Question

Trust X requires that the trustee make the following payments each year:

$5,000 to charity (out of income)

20,000 to A (out of income only)

12,000 to B (annuity out of income, then principal)

Assume that the trust has accounting income and gross taxable income, (all interest),

of 30,000 for the year and makes all payments.

a) Compute the amount of trust income taxable to A and B, respectively.

b) Assuming that the trust has an additional deductible expense of $10,000

chargeable to principal, compute the amount of trust income taxable to A and B,

respectively.

Answer 1

Balance income after charity = 30000- 5000 = 25000$

a) Full amount of $20000 is taxable in the hands of A as it is distributed wholly out of income

Balance income after payment to A 25000-20000 = 5000

So out of 12000 paid to B, 5000$ relates to income and the balance 7000 relates to principal. Therefore only $5000 is taxable in hands of B.Reason being beneficiaries of a trust typically pay taxes on distributions they receive from the trust's income. However, they are not subject to taxes on distributions from the trust's principal.

b) Now the trust income is reduced to 20000 after deducting additional $10000 expenses.

Balance after payment of charity 20000-5000 = 15000$

Taxable income in the hands of A is 15000$ since it is the income which is distributed wholly to A(Assumed)

Taxable Income in the hands of B = NIL as the amount paid would be from principal because the income is exhausted in full(i..e.30000-10000 additional expenses-5000 charity- balance 15000 paid to A)