Income tax planning opportunities using non-grantor trusts have been around a long time, whether focused on state or federal income tax.[1] The One Big Beautiful Bill Act[2] (“OBBBA”) has renewed attention on non-grantor trusts as income tax planning vehicles. This is due to a number of provisions in OBBA that can benefit from including one or more non-grantor trusts in the plan.
- increased deduction for state and local taxes (“SALT”); [3]
- permenance of the 20% qualified business income (“QBI”) deduction under §199A along with expanded the income range over which certain QBI limitations phase in; and
- increased the potential exclusion available for qualified small business stock (“QSBS”) under §1202.
These changes matter because a properly structured non-grantor trust generally is a taxpayer separate from its grantor and beneficiaries for federal income tax purposes. Separate taxpayer status can result in planning opportunities beyond the ability to avoid state income tax on nonbusiness income (a reason many non-grantor trusts are often formed and yet another potential benefit of non-grantor trusts). A non-grantor trust may have its own taxable income, deductions, QBI computation, and its own QSBS limitation. Although these results can be amplified through the use of multiple non-grantor trusts, there are limitations. The statutory multiple trust rule,[4] the § 199A anti-abuse rule,[5] and general tax principles remain important limitations.[6]
Non-Grantor Trusts as Separate Taxpayers
A grantor trust generally is disregarded for federal income tax purposes to the extent the grantor or another person is treated as its owner.[7] The deemed owner reports the trust’s income, deductions, and credits on that person’s own return. A non-grantor trust is different. It files its own income tax return, Form 1041, and pays tax on income it retains. Income distributed to beneficiaries may instead be taxed to them under the distributable net income (“DNI”) rules.[8]
This distinction has long mattered for state income tax planning, including through incomplete gift non-grantor trusts, commonly known as “ING” trusts.[9] But once a trust is respected as a separate taxpayer, it may also have federal tax attributes distinct from those of the grantor, beneficiaries, and other trusts in the family’s estate plan.
Qualified Business Income Deduction
Section 199A allows eligible taxpayers to deduct up to 20% of QBI from certain passthrough businesses. The deduction is subject to taxable income thresholds and, above those thresholds, may be limited by W-2 wages, qualified property, or the nature of the business. Specified service trades or businesses[10] (“SSTBs”) may lose some or all of the deduction once taxable income exceeds the applicable phase-in range.
Before OBBBA, the QBI deduction was scheduled to expire after 2025. OBBBA made it permanent and expanded the phase-in range applicable to these limitations. For 2026, the threshold amount at which the relevant limitations begin to phase in is $201,750 for taxpayers other than joint filers and $403,500 for joint filers, with phase-in ranges of $75,000 and $150,000, respectively. Above the phase-in range, the wage-and-qualified-property limitation applies fully to non-SSTBs, while an SSTB generally is ineligible for the deduction.[11]
A non-grantor trust generally computes its QBI deduction at the trust level to the extent it retains QBI. If the trust distributes DNI, QBI and related items may instead be allocated between the trust and beneficiaries, with each beneficiary computing a deduction based on the allocated items and the beneficiary’s own circumstances.[12]
This creates a planning question for families holding passthrough business interests. A non-grantor trust gets its own QBI phase-in limitation, thereby having the ability to fund a non-grantor trust with interests in passthrough business to obtain an additional phase-in limit. Then, if the trust may exceed the applicable threshold on its otherwise retained QBI, interests may be divided among multiple non-grantor trusts (subject to the multiple trust rule described below) or QBI may be distributed to beneficiaries as DNI.
There is an important exception to the ability to obtain multiple QBI phase-in limits, in addition to the multiple trust rule under § 643(f) described below. The QBI regulations contain an anti-abuse rule for trusts formed or funded with a principal purpose of avoiding, or using more than one, threshold amount by not respecting a trust subject to this rule as a separate taxpayer.[13] A family therefore cannot simply divide a business interest among otherwise identical trusts and assume each trust will receive a separate threshold. The trusts should be substantively separate and should serve independent non-income tax planning purposes.
