in 2005, in 2006, the trustee will no longer have a responsibility to file Form 1-ES. Rather, the beneficiary will be liable for making estimated tax payments, as applicable, on Form 1-ES. The trustee can deduct on Form 2 the income attributable to the beneficiary.

Example 2: a Massachusetts trust has two beneficiaries. Each beneficiary has a 50% interest in the trust. One beneficiary is a Massachusetts resident; the other is a nonresident. Each year all of the trust's income is distributed to the two beneficiaries. In tax year 2004, the trust expects to receive Massachusetts net rental income of $10,000 and municipal bond interest from another state of $5,000. Federally, each beneficiary is required to include the rental income from the trust, but not the municipal bond interest, in his federal gross income under I.R.C. § 652. The trust and the beneficiaries are calendar year taxpayers. No change in the kind or amount of income received by the trust is expected in 2005 and 2006.

Where trust income is payable to nonresident beneficiaries, only the net income derived from sources within Massachusetts is taxable. Massachusetts rental income is income from Massachusetts sources. G.L. c. 62, § 10 (a); G.L. c. 62, § 5A. Accordingly, in 2004, the entire $10,000 of rental income will be taxable at the trust level. Also, the municipal bond interest payable to the resident beneficiary, or $2,500, will be taxable to the trust. Because the amount of tax expected to be owed by the trust exceeds $200, quarterly estimated tax payments will have to be made by the trustee on behalf of the trust on Form 2-ES. G.L. c. 62B, § 13.

In 2005, although the liability for payment of the tax owed upon 50% of the rental and municipal bond interest income will fall upon the Massachusetts beneficiary, not the trust, and the liability for payment of the tax on the remaining 50% of the rental income will fall upon the nonresident beneficiary, not the trust, the trustee must file a Form 1-ES to report the amount withheld and deducted as tax on behalf of each beneficiary. The amount withheld and deducted on behalf of the Massachusetts beneficiary can be taken as a credit by him on his Form 1, Massachusetts Resident Income Tax Return. Likewise, the amount withheld and deducted on behalf of the nonresident beneficiary can be taken as a credit by him on his Form 1-NR/PY, Massachusetts Nonresident/Part-Year Resident Tax Return. The trustee can deduct on Form 2 the income taxable by Massachusetts attributable to both beneficiaries.

In 2006, just as in 2005, the liability for payment of the tax owed upon 50% of the rental and municipal bond interest income will fall upon the Massachusetts beneficiary and the liability for payment of the tax on the remaining 50% of the rental income will fall upon the nonresident beneficiary. However, unlike in 2005, in 2006, the trustee will no longer have a responsibility to file Form 1-ES for each beneficiary. Rather, each beneficiary will be liable for making estimated tax payments, as applicable, on Form 1-ES. The trustee can deduct on Form 2 the income taxable by Massachusetts attributable to both beneficiaries.

Example 3: a non-Massachusetts trust has one beneficiary, a Massachusetts resident, to whom all of the trust's income for the taxable year is distributed. Federally, the beneficiary is required to include the income from the trust in his federal gross income under I.R.C. § 652. The trust and the beneficiary are calendar year taxpayers. In tax year 2004, the trust expects to receive Massachusetts net rental income of $8,000 and dividends of $5,000. No change in kind or amount of trust income is expected in 2005 and 2006.

In 2004, only the net rental income is taxable at the trust level. G.L. c. 62, § 10(d); G.L. c. 62, § 5A. Additionally, because the amount of tax expected to be owed by the trust exceeds $200, quarterly estimated tax payments will have to be made by the trustee on behalf of the trust on Form 2-ES. G.L. c. 62B, § 13. The trustee will file Form 2 to report the rental income and will include a Form 2K-1 to report the beneficiary's $5,000 of dividends.

In 2005, although the liability for the trust's entire tax will fall upon the beneficiary, the trustee must file Form 1-ES to report the amount withheld and deducted as tax on the rental income on behalf of the beneficiary. The beneficiary will be required to make estimated tax payments, as applicable, with respect to the dividend income. The tax withheld and paid over by the beneficiary can be taken as a credit on the beneficiary's Form 1. The trustee can deduct on Form 2 the rental income.

