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Tax Compliance and Planning/Blueprint/3.A

Trust and estate taxation

Area 3: Advanced Tax Concepts (10-20%)

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Topics

  • Trust types and taxation
  • Distributable net income
  • Estate income tax (Form 1041)

Lessons

  • Trusts and Estates

Study Frameworks

Trust Types and Taxation

Trust Classification and Tax Treatment
Grantor Trust
Grantor retains certain powers (IRC 671-679)
All income taxed to grantor (disregarded entity for income tax)
Common: revocable living trusts, intentionally defective grantor trusts (IDGTs)
Simple Trust
Required to distribute all income currently
Cannot distribute corpus
Cannot make charitable contributions
Beneficiaries taxed on DNI; trust gets distribution deduction
Complex Trust
May accumulate income, distribute corpus, make charitable gifts
Distributions carry out DNI to beneficiaries (tier system)
Undistributed income taxed to trust at compressed rates
Highest bracket (37%) reached at ~$16,150 (2026)

Trust Classification — Simple vs. Complex vs. Grantor

Does the grantor retain a prohibited power or interest under IRC 671-679 (e.g., power to revoke, control beneficial enjoyment, borrow without adequate security)?
Yes
Grantor trust — all income taxed to grantor on the grantor's individual return; trust is disregarded for income tax
No
Is the trust required to distribute all income currently, prohibited from distributing corpus, and does it make no charitable contributions?
Yes
Simple trust — income distribution deduction equals DNI; beneficiaries report income; $300 personal exemption
No
Complex trust — may accumulate income, distribute corpus, or make charitable gifts; undistributed income taxed at trust rates; $100 personal exemption

Distributable Net Income (DNI)

DNI = Taxable Income + Personal Exemption + Tax-Exempt Interest - Capital Gains Allocated to Corpus + Capital Losses

DNI caps the trust's distribution deduction and the amount taxable to beneficiaries. Prevents double taxation of trust income. Tax-exempt interest retains its character.

DNI-DDDNI Determines Distribution Deduction

Distributable Net Income caps both the trust's distribution deduction and the amount taxable to beneficiaries. DNI is the ceiling for the distribution deduction — distributions in excess of DNI are tax-free return of corpus.

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