Qualified Small Business Stock
OBBBA also expanded the potential benefit for QSBS acquired after July 4, 2025. For qualifying stock acquired after that date, OBBBA permits a 50% income tax exclusion after three years, 75% after four years, and 100% after five years. OBBBA also increased the exclusion amount from $10 million to $15 million, with inflation adjustments beginning after 2026. This limits the total amount of capital gain a shareholder may exclude under QSBS, subject to reduction for stock held less than five years. The alternative limitation based on ten times the taxpayer’s adjusted basis remains available, with the greater of this limit and the $15 million limit applying on the sale of QSBS.[14]
Because the statute applies its limitation by reference to the taxpayer, and a properly structured non-grantor trust is a separate taxpayer, separate trusts holding QSBS should be capable of accessing multiple exclusions, often called “stacking.” A qualifying shareholder who transfers portions of QSBS to separate non-grantor trusts for different family members may enable each trust to calculate its own QSBS limitation with respect to its share of the gain. A transferee receiving QSBS by gift generally retains the transferor’s holding period, making early gifts a potentially useful planning tool.[15] I note that transfers of QSBS immediately preceding a sale of QSBS should be undertaken cautiously to avoid assignment of income or step transaction concerns. Completed gift transfers raise their own obligations related to valuation and gift tax reporting. Further, although no such regulations have been issued, the statue authorizes Treasury to issue regulations preventing avoidance through split-ups or similar arrangements.[16]
The Enhanced State and Local Tax Deduction
OBBBA increased the limitation on the amount of state and local taxes may be deducted for federal income tax purposes to $40,000 for 2025, with inflation adjustments through 2029. The limitation is subject to an income-based phaseout and is scheduled to return to $10,000 beginning in 2030.[17] A non-grantor trust that itemizes deductions calculates its SALT deduction separately. Thus, each separate non-grantor trust that incurs its own deductible state and local taxes should have a separate limitation.
The increased SALT deduction should be viewed as an additional benefit, rather than the foundation for a long-term trust structure, particularly one using multiple non-grantor trusts. It is temporary (dropping back to $10,000 in 2030) and is reduced for higher income trusts (and other taxpayers, phasing out at certain income levels).
Income Allocation and Distribution Planning
Non-grantor trusts reach the highest federal income tax bracket quickly. For 2026, the 37% bracket begins once a trust’s taxable income exceeds $16,000, and trusts may also become subject to the 3.8% net investment income tax (“NIIT”) at similarly low levels.[18] These compressed rates are a reason to be deliberate about whether a trust retains or distributes income. It does not necessarily make a non-grantor trust undesirable.
Under the DNI rules, a non-grantor trust generally may take an income distribution deduction for amounts distributed to beneficiaries, who include the corresponding DNI in their own income. Distributed DNI generally retains its character in the beneficiary’s hands.[19] This gives trustees flexibility to determine which taxpayer reports income in a given year. Especially for adult beneficiaries, that flexibility can be valuable. One beneficiary may already be subject to the highest marginal rate, while another has lower taxable income, unused deductions or losses, or a more favorable state tax profile. Subject to the governing instrument and fiduciary obligations, a distribution to the certain beneficiaries versus others may produce a better income tax result than retaining income in the trust or distributing it to the former.
That analysis requires an important qualification for young beneficiaries. Interest, dividends, rents, royalties, and other investment income carried out as DNI generally remain unearned income in the hands of a child beneficiary.[20] If the beneficiary is subject to the kiddie tax rules, net unearned income above the applicable threshold is taxed by reference to the parent’s marginal rates rather than the child’s rates.[21] For 2026, a dependent child’s standard deduction generally offsets at least the first $1,350 of income, although the deduction may be higher if the child has earned income. Net unearned income above $2,700 is generally subject to the parent rate calculation.[22] As a result, distributions to a child subject to the kiddie tax often will not achieve the anticipated benefit of the child’s lower tax brackets. Note, however, that distributions to the child may still create QBI and other benefits even if the rate bracket remains at the parent’s rate.
Trust Separateness and Section 643(f)
Using multiple, separate trusts to engage in the planning opportunities described above depend on trusts being respected as separate taxpayers. § 643(f) directs Treasury to aggregate trusts if they have substantially the same grantors, substantially the same primary beneficiaries, and a principal purpose of the arrangement is the avoidance of federal income tax. Spouses are treated as one person for this purpose. As referenced above, the QBI regulations separately implement an express multiple trust anti-abuse rule for QBI threshold planning.
These rules do not prohibit multiple trusts. Separate trusts may be entirely appropriate for different family members. Likewise, different trusts may be formed for asset protection, governance reasons, business planning, or other non-tax purposes. The question is whether the trusts are genuinely separate in substance, rather than simply divisions of a single arrangement created principally to multiply favorable tax results.
