What Every Fiduciary Should Know About the 65-Day Rule

One of the tax planning tools available to fiduciaries of estates and non-grantor trusts is the 663(b) election, also known as the “65-day rule.” Simply put, a 663(b) election allows distributions made to beneficiaries within 65 days of year-end to be counted as prior-year distributions. This blog explains how the election can be beneficial to you and how it is made.

How can a 663(b) election be beneficial?

The tax brackets for estates and non-grantor trusts are 0%, 15%, 25%, 28%, 33% and 39.6%, similar to individuals. The major difference between estates and trusts and individuals is that estates and trusts reach the maximum tax bracket of 39.6% once their taxable income is over $12,400, compared to $466,950 for a couple married filing jointly (MFJ).

Net investment income tax may also be imposed on estates and trusts that have undistributed net investment income and adjusted gross income exceeding $12,400 vs. $250,000 for a couple MFJ. As a result of these compressed tax brackets, fiduciaries of estates and trusts may want to shift the income from the estates/trusts that are in a high tax bracket to beneficiaries in a lower tax bracket.

Fiduciaries achieve this shifting of income through the mechanism of distributions to beneficiaries. This mechanism in effect flows some or all of the trust income from the trust to the K-1s of beneficiaries who, in turn, report the income on their 1040 form.

The maximum amount of distributions covered by the election is limited to the greater of (1) fiduciary accounting income for the tax year for which the election is made, or (2) distributable net income (DNI).

Because fiduciaries have 65 days after year-end to make 663(b) election distributions, fiduciaries are afforded some flexibility as to the timing of the distributions. They are sometimes able to wait until 1099s are actually issued to determine if a distribution under IRC 663(b) is indeed beneficial.

How is the election made?  

The 663(b) election is made by checking the box on line 6 under “Other Information” at the bottom of page 2 of form 1041. The question on line 6 says “If this is an estate or complex trust making the section 663(b) election, check here.” To be valid, the election must be made by filing form 1041 by its due date, including extension. Once made, the election is irrevocable.

While a 663(b) can be a helpful trust and estate tax planning tool, fiduciaries need to keep a few things in mind when making the election:

• This election does not apply to grantor and simple trusts
• Trustees need to keep careful records as to what years the distributions apply
• Trustees also need to keep in mind the desires of the person who established the trust. Making distributions to beneficiaries just to save on taxes may conflict with the grantor’s wishes as to the timing and amount of the distributions.

If you need help determining if a 663(b) election makes sense for you, or if you have any other tax questions, give us a call today at (855) MARCUM1.