Maximizing Income Tax Benefits Through Trust Planning Post-OBBBA

Income tax planning has been significantly impacted by the passage of the “One Big Beautiful Bill Act (OBBBA).” While many of its changes aim to simplify tax filings and increase standard deductions, they also present unique opportunities—especially for clients with lower to moderate wealth—to optimize tax outcomes through strategic trust planning.

 Understanding the Impact of OBBBA on Tax Deductions

One of the most notable changes introduced by OBBBA is the increase in the “standard deduction” to “$31,500” for married couples filing jointly. This substantial boost means that most taxpayers will find it less advantageous to itemize deductions, as the threshold for itemized deductions now exceeds many common deductible expenses.

 Additionally, OBBBA added a “$2,000 above-the-line charitable contribution deduction” for married taxpayers filing jointly, but other charitable contributions generally no longer provide a direct tax benefit unless they are itemized. Moreover, a “2/37 reduction” in itemized deductions further limits the tax advantages of certain deductions for higher-income taxpayers.

How Trust Planning Can Help

 Despite these changes, strategic use of irrevocable non-grantor trusts can still provide meaningful income tax benefits, particularly for clients seeking greater tax efficiency. Non-Grantor Trusts are not subject to the same deduction limitations as individual taxpayers. Here's how:  

Asset Shifting for Income Offset: 

When a taxpayer transfers investment assets—such as bonds or dividend-paying stocks—into an irrevocable non-grantor trust, the trust becomes responsible for the income taxes on its earnings. This shift allows the taxpayer to benefit from the full standard deduction on their personal return, effectively reducing overall taxable income. 

Example: Shifting Investment Income to a Trust

Suppose John, a married taxpayer, holds $50,000 in dividend-paying stocks and bonds. Instead of holding these assets individually, John transfers them to an irrevocable non-grantor trust for his family. The trust generates $5,000 in annual dividend income and pays taxes on this income. Meanwhile, John benefits from the $31,500 standard deduction on his personal return, which can offset his other income. If charitable contributions are made through the trust, part of its income can be directed to charity, providing additional tax advantages. 

Enhanced Charitable Giving: 

By establishing a trust to benefit family members and charities, the taxpayer can direct the trust to pay portions of its gross income to charity. This not only benefits the charities but also shifts deductions from the taxpayer’s personal return to the trust, preserving the personal standard deduction and potentially resulting in significant tax savings. 

Example: Charitable Contributions via a Trust

Mary establishes a trust for her children and charitable beneficiaries. The trust earns $20,000 in passive income and donates $5,000 to charity. The donation reduces the trust’s taxable income, and because the trust pays the income tax, Mary retains her standard deduction on her personal return. This strategy allows her to maximize tax benefits despite the higher standard deduction. 

Navigating Phase-Outs and Income Thresholds

Many valuable tax benefits under OBBBA, such as the Qualified Business Income (QBI) deduction, are subject to income phase-outs. The QBI deduction allows for a deduction of up to 20% of qualified income from pass-through businesses but begins to phase out for "Specified Service Trades or Businesses" (SSTBs) at $150,000 of joint income (an increase from the previous $100,000 limit). 

By shifting income-producing assets into an irrevocable trust, taxpayers can potentially reduce their personal taxable income and remain eligible for these valuable deductions.  

Example: Income Reduction to Preserve Deductions

Sarah, a doctor with $160,000 in SSTB income, is approaching the QBI deduction phase-out threshold. She transfers passive investment assets to a trust, which generates $10,000 in passive income. This reduces her personal taxable income, potentially keeping it below $150,000 and preserving her full QBI deduction. 

Cost-Effective Strategies for Moderate Wealth Taxpayers

For clients with moderate wealth, establishing a "home state trust" with a family member serving as trustee can be a practical and cost-effective solution. Such trusts can: 

• Reduce taxable income through passive asset management. 
• Enable efficient charitable giving. 
• Provide estate planning benefits, such as granting general powers of appointment to family members, facilitating a basis step-up at death to minimize future capital gains taxes. 

 Example: Basis Step-Up for Modest Estates

David, whose estate is not subject to estate tax, grants his wife a general power of appointment over trust assets, with approval from an independent party. If David’s wife passes first, his assets receive a step-up in basis at her death, and her assets receive a step-up when she passes, significantly reducing potential capital gains taxes for heirs. 

Learn More

While the increased standard deduction under OBBBA has simplified many aspects of tax planning, it also underscores the importance of strategic trust planning—especially for lower- and moderate-wealth clients who are not impacted by estate taxes due to higher exemptions. By thoughtfully shifting investment assets and structuring trusts, taxpayers can unlock valuable tax benefits, mitigate phase-out effects, and enhance their overall financial strategy. 

Consult with a Strauss Attorney to explore how these strategies can be tailored to your specific situation and help you make the most of current tax laws or e-mail [email protected].