Section 643(f) does not set forth a test and no regulations have been issued to provide guidance. However, there are certain practical considerations that may may help demonstrate that separate trusts have distinct beneficiaries, purposes, and economic substance rather than operating as mere divisions of a single arrangement:
- Different beneficial interests;
- Distinct dispositive provisions;
- Independent, articulable non-tax purposes for each trust;
- Separate trustees;
- Separate accounts, books, records, and investment decisions;
- Funding with distinguishable assets or business interests; and
- Creation as part of broader estate or succession planning, rather than immediately before an income tax transaction.
Conclusion
OBBBA has made the separate taxpayer status of non-grantor trusts more relevant to federal income tax planning. The enhanced SALT deduction may provide a short-term benefit, but more durable considerations include the permanent QBI deduction, the expanded QSBS exclusion, and flexibility in allocating DNI among taxpayers.
None of this should be read as an invitation to create multiple identical trusts solely to multiply favorable tax attributes. Separate trusts must have real substance, independent purposes, and administration consistent with their separateness. And while trusts may create separate taxpayers and separate tax computations, distributions to minor beneficiaries may be subject to the kiddie tax.
For many families, the use of non-grantor trusts in their tax planning can save not only state income tax on nonbusiness income (by having the trust a resident of a state without state income tax[23]) but also significant federal income tax. This is especially true for those with income from a passthrough business, holding QSBS, subject to SALT cap limitations, or taxed at the top bracket while supporting family members at lower income tax brackets. It is true that non-grantor trusts experience significantly compressed income tax brackets, but these planning opportunities and proper trust administration may provide meaningful income tax benefits.
[1] IRC §§ 641–668. A trust is a non-grantor trust to the extent the grantor is not treated as the owner of any portion under IRC §§ 671–679. While highly relevant, a full discussion of grantor vs. non-grantor trust status is beyond the scope of this writing.
[2] One Big Beautiful Bill Act, Pub. L. No. 119-21.
[3] Note that this is temporary and, therefore, typically should not, standing alone, drive the creation of a long term trust structure.
[4] IRC § 643(f).
[5] Treas. Reg. § 1.199A-6(d)(3)(vii).
[6] General federal tax doctrines, including substance over form and, where applicable, the economic substance doctrine, may also limit tax benefits.
[7] IRC §§ 671–679.
[8] IRC §§ 641–668.
[9] See Parker Durham, “Incomplete Non-Grantor Trusts: A Tax Planning Tool,” Sept. 12, 2022, https://esapllc.com/ing-trusts-2022-apd/; Parker Durham, “Threading the Needle – The Utility and Structural Requirements of ING Trusts,” Oct. 25, 2023, https://esapllc.com/ing-trusts-for-salt-overview-2023/.
[10] IRC § 199A(d)(2), being health; law; accounting; actuarial science; performing arts; consulting; athletics; financial services; brokerage services; any trade or business where the principal asset of such trade or business is the reputation or skill of 1 or more of its employees or owners; any trade or business which involves the performance of services that consist of investing and investment management, trading, or dealing in securities (as defined in section 475(c)(2)), partnership interests, or commodities (as defined in section 475(e)(2)).
[11] Rev. Proc. 2025-32, § 4.26.
[12] IRC § 199A(f)(1)(B); Treas. Reg. § 1.199A-6(d)(3). I also note that, while the kiddie tax which is discussed below can affect the ability to reduce income tax brackets applicable to income distributed as DNI, it does not affect the ability to use each beneficiary’s QBI phase-in limit.
[13] Treas. Reg. § 1.199A-6(d)(3)(vii).
[14] IRC § 1202(a) and (b).
[15] IRC § 1202(h)(1), (2).
[16] IRC § 1202(k).
[17] IRC § 164(b)(6).
[18] Rev. Proc. 2025-32, § 4.01, Table 5; IRC § 1411(a)(2), (b).
[19] IRC §§ 651–663, 652(b), 662(b).
[20] IRC §§ 652(b), 662(b); IRC § 1(g).
[21] IRC § 1(g)(1), (2).
[22] IRC. § 1(g)(3), (4); I.R.C. § 63(c)(5); Rev. Proc. 2025-32. A dependent child’s standard deduction is generally the greater of $1,350 or the child’s earned income plus $450, subject to the applicable cap
[23] See Gray Edmondson, “Where Does Your Trust Reside? State Income Tax Implications,” Aug. 14, 2018, https://esapllc.com/where-does-your-trust-reside-state-income-tax-implications/.
