International Dynasty Trust Planning Tool: Tax Counsel
International Dynasty Trust Planning Tool: Oftentimes, when a US Person is high-net-worth — they will have assets located both within the United States, as well as across the globe. And, in trying to plan for future generations — they may want to consider a Dynasty Trust, especially in California (note: if you are considering a dynasty trust you should work with a California Board-Certified Estate Planning Attorney). The goal of this article is to introduce you to some of the pitfalls when determining whether or not a Dynasty Trust will work well for your international assets. The presumption is that these assets are owned individually and not by a foreign corporation — because if they are held by a foreign corporation, the complexities compound and there could be a host more of other issues as well involving the transfer of foreign business assets into a US trust.
What is a Dynasty Trust?
While there are different variations and flavors to a dynasty trust — the baseline concept is relatively straightforward. A Taxpayer contributes assets to the dynasty trust (now) in order to cut off a state tax for future generations (late). The estate taxes are paid when the asset is contributed — and despite any workarounds or maneuvering that may come into play when drafting the Dynasty Trust, the Dynasty Trust is an irrevocable trust. One other very common misconception to keep in mind is that the dynasty trust does not prevent income tax — but that is incorrect and the income generated by assets within the dynasty trust are still taxable (although maneuvering /planning may help determine who is subject to paying the income tax). Therefore, assets that are placed into a Dynasty Trust are still subject to income tax – which is not the same as the estate tax.
Can International Assets be Placed into a Dynasty Trust?
Technically, there is no rule that specifically provides that a Dynasty Trust has to use Domestic Assets to fund the trust. But, there are a few important tips to keep in mind when transferring foreign assets to a Dynasty Trust —
Form 3520 & Dynasty Trusts
Form 3520 is used for many different reasons, but one of the primary reasons is when a foreign person gifts assets to a US person. There are different threshold requirements for reporting, depending on whether the gift is received from a foreign individual, entity or trust distribution. Technically, a domestic trust is considered a US person — and therefore, depending on how the gift is made from the foreign person to either the US individual (who then contributes the asset to the dynasty trust) — or directly to the dynasty trust — may impact certain reporting requirements (there are certain exceptions, exclusions, and limitations for reporting Form 3520).
Dynasty Trust & 3520-A
Another key issue is whether the trust is considered a US Trust or Foreign Trust based on who is considered the trustee or owner — and what type of assets are being contributed to the trust. In general, once a US person has ownership of a foreign trust, they have an annual reporting requirement on form 3520/3520-A. The reporting requirements can be somewhat onerous depending on whether the assets within the trust are generating income — or whether they are just growing in value.
Income Generating Assets
One more very important issue in determining which assets to place into a Dynasty Trust involves the disparity between US and foreign income tax law. In many countries, certain types of passive income escape taxation in that country. If a foreign nonresident alien gives property to a US Dynasty Trust, the problem can become that now the dynasty trust has income tax consequences — but no foreign tax credits available because no taxes are being paid in the foreign country.
If the Trust is considered a US Person with foreign assets, then the international information reporting requirements may kick in, including FBAR (FinCEN Form 114) and FATCA (Form 8938).
These are all key points to consider before contributing foreign property to a Dynasty Trust.