On June 28, 2012, the New Hampshire Legislature significantly changed the tax rules for trusts as part of ongoing efforts to make New Hampshire more attractive for locating trusts. Overriding Governor Lynch’s veto, the Legislature exempted trusts from New Hampshire’s Interest and Dividends Tax (I&D Tax). The Legislature’s action also eliminates (1) the requirement that trusts file state income tax returns and (2) the taxation of interest and dividend income accumulated in a trust. The change is effective for the 2013 tax year. The change provides certain trusts with favorable tax treatment, creating planning opportunities for many New Hampshire residents and business owners.
Pursuant to RSA 77, New Hampshire currently imposes the I&D Tax at a rate of 5% on interest and dividends received by New Hampshire residents. Individuals, partnerships, limited liability companies, associations and, prior to June 28 of this year, certain trusts were subject to the tax. Grantor trusts, are not regarded as separate taxpayers from their settlor for federal purposes and are also disregarded for I&D Tax purposes. Currently, the settlor of a grantor trust must include grantor trust interest and dividend income on his or her own state tax return. Also currently, other types of trusts are required to file an I&D Tax return if they have a New Hampshire trustee and their interest and dividend income exceeds $2,400. Trusts subject to the tax may exclude income attributable to non-New Hampshire beneficiaries. Additionally, a trust with “freely transferable” beneficial interests is not subject to the tax, though distributions from such a trust to New Hampshire beneficiaries are considered income for I&D tax purposes.
Finally, under the current I&D Tax law, New Hampshire resident beneficiaries who receive a Schedule K-1 from a trust indicating an allocation of interest and dividend income must include that income on their personal I&D Tax return. If the distributing trust paid tax on the income, the beneficiary could exclude the distributed interest and dividend income in determining his or her tax.
Effect of changes in the law
Under the new law, all trusts will be completely exempt from New Hampshire’s I&D Tax. The exemption is effective for tax years ending on or after December 31, 2013. Because trusts file on a calendar year basis, the exemption will be effective beginning in tax year 2013, such that I&D tax will not apply to trust income earned after January 1, 2013. Additionally, trusts beneficiaries will be subject to I&D Tax only to the extent that income distributed to them by a trust is taxed federally as interest or dividends. Technical Information Release 2012-002, published by the Department of Revenue Administration on July 10, 2012, includes a brief discussion of the I&D Tax changes.
Because of these changes, after 2012 trusts need not file New Hampshire I&D tax returns. Trustees of trusts, and tax professionals who prepare trust returns, should therefore evaluate their 2012 estimated tax payments on trust income and make necessary adjustments to minimize the extent to which estimated tax payments will exceed actual 2012 tax liability. Trusts must still file a 2012 I&D tax return. The Department of Revenue Administration has not stated whether 2012 trust returns should be marked as final returns.
The changes to the I&D tax may provide planning opportunities for certain individuals. New Hampshire residents might consider that placing interest and dividend-producing assets in a trust for estate planning purposes may also be beneficial in managing their New Hampshire I&D Tax liability. New Hampshire resident owners of pass-through businesses such as S Corporations, partnerships and limited liability companies taxed as partnerships might consider consulting with a tax professional to determine if introducing a trust into the ownership structure could help manage their I&D tax liability. At the same time, they should be mindful of the requirement to have a business purpose other than tax avoidance to justify an ownership structural change.
Steven M. Burke is Chair of the Tax Department of McLane, Graf, Raulerson & Middleton, P.A., and can be reached at 628-1454 or [email protected]. Beth Fowler is a Senior Attorney in the group. The McLane Law Firm is the largest full-service law firm in the state of New Hampshire, with offices in Concord, Manchester and Portsmouth as well as Woburn, Massachusetts.