What is the capital gains tax rate for Irrevocable Trusts in 2024?

In 2024, there will be a federal tax on the Irrevocable Trust's capital gains, to be differentiated between what the trust retains and what it distributes.

1. Retained Capital Gains:

If an Irrevocable Trust retains the capital gains, then the gain is taxed at the trust level. Trusts have compressed tax brackets, meaning that much higher rates will apply at much lower levels of income than for individuals. Long-term capital gains-which apply to the sale of assets held for more than a year are taxed as follows:

• Gains up to a certain threshold are taxed at 0%
• Gains falling within a mid-range threshold are taxed at 15%
• Gains above the upper threshold are taxed at 20%

These are substantially lower thresholds than apply to individuals, for whom the 0% rate applies to larger amounts, with substantial gains hit by higher rates.

2. Distributed Capital Gains:

If the trust distributes any of its capital gains to beneficiaries, the character of those gains is passed through to the beneficiaries, who would report the gains on their individual tax returns. The beneficiaries are taxed at individual rates, and the trust receives a deduction for the gains distributed, which decreases its taxable income.

3. Additional Considerations:

• The Net Investment Income Tax (NIIT): estates and trusts have a 3.8% NIIT assessed on the lesser of undistributed net investment income or the excess of adjusted gross income over a threshold amount.
• State Taxes: aside from the application of federal taxes, there are state taxes that may be applied to capital gain, which will vary depending upon a given state.

Given the amount of complexity and the possibility that it could affect taxes, it is prudent for the trustees and beneficiaries to research with a tax professional specific details of a trust to sort out the details.

Where the average capital gains tax rate for Irrevocable Trusts creates an enormous tax liability for gains retained, sometimes running into several thousands of dollars. For example, using up to $50,000 of retained long-term capital gains, after-tax liability can be between $7,500 to $10,000, depending on how the gains are taxed within the compressed brackets of the trust. Its size, however, depends on the amount of your gains, whether they are distributed to beneficiaries, and the type of income and distribution decisions made by the trust.