ING trusts, also known as Incomplete Non-Grantor trusts, have gained popularity as a tax planning strategy for high-net-worth individuals. These trusts offer significant benefits, but recent scrutiny from the IRS and state tax authorities has raised concerns about potential risks. In this blog, we will delve into the world of ING trusts, exploring their advantages and drawbacks, and shedding light on the evolving landscape of IRS regulations.
Understanding the risks versus benefits of ING trusts will enable you to make informed decisions about your wealth preservation strategies.
What is an ING Trust?
An ING trust is an irrevocable trust that is designed to be an “incomplete” gift. This allows the settlor to avoid an immediate gift tax implication. Incomplete non-grantor trusts are structured in a way that requires the grantor to retain certain rights or powers over the trust assets. These rights might include the ability to change trustee composition, or the ability to indirectly access trust income. By keeping certain powers, the settlor ensures that the trust is treated as an incomplete gift for gift tax purposes. At the same time, other specific powers need to be given away so that you can achieve non-grantor trust status. In so doing, income is not taxed as part of the settlor’s individual income tax return (usually in their high-tax home state); rather, the income is taxed at the trust level (in a state that does not have a state income tax on trust income). This can result in significant tax savings, especially for high-income earners.
Benefits of ING Trusts
Control over Assets
By utilizing an ING Trust, you can (and actually must) maintain some control over these trust assets. You can guide the originating terms of the trust, such as how the assets are managed and distributed, while still enjoying the income tax benefits associated with transferring ownership to the trust.
Gift Tax Avoidance
One of the objectives of an ING Trust is to avoid triggering gift taxes. By retaining enough control to characterize the gift as incomplete, you will not need to utilize any of your lifetime gift exemption, leaving a larger amount of exemption to be used on other strategies that focus more specifically on gift and estate tax minimization. This can help ensure that more of your hard-earned wealth ultimately goes to your intended beneficiaries rather than to taxes.
Income Tax Reduction
If structured correctly, assets transferred to the trust can be sold without paying the income tax that would otherwise be due in the settlor’s state of residence. In addition, ongoing earnings inside the trust can escape state income taxation. This can materially add to your long-term wealth.
Creditor Protection
Another advantage of an ING Trust is the added layer of protection it provides against creditors. Assets held within the trust are shielded from potential claims, providing an extra level of security for your wealth.
IRS Scrutiny and Risks
While ING trusts offer attractive benefits, they have come under increased scrutiny from the IRS and state tax authorities. The primary concern is that some taxpayers may abuse the incomplete gift status of the trusts to engage in tax avoidance or reduction strategies that may be perceived as aggressive or abusive.
Legislative Proposals and Regulatory Changes
Recent legislative proposals and regulatory changes aim to address these concerns and prevent taxpayers from using ING trusts as a means to avoid legitimate tax liabilities. For instance, California recently passed Senate Bill 131 which requires that net income derived from incomplete non-grantor trusts be subject to California income tax if the trust's grantor is a California resident. Similar measures may be introduced in other states as well. In circumstances such as these, there are tested methods to work around the new rules - that is beyond the scope of this post.
Caution and Compliance
It is essential to be cautious when structuring an ING trust and ensure that it complies with all applicable tax laws and regulations. Engaging with experienced estate planning attorneys and tax professionals can help navigate the complexities of ING trusts and ensure that your estate planning strategies remain compliant and effective.
Finding the Right Balance: Risk vs. Benefit
When considering an ING trust as part of your tax planning strategy, it is crucial to strike the right balance between risk and benefit. These trusts can be powerful tools for tax planning and asset protection, but they should be approached with care and transparency.
Working with a knowledgeable and experienced team of professionals will help you understand the potential risks associated with ING trusts and design a plan that aligns with your financial goals and priorities. Properly structured and executed ING trusts can offer significant advantages while adhering to legal and ethical standards.
Final Notes
ING trusts can be a valuable addition to your tax planning toolkit, providing income tax efficiency, asset protection, and (indirectly) wealth transfer benefits. However, the increasing IRS scrutiny and potential regulatory changes require careful consideration and adherence to tax laws.
Consulting with experienced professionals will enable you to make well-informed decisions about ING trusts, ensuring that your wealth transfer and tax planning strategies are both effective and compliant. Protecting and preserving your wealth for future generations requires thoughtful planning, and an ING trust can play a pivotal role in achieving your financial objectives.
Related: The QPRT Strategy: How To Reduce Estate and Gift Taxes