Special Needs Trust, Trustee Fees where to record on Beneficiary's 1040

[Jesse57]

Client is a young child with a Special Needs Trust.  Unearned income exceeds limit so he files a separate return.  Trustee Fees are significant, > $22,000.  I know we can't deduct the Investment Advisor fees, but where would the Trustee Fees be recorded?  (Schedule A: Miscellaneous expenses?)

[sjrcpa]

Presumably paid by the Trust. Deducted on the Trust's 1041.

[Jesse57]

Thanks for taking the time to reply.  This Trust is a Simple Grantor Trust in which the Grantor self-funded the Trust and is also the Beneficiary.  All items of income and expense flow through to the Beneficary's 1040.  He receives a combined 1099 like we would from our broker.  I am fairly certain the Trustee fee goes on Schedule A in the Miscellaneous Deductions not subject to the 2% Floor, Would just feel better if a peer would confirm.  I like your comment, "The more I know the more I don't know" 🙂

[BobKamman]

I think it would go on the 1041 as a miscellaneous deduction not subject to the 2% floor, but you have to wait until next year if you want to claim it on Schedule A (and probably not then, either, because corporations have special needs too). 

I haven't seen any special needs trusts that are not irrevocable, but I suppose it can happen.  

[sjrcpa]

Not deductible on a 1040.

[Jesse57]

This SNT is a Grantor Trust, confirmed by two separate Trustees, the income is reported on a composite 1099 then I have all the payments from the Trust to consider, some of which are deductible on the Grantor's 1040 and some not.  Thanks for your reply.

[BobKamman]

Is each trustee relying on what the other one said?  I wouldn't get involved without actually reading the trust document.  

Maybe it's just a plain vanilla trust with a beneficiary who happens to be a child with special needs.  Similar to a "grumpy old man trust."  

[Jesse57]

As I think about what I've read here and some other research, 

1.  The Trust is a disregarded entity for tax purposes

2.  The income and expense flow through to the Grantor and are to be reported on his personal 1040

3.  The trustee fees of a Grantor trust would be reported in the deductions subject to the 2% floor (similar to investment advisory fees)

4.  The deductions subject to the 2% floor are not currently allowed until 2026.

So I think my answer is while it would be included in the Deductions Subject to the 2% Floor, this will not be deductible until TY26, no deduction for this year (or next)

[sjrcpa]

So client is a young child who set up their own special needs trust which is a Grantor Trust?

Does a young child have the legal capacity to do that?

This is not making sense to me, but what do I know?

[Jesse57]

The child received the funds as settlement of a medical malpractice claim.  Settlement was in favor of the child.  Parents represented him as Guardians and the Trust arrangement was approved by the Judge in the case.

[BobKamman]

And the judge approved a trust that could be revoked by the parents, as guardians? Or amended without going back to court? Unlikely.  I do several returns for such trusts -- the children have become adults, but they are permanently disabled -- and they are irrevocable and filing a 1041.  

[sjrcpa]

Me too.

Have you actually read the Trust Agreement? Echoing Bob.

[BobKamman]

Or is there even a trust document?  Some states have different ways for a court to approve the same thing.  This might be a "constructive trust," based just on a court order.  But then I don't think the term "Special Needs" would be used.  

$22,000 is a lot of trustee fees to throw away as a deduction, unless you are sure of your reasons. And have adequate malpractice insurance, in case you're wrong.  

Also, the investment advisory fees, or a part of them, may be deductible on a 1041. "Fees for investment advice, including any related services that would be provided to any individual investor as part of an investment advisory fee, are incurred commonly or customarily by a hypothetical individual investor and are not deductible. However, certain incremental costs of investment advice beyond the amount that would normally be charged to an individual investor are deductible. An incremental cost is a special, additional charge that is added solely because the investment advice is rendered to a trust or estate rather than to an individual, including balancing beyond the usual varying interests of current beneficiaries and remaindermen. The deductible portion of the investment advisory fees is limited to the amount of those fees, if any, that exceeds the fees normally charged to an individual investor. See Regulations section 1.67-4(b)(4)."

[sjrcpa]

@BobKamman Ever seen any such fees?

I haven't.

[BobKamman]

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@sjrcpa wrote:

@BobKamman Ever seen any such fees?

I haven't.

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Not unusual if the trustees are doing a lot more than just paperwork.  Often in such cases they are supervising the guardians and dealing with medical professionals, caregivers and of course lawyers for both the beneficiary and the guardians.  

[cfbcpa · Accepted solution]

This would be a self settled SNT and is considered a grantor trust - so the 1041 is not like a normal trust where you can deduct trustee fees, admin exps, etc - the return usually completes a grantor statement and is attached to the 1041 allocating the income and expenses out by category.  It does not net teh expenses with the income either- all income is reported as gross-But unfortunately, the trustee fees would then be on the personal tax return as a miscellaneous itemized deduction but not since 2016- those expenses have been eliminated, for now.

This is one draw back of self settled SNTS.

[sjrcpa]

Trustee fees, yes, are fully deductible on the 10141. But you were referencing Investment fees.

[Jesse57]

Fees can vary with the size and complexity of the Trust.

I have reread the Trust Document (good suggestion) and am reminded that the IRC does not have to mirror civil trust guidelines and does not have to accept language in a contract (such as a trust agreement).  It is "Facts and Circumstances". The Trust Document acknowledges in writing that regardless of the relationships and responsibilities intended by the Trust Document, the Internal Revenue Service will consider this a "Grantor Trust" for tax purposes and all income and expenses of this Trust will flow through to the Grantor (the child) and he will be responsible for the Federal and State tax filings.  

I am thinking the key to this is how the Guardians, on behalf of the Grantor/Beneficiary, are responsible for the use of the distributions.  It is the Guardians, not the Trustee, that are making the healthcare and maintenance decisions for their child.  

I believe all parties, the Guardians, the Trustee, the attorneys and the judge, acknowledged for tax purposes the IRS would classify this a Grantor Trust.  For IRC purposes the Trust is a disregarded entity. The administrative expenses would then go to the appropriate section of Schedule A.

[BobKamman]

From one discussion of such trusts:

"Is it possible that [a lawsuit-funded Special Needs] trust is not a grantor trust? Yes, barely. The key shorthand way to double-check: look for a provision that says the beneficiary's Medicaid expenses must be repaid with trust assets upon her death. If that language is in there, either the trust is a grantor trust or someone has created a really peculiar instrument. If that language is not in there, there’s actually a chance the trust is not a grantor trust — before going further with this analysis, go ask a qualified attorney or CPA whether the trust is a grantor trust."

https://elder-law.com/income-taxation-of-the-self-settled-special-needs-trust/ 

[Jesse57]

Thank you for the term "self-settled SNT".  

[Jesse57]

The Trust language is very specific about repayment of Medicaide and further the ongoing qualification for any federal, state and local benefits programs, supplemental SSI, Medicaide, etc.