In 2006, the liability for payment of the tax will fall entirely on the beneficiary. The trustee will not have to file Form 1-ES. Rather, the beneficiary will be liable for making estimated tax payments. The trustee will file Form 2, including Form 2K-1, and can deduct on Form 2 the income attributable to the beneficiary.

E. Excess Beneficiary and No Tax Status Exemptions

Effective for taxable years beginning on or after January 1, 2005, §§ 12 and 12A of G.L. c. 62 have been repealed. St. 2004, c. 262, § 16. Section 12 allowed a trustee or other fiduciary to claim, on behalf of a beneficiary, the no-tax status exemption provided by G.L. c. 62, § 5(a) on Form 2. Similarly, § 12A allowed, on behalf of a beneficiary, a claim to be made on Form 2 for any personal exemptions to which the beneficiary was entitled under G.L. c. 62, § 3(B)(b) that the beneficiary did not use on his return of income. Sections 12 and 12A have been repealed by St. 2004, c. 262, § 16 because they no longer serve any purpose as a result of the other changes brought about by St. 2004, c. 262 discussed above.

F. Unused Capital Losses

Unused capital losses of a trust are allocable to the trust corpus and can be used by the trust itself in future years. These losses cannot be passed through to beneficiaries. Chapter 262 of the Acts of 2004 did not reference I.R.C. §§ 641, 642 or 651.

G. Noncompliance by Beneficiary

Should it be determined by the Commissioner of Revenue that a beneficiary subject to taxation under G.L. c. 62, § 10(h) is not in compliance with the tax laws of the Commonwealth, including, but not limited to, the timely filing of accurate returns and payments of amounts due, §§ 10(h) and 10(i) of c. 62 will no longer apply. G.L. c. 62, § 10(j). In the case of an estate or trust with more than one beneficiary, only the estate or trust income attributable to the beneficiary(ies) found not to be in compliance will be taxable at the estate or trust level. Income attributable to the complying beneficiaries will continue to be subject to §§ 10(h) and (i) of c. 62. Accordingly, the trustee or other fiduciary will no longer be allowed a deduction in computing the taxable income of the estate or trust for that portion of Part A, B, or C income attributable to its beneficiary(ies) found not to be in compliance or required to file Form 2K-1 for such beneficiary(ies).

III. Cases Where Estate or Trust Income Continues to be Taxable at Trust Level

The above changes notwithstanding, certain estates and trusts continue to be taxable at the trust level. For example, where income of an estate or trust subject to the taxing jurisdiction of Massachusetts is being accumulated for a Massachusetts beneficiary, unascertained persons, or persons with uncertain interests, such income is taxable to the estate or trust.

"Unascertained persons" refers to a class of persons who cannot be identified with certainty until the happening of a specified event. The term also applies to those of a class who fulfill some special qualification. 830 CMR 62.10.1(2)(b)4. An "uncertain interest," in contrast, is a type of future interest such as a contingent remainder or a vested remainder subject to being cut off upon the happening of a contingency. In determining whether a p erson has an "uncertain interest," 830 CMR 62.10.1(2)(b)5 states that a remainder interest in a trust which is vested and not subject to being divested by the happening of any contingency expressly mentioned in the trust instrument is not classified as an uncertain interest. Any other type of future interest is an uncertain interest.

/s/Alan LeBovidge

Alan LeBovidge,

Commissioner of Revenue

AL:LEM:pls

186305

January 27, 2005

Revised TIR 04-23


[1] The section of the Internal Revenue Code ("Code") which determines the amount and character of the gross income includable by a simple trust beneficiary.

[2] The section of the Code which determines the amount and character of the gross income includable by a complex trust beneficiary.

[3] This is the tentative name for the form, which is now under development.

[4] The $200 threshold amount will change to $400, effective for taxable years beginning on or after January 1, 2005. St. 2004, c. 262, §§ 23 and 24.