If you've just inherited assets from a trust, then you might be wondering whether or not you have to pay taxes on the inheritance. Although heirs and beneficiaries generally don't have to pay inheritance taxes -- the estate or trust is responsible for them -- whether or not you pay a tax depends on what type of assets you inherited and where you live. Illinois doesn't tax employer-sponsored retirement income.
1. Evaluate your inheritance. The big advantage to using a trust is that its assets avoid the expense and hassles of the probate legal process, but the assets don't necessarily avoid taxes. According to the Illinois Department of Revenue, trust beneficiaries must report income earned from a trust on their personal income tax returns. In 2011, trusts pay an Illinois tax rate of 5 percent.
2. Report the trust income on your income tax return. According to Illinois, to calculate the tax, multiply the trust's income by the flat tax rate. The trust must also file its own return. Make sure you understand which assets are part of the trust and which aren't, because it can affect how much you owe. For example, if the deceased left life insurance and retirement account proceeds to a trust instead of directly to you, it can affect how much you owe.
3. Talk to the trustee and a tax adviser for additional information. The trustee is the person who handles the trust's assets and distribution, and files the trust's tax return. In Illinois, estates valued at more than $2 million dollars pay estate tax, and all trusts pay replacement tax. It's possible that the trustee paid your taxes already.
- Speak to a tax adviser. Certain types of trusts, such as an AB trust, may avoid tax altogether. There are special rules that apply to spouses, too. But generally speaking, the idea that trusts avoid taxes is a myth; taxation depends upon the type of asset you inherited as well as where you live.
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