Administering a trust is often a difficult and complex job. How a trustee invests and disburses trust assets can have important tax implications. That is why it is critical to work with an estate and probate lawyer when drafting a trust agreement, and with other professionals, including accountants and tax attorneys, when administering a trust.
In today’s post we will take a brief look at the issue of accumulating trust income. Because state laws governing trusts vary and this is a complex issue, please consult an experienced estate and probate lawyer near you for more information.
Income Accumulation, Trusts, and Trustee Discretion
One major advantage of creating a trust is that it can be tailored to the individual needs of the grantor (or “settlor”). This is one of the features that makes trusts extremely flexible estate planning tools.
It also means that every trust, despite having some general common clauses or provisions, is unique.
The primary authority that determines how the trust will be administered is the trust document. The trust document gives the trustee specific powers and details how the trustee is to manage the trust.
A trust that allows accumulation of income allows the trustee to gather (i.e., accumulate) the income generated by the trust (such as rents, dividends, interest, etc.). When income is accumulated, it is added to the principal (or “corpus”) of the trust.
Some trust documents specify what must happen to the income —whether it can be accumulated until a specific time identified in the trust document, or whether it must be distributed.
Other trust documents give the trustee discretion to decide whether to accumulate the income or disburse it. Such disbursements are referred to as “discretionary income distributions.”
Types of Trusts and Their Effect on Accumulation
Not all trusts are treated the same way for tax purposes. A few key distinctions include:
- Grantor vs. Non-Grantor Trusts: In a grantor trust, the income is taxed directly to the grantor, not the trust. Non-grantor trusts are separate tax entities and pay their own taxes unless income is distributed. (Accounting Insights)
- Simple vs. Complex Trusts: A simple trust must distribute all income each year, so accumulation is not an option. A complex trust allows the trustee to decide whether to accumulate or distribute income. (Investopedia)
Understanding which type of trust you are dealing with is critical before deciding whether to accumulate income.
Trusts and Taxes
Trust management has tax implications that must be considered.
Generally speaking, if a trust allows for the accumulation of income and it is not distributed, the trust pays tax on the income.
On the other hand, if a trust allows for distribution of income and the trust distributes to the beneficiaries, then the trust can deduct the amount of the distribution, and the beneficiaries must include it as income on their personal tax returns (IRS Instructions for Form 1041).
The question of whether a trustee given discretion to distribute should accumulate income is an important one because trusts hit the highest tax bracket — 37% — when net income reaches only about $15,650 in 2025 (IRS Tax Brackets; Arden Trust).
By contrast, individuals reach the 37% bracket at much higher levels: $609,350 for single filers and $731,200 for married filing jointly in 2025 (IRS Tax Brackets).
This shows how compressed the tax brackets are for trusts.
Chart: Trusts hit the top tax bracket at about $15,650, while individuals don’t reach the same 37% rate until over $600,000 in income (IRS, 2025).
Distributable Net Income (DNI)
A concept called Distributable Net Income (DNI) also plays a role. DNI limits how much of a trust’s income can be passed out to beneficiaries for tax purposes. If income is distributed up to the DNI amount, the trust deducts that amount and shifts the tax burden to the beneficiaries, who may be in lower tax brackets (IRS Instructions for Form 1041; Arden Trust).
Example: Tax Cost of Accumulation vs. Distribution
Suppose a trust earns $20,000 in interest.
- If the trustee accumulates the income, almost all of it will be taxed at the 37% trust rate, resulting in roughly $7,400 in tax.
- If instead the trustee distributes the $20,000 to a beneficiary in the 22% tax bracket, the tax owed would be about $4,400.
This simple example shows why accumulation can be expensive unless there are compelling non-tax reasons to retain the income.
When Accumulation Might Make Sense
Despite the higher tax rates, there are situations where it makes sense to accumulate trust income:
- Protecting a beneficiary with substance abuse or gambling problems.
- Shielding assets from a beneficiary’s creditors.
- Supporting a minor beneficiary until they reach adulthood.
- Preserving government benefit eligibility for a beneficiary with special needs.
Delaying distributions to align with a beneficiary’s future expenses (education, medical care, etc.).
Alternatives to Accumulation
Trustees often have options other than full accumulation:
- Partial distributions to balance tax efficiency and beneficiary needs.
- Conduit provisions, where income from retirement accounts is passed directly to beneficiaries.
- Hybrid approaches, giving trustees discretion to distribute some income and accumulate the rest.
Pros and Cons of Accumulating Trust Income
| Accumulating Income | Distributing Income |
| Protects assets from creditors or spendthrift behavior | Shifts tax to beneficiaries, often in lower brackets |
| Can preserve government benefits | Provides beneficiaries with immediate financial support |
| Builds trust principal for future growth | Reduces exposure to high trust income tax rates |
| Useful for minors or special needs planning | May expose assets to creditors or mismanagement |
State Law Considerations
In addition to federal tax rules, many states impose their own income tax on trusts. Whether accumulation is favorable may depend on the trust’s situs (legal location), the trustee’s residence, or the beneficiaries’ residence. This makes it important to review state laws before making decisions (LegalZoom; IRS State Guidance).
FAQs About Accumulating Trust Income
- What is trust income accumulation?
It is when a trustee retains income within the trust instead of distributing it to beneficiaries. - When does a trust reach the top federal tax bracket?
In 2025, trusts reach 37% once taxable income exceeds about $15,650. - What is the difference between a simple trust and a complex trust?
A simple trust must distribute income each year. A complex trust allows accumulation. - How does Distributable Net Income affect distributions?
DNI limits how much income can be deducted by the trust and taxed to beneficiaries. - Can a beneficiary be taxed on income not distributed?
Generally no, beneficiaries are only taxed on amounts actually distributed or deemed distributed. - Do state taxes apply to accumulated trust income?
Yes, many states impose their own trust income tax rules. - When might it be wise to accumulate trust income?
For minors, special needs beneficiaries, or when protecting assets from creditors. - Are there alternatives to full accumulation?
Yes, trustees may make partial distributions or structure conduit trusts. - Does a grantor trust pay its own taxes?
No, income is reported on the grantor’s personal tax return. - Should a trustee decide alone whether to accumulate income?
No, trustees should consult estate planning attorneys and tax advisors before making decisions.
Protecting Your Family is Just a Phone Call Away.
Don’t leave planning for your future and that of your loved ones to chance. All it takes is one phone call to SJF Law Group to ensure that your wishes will be followed, and your loved ones taken care of when you are gone.
We guide individuals through the complex probate process and handle all aspects of the creation, administration, and settlement of trusts. When you work with the estate planning attorneys at SJF Law Group you get more than just an estate plan: you get peace of mind.
Call us at 954-580-3690 or email us at info@estateandprobatelawyer.com today.