June 13, 2011
Extension of Guidance on Bundled Fiduciary Fees for Trusts and Estates
On April 13, 2011, the IRS issued Notice 2011-37, which extends the interim guidance on the income tax deduction for bundled fiduciary fees. The notice states that for 2010 and 2011, trusts and estates are permitted to deduct bundled fiduciary fees without regard to the 2% floor. The extension may also apply to 2012 if final regulations are not issued in the Federal Register before January 1, 2012.
The adjusted gross income of a trust or an estate is computed in a similar manner to an individual’s adjusted gross income. Miscellaneous deductions are subject to a 2% floor under Code Sec. 67 (a) for trusts and estates, except that costs incurred only by trusts are deductible without limitation of the 2% floor. Examples of these unique costs for non-grantor trusts are judicial filings required as part of the administration of the trust, communications with beneficiaries regarding trust matters, and fiduciary bond premiums. An example of miscellaneous costs that are not unique to a trust are expenses related to the custody or management of property, such as investment advisory costs. Miscellaneous deductions for grantor trusts are subject to the 2% floor since the income and deductions for grantor trusts are reported directly on the grantor’s individual income tax return.
Historically, there has been uncertainty as to how to properly deduct “bundled fees” (one fee or commission that covers both costs that are unique to trusts and costs that are not). The IRS issued proposed regulations to create uniformity for identifying which costs are fully deductible and which costs are subject to the 2% floor. Costs paid to an investment advisor are generally subject to the 2% limitation, and the IRS did not want trustees to avoid the 2% limitation by bundling fees together. In early 2008, the Supreme Court decided in the Knight case that costs paid to an investment advisor by a non-grantor trust are generally subject to the 2% floor. The IRS expects to issue final regulations which will be consistent with the Knight case, and which will be effective for tax years that begin after the final regulations publication date. The new regulations will specifically address the correct treatment of bundled fees. In the interim, taxpayers should follow the guidance issued within Notice 2011-37, which stated that until the final regulations are issued, trusts and estates can deduct the full amount of a “bundled fiduciary fee” without regard to the 2% floor.