What Is A Grantor Trust? Taxes From A to Z®

A grantor trust is a trust in which, for federal income tax purposes, the person who created or funded it—called the grantor—is treated as owning some or all of the trust’s assets. As a result, the trust’s income, deductions, and credits are generally reported on the grantor’s individual income tax return rather than taxed separately to the trust.

Revocable Trusts

Many revocable living trusts are grantor trusts because the creator retains significant control over the assets, including the ability to revoke the trust. But a trust doesn’t have to be revocable to be treated as a grantor trust. Under the grantor trust rules in sections 671 through 679 of the tax code, certain powers or interests retained by the grantor can cause some or all of the trust to be treated as owned by the grantor for income tax purposes.

Sometimes that’s exactly the result the grantor wants. Trusts reach the highest federal income tax rate at much lower levels of income than individuals, so having income taxed to the grantor can produce a better income tax result.

Grantor trust status doesn’t necessarily last forever. A revocable grantor trust will typically stop being a grantor trust when the grantor dies. At that point, the trust may become a separate taxpayer and need its own taxpayer identification number and income tax return.

Irrevocable Trusts

In estate planning, an irrevocable trust may also be deliberately structured as a grantor trust. The assets can be outside the grantor’s taxable estate for federal estate tax purposes, while the grantor continues to pay the income tax. Because those taxes are paid with assets outside the trust, the trust assets can continue to grow while the grantor’s taxable estate is reduced.