ExpertHard1 markMultiple Choice
CPA · Question 21 · Area II: Entity Tax Compliance
A complex trust has Distributable Net Income (DNI) of $40,000 (all taxable). The trust instrument requires a distribution of $10,000 to Beneficiary A. The trustee also uses discretion to distribute $40,000 to Beneficiary B. Total distributions = $50,000. How much income must Beneficiary A and Beneficiary B report?
A complex trust has Distributable Net Income (DNI) of $40,000 (all taxable). The trust instrument requires a distribution of $10,000 to Beneficiary A. The trustee also uses discretion to distribute $40,000 to Beneficiary B. Total distributions = $50,000. How much income must Beneficiary A and Beneficiary B report?
Answer options:
A.
Beneficiary A: $10,000; Beneficiary B: $40,000
B.
Beneficiary A: $8,000; Beneficiary B: $32,000
C.
Beneficiary A: $10,000; Beneficiary B: $30,000
D.
Beneficiary A: $25,000; Beneficiary B: $25,000
How to approach this question
Apply the Tier System. Tier 1 (Required distributions) soaks up DNI first. Tier 2 (Discretionary) gets whatever DNI is left. Distributions in excess of DNI are tax-free corpus.
Full Answer
C.Beneficiary A: $10,000; Beneficiary B: $30,000✓ Correct
Beneficiary A: $10,000; Beneficiary B: $30,000
Under IRC §662(a), income is allocated first to 'Tier 1' beneficiaries (required to be distributed) to the extent of DNI. A gets $10,000. Remaining DNI = $30,000. This is allocated to 'Tier 2' beneficiaries (discretionary). B receives $40,000 but is taxable only up to the remaining DNI of $30,000.
Common mistakes
Allocating DNI strictly pro-rata based on distribution amount, ignoring the Tier 1 priority.
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