Generally, miscellaneous itemized deductions may be deducted to the extent they exceed 2% of adjusted gross income (AGI). Miscellaneous itemized deductions can include tax preparation fees, investment fees, estate planning legal fees, and safe deposit box charges, to name a few. The same idea applies for estates and trusts, with some exceptions. And the exceptions would not be subject to the 2% of AGI limitation.
For estates and trusts, legislation was passed in May 2014, which takes effect for trust tax years beginning January 1, 2015. This legislation states what is to be included as a deduction subject to the 2% limitation and what is not subject to the limitation. The allocation of costs of a trust or estate that are subject to the 2% floor depends on whether the costs “commonly or customarily would be incurred by a hypothetical individual holding the same property”.
Here are some examples:
- Ownership costs that apply to any owner of a property held for investment (examples include homeowner’s association fees, insurance premiums, landscaping and pool services, etc.) are subject to the 2% floor.
- Expenses that are likely fully deductible (not subject to the 2% floor) are expenses related to rents and royalties, trade or business expenses, and tax payments (including state and local, real property, and personal property taxes).
- There is a safe harbor provision for tax return preparation costs. The costs for preparing estate and GST tax returns, fiduciary income tax returns, and the decedent’s final income tax return are NOT subject to the 2% floor. (Note: Gift tax returns are not included in this exception.)
- Investment advisory fees for trusts and estates are generally subject to the 2% floor except for any incremental fees above what is normally charged to individuals.
- Bundled fees like trustee or executor commissions, attorneys’ fees, or accountants’ fees need to be allocated between deductions subject to the 2% floor and deductions not subject to the 2% floor. This is easier to do if the fees are charged on an hourly basis and description of time spent is included. There are other possible ways to allocate the bundled fees. Example:
- Using the percentage of the value of the trust corpus subject to investment advice,
- Whether a third party would have charged a similar fee, and
- The amount of the fiduciary’s attention to the trust or estate that is devoted to investment advice as compared to dealings with beneficiaries and other fiduciary functions.
As always, consult a tax adviser should you have a fiduciary return and you are unsure what would be fully deductible or deductible but subject to the 2% AGI limitation.
By Julie K. Weissmueller, CPA