The United States Supreme Court Rules in Favor of Trust
By John Bonk, Senior Manager, Tax & Business Services
On June 21, 2019, the United States Supreme Court ruled, in North Carolina Department of Revenue v. Kimberley Rice Kaestner 1992 Family Trust, that the presence of a beneficiary in a state did not in itself create nexus in North Carolina. The Court stated that the presence of in-state beneficiaries will not empower a state to tax trust income should the beneficiaries have no right to demand or receive income.
During 1992, a trust was created by Joseph Lee Rice III for his children, in the state of New York. The trustee was also a New York resident. One of the children, Kimberly Rice Kaestner, moved to North Carolina in 1997. The trust was later split into three separate trusts, one of which remained for the benefit of Ms. Rice Kaestner.
North Carolina assessed tax on the trust for the tax years 2005 through 2008 under its statute, which allows for taxation of any trust income that is for the benefit of a state resident. During the period, Ms. Rice Kaestner had no right to and did not receive any distributions from the trust. Nor did the trust have a physical presence, make any direct investments, or hold any real property in the state. The trust’s only ties to North Carolina were its one resident beneficiary.
The North Carolina Supreme Court had found in favor of the trust, indicating that the state had violated the Due Process Clause. The U.S. Supreme Court later agreed to hear the case to determine if states have rights to tax trusts based only on beneficiary in-state residency.
U.S. Supreme Court Ruling
The Court held that, “The presence of in-state beneficiaries alone does not empower a State to tax trust income that has not been distributed to the beneficiaries where the beneficiaries have no right to demand that income and are uncertain to receive it.”
The arguments in the case centered on the Due Process Clause. In the trust context, the Court focused on the extent to which the in-state beneficiary controls, possesses, enjoys, or receives trust assets. In this case, the beneficiary didn’t receive any income, could not demand income, and could not count on receiving any specific amount of income. This is what ultimately led to the ruling in favor of the trust.
Exactly one year after the historic Wayfair decision (Wayfair v. South Dakota), in which the Court greatly expanded the definition of activities that create tax nexus, the U.S. Supreme Court decided to rule in the opposite direction and limit the activities that can create nexus in a state. The Kaestner case will not have the wide-reaching impact that Wayfair has had, but it does illustrate that a state’s ability to assert nexus will continue to be limited by the Due Process Clause and that these limits will continue to be enforced by the Court.
If a trust is filing taxes in a state due only to the presence of a beneficiary, the taxpayer should review the facts and determine, with assistance from its tax advisors, if those filings are still required.
Please contact your Marcum State and Local Tax professional to address any questions regarding this case or any other tax matter.