The IRS has issued proposed regulations on one of the most complicated but beneficial provisions under the Tax Cuts and Jobs Act: the pass-through and qualified business income (QBI) deductions under Code Section 199A. Following the enaction of Code Section 199A, the IRS received many comments seeking clarification on various items related to this Code Section including certain rules applicable to trusts and estates. These regulations provide guidance on the treatment of QBI deductions by trusts and estates.
Under the Tax Cuts and Jobs Act, for tax years beginning after December 31, 2017 and before January 1, 2026, Code Section 199A provides a deduction to individuals and some trusts and estates of up to 20% of income from a domestic business operated as a pass-through entity such as a partnership, sole proprietorship, S corporation, trust, or estate.
Proposed Regulation Section 1.99A-6 Deductions for Trusts, Estates and Pass-Through Entities
Proposed regulation Section 1.99A-6 provides guidance on computing the Code Section 199A deduction for entities or their owners.
Proposed Regulation Section 1.99A-6(d) provides guidance for applying Code Section 199A to trusts and estates. If there is a grantor trust in which the grantor is treated as owning all or a part of the trust under Code Sections 671-679, the trust is essentially ignored, and the grantor will compute QBI with respect to the owned portion of the trust just as if it had been received directly. For non-grantor trusts and estates, each beneficiary’s share of W-2 wages paid by the pass-through entity or QBI received by the trust or estate is determined by using a proportion based on that beneficiary’s share of distributable net income (DNI) deemed distributed to the beneficiary. Any DNI not deemed distributed to a beneficiary, or if there is no DNI, will result in the trust or estate being attributed with that proportion of W-2 wages and QBI not deemed distributed.
Even though under Code Section 199A the threshold amount in Proposed Regulation Section 1.99A-1(d) is determined at the trust or estate level without taking into account distribution deductions, the proposed regulations make it clear that any trust established with a significant purpose of receiving this deduction will not be respected for purposes of Code Section 199A. Two or more trusts would be aggregated together as a single trust if they have substantially the same grantor or grantors, have substantially the same primary beneficiary or beneficiaries, and if a principal purpose for establishing the trusts or for contributing additional property to the trusts is tax avoidance. If the creation of a trust results in a significant income tax benefit under this Code Section 199A, there must be another non-tax significant purpose of that trust or it will be disregarded.
While Code Section 199A still remains one of the most complicated but beneficial addition to the Internal Revenue Code by virtue of the Tax Cuts and Jobs Act, these proposed regulations should help clarify many questions regarding this Section of the Code and its applicability to trusts and estates. The attorneys at Hickmon & Perrin, P.C. are available to assist with the navigation of the applicability of these proposed regulations as they apply to trusts and estates.
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