Coming to America: Funding a U.S. Trust
Lost in much of the rhetoric on immigration is the fact that thousands of high net worth families send authorized family members to the United States each year, to further education, join or start a business, or simply reunite with their families.
While aspects of moving to the United States may soon become more challenging, proper trust and tax planning can go a long way in easing their path to U.S. residency.
U.S. residents, like U.S. citizens living around the globe, are taxed on their worldwide income. These individuals are also entitled to an indexed exemption from estate and gift tax of $5,490,000 (up from $5,450,000 in 2016). In contrast, a non-domiciled U.S. resident (someone who lives in the United States without the intention to remain) has an estate tax exemption of just $60,000. Even non-resident aliens may find their estates subject to U.S. estate tax if they own tangible property located in the U.S. at the time of their death. Also, on-resident alien parent or grandparent who wishes to make gifts to family members in the United States can create tax issues for the U.S. beneficiaries.
A Delaware Dynasty Trust is an attractive solution for multinational families, as a non-resident alien grantor can create and fund a perpetual trust for the benefit of current and future generations of U.S. resident family members, while mitigating or even avoiding associated tax issues. These trusts can be drafted to be exempt from estate, gift and generation-skipping taxes while incorporating advisor provisions, providing flexibility to accommodate the changing needs of the beneficiaries. There is no Delaware income tax imposed, unless the beneficiaries actually reside in Delaware.
There are essentially three trust options for non-resident alien grantors interested in establishing a Delaware Dynasty Trust: a U.S. non-grantor trust, a foreign grantor trust, and a foreign non-grantor trust. Deciding among them will depend on each family’s specific circumstances and goals.
A U.S. non-grantor trust suits families who would not mind giving up all rights, title and interest in the trust principal. For example, a British subject with two children settled in the New York area can transfer $5 million to a U.S. non-grantor trust, and the trust can grow estate, gift and GST tax-free in perpetuity and provide for generations of U.S. domiciled family members. A domestic non-grantor trust is treated as a separate entity, and the trust will be subject to U.S. income tax on its worldwide income and capital gains, subject to a deduction for distributions of the trust’s distributable net income to its beneficiaries.
A foreign grantor trust is a foreign trust for tax purposes using domestic law, such as Delaware law. This type of trust is not treated as a separate entity. Instead, all of the income and deductions are attributable to the grantor, who is usually not subject to U.S. taxation. There are two ways to create a foreign grantor trust: a revocable trust, and a non-revocable trust where only the grantor and the grantor’s spouse are beneficiaries during the grantor’s lifetime. Once the grantor dies, the trust converts to a non-grantor trust and becomes a separate taxpayer for U.S. income tax purposes. Non-resident alien grantors may make gifts of intangible property (bank deposits and treasury bills) as well as gifts of stock of U.S. corporations to a Delaware Dynasty Trust, as such assets are not taxable for U.S. asset gift tax purposes. However, he or she will be subject to U.S. gift tax on transfers of U.S.-sitused property, such as real estate in the United States or tangibles located in the United States.
A foreign non-grantor trust best suits families who hold foreign assets, but who want to transfer wealth to U.S. beneficiaries. Foreign grantor trusts and foreign non-grantor trusts are only subject to U.S. income tax on certain types of U.S. source income. The biggest concern with foreign non-grantor trusts is the treatment of income that has been accumulated in the trust and then distributed to a U.S. beneficiary in a later year. Unlike domestic trusts, foreign trusts that pay out accumulated income distributions cause the U.S. beneficiaries to face negative tax implications, including interest due on the tax liability from the time the income would have been distributed.
There are a number of important features in these trusts. The grantor can name a trust protector, an investment advisor, and a distribution advisor to manage the various functions of the trust. (For practical purposes, a U.S. citizen or resident acting as an investment advisor will qualify the trust as a domestic trust.) A properly drafted trust in a flexible jurisdiction like Delaware, with qualified trustees and competent trust protectors, investment advisors, and distribution advisors, can easily react to a changing environment under the new presidential administration and possible changing tax regimes. It’s also important to note that trust modifications, including decantings, mergers and non-judicial settlement agreements, are available under the Delaware law. Delaware offers a number of attractive solutions to multinational families and to those who are moving here. (We will address planning for prospective high net worth immigrants to the United States in the next edition of Independent Thinking.) Families who are interested in creating a Delaware trust for the purpose of transferring wealth to family members in the United States should contact their Wealth Advisor and their attorney.
Darlene Marchesani is the Chief Trust Officer of Evercore Trust Company of Delaware. She can be contacted at firstname.lastname@example.org.