USA Law and Practice Contributed by: Diana Zeydel, Marc Selden, Benjamin Babcock and Brian Smith, Greenberg Traurig, LLP
Revocable trusts, irrevocable trusts and dynasty trusts each serve distinct planning objectives. Depending on a taxpayer’s circumstances, these structures may be used to avoid probate and minimise wealth transfer taxes while establishing curated governance for the management and distribution of trust assets. 3.3 Taxation of Trusts, Foundations and Similar Entities Located in Other Jurisdictions If a foreign citizen or tax resident serves as a trus - tee, protector or other fiduciary of a US trust, it may trigger significant US tax, reporting and compliance consequences. The conversion of a US trust to a for - eign trust may trigger a capital gains tax on the entire trust estate. US beneficiaries of foreign trusts may be subject to US income tax on distributions and may face additional tax and interest charges under the “throwback rules” applicable to certain distributions of accumulated income. Extensive information reporting requirements may apply to both US fiduciaries and beneficiaries of a foreign trust, and penalties for non-compliance can be substantial. Planning opportunities generally focus on careful trust structuring, selection of fiduciaries, management of trustee powers, distribution planning, and co-ordination of US and foreign tax rules to avoid unintended trust residency changes, double taxation, or adverse tax treatment of beneficiaries. 3.4 Tax Consequences of Fiduciary and Beneficiary Roles US citizens and residents who serve as fiduciaries or beneficiaries of foreign trusts, foundations or similar entities may face significant federal tax and reporting consequences. These rules are complex and often require co-ordinated legal and tax advice. Under US tax law, citizens and residents are taxed on their worldwide income. Any distributions received from a foreign non-grantor trust are generally subject to US income tax. If the trust has accumulated income from prior years, the beneficiary may be subject to the throwback tax regime, which imposes punitive interest charges and compressed tax brackets on the distrib - uted income.
A US person acting as a fiduciary of a foreign trust may trigger additional reporting obligations. Failure to comply with these requirements might result in sub - stantial penalties, even if no tax is due. If the grantor or a beneficiary serves as a fiduciary, the trust may be classified as a grantor trust for US tax purposes. This structure allows the trust assets to grow without reduction from income taxes, effectively enhancing the value transferred to beneficiaries. Planning opportunities include: • structuring foreign trusts to avoid the throwback tax by ensuring current distributions of income; • using domestic trusts where appropriate to simplify compliance and improve tax efficiency; and • co-ordinating with foreign counsel to align trust terms with US tax rules and reporting obligations. One of the most effective asset protection strategies is the use of irrevocable trusts. Under the laws of some states, a settlor may be able to create a trust for the settlor’s own benefit that shields the trust estate from the settlor’s creditors. Irrevocable trusts created by a third party, particularly if trust distribution are wholly discretionary, generally cannot be reached by the creditors of a beneficiary. When properly designed and administered, these trusts may provide a flexible framework for the long-term management and pres - ervation of family wealth across generations, and may be structured to remove assets from a client’s taxable estate. Spendthrift Trusts Some irrevocable US trusts include spendthrift pro - visions that prohibit the beneficiaries from selling or otherwise transferring a beneficial interest in a trust. Spendthrift language aims to secure the trust assets and prevents creditors from attaching the trust assets to satisfy a beneficiary’s personal obligations. To be effective, a spendthrift clause should prohibit both voluntary and involuntary transfers. 4. Family Business Planning 4.1 Asset Protection Irrevocable Trusts
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