Non-Grantor Trusts and the OBBB Act: Tax Planning Guide

For high-income families and business owners, advanced trust planning has become one of the most effective ways to manage income tax exposure, protect wealth, and preserve family assets. The passage of the One Big Beautiful Bill (OBBB) reshaped this landscape by making permanent several key provisions, most notably the $13.99 million lifetime estate and gift tax exemption, the expanded Section 199A qualified business income deduction, and the revised rules around state and local taxes (SALT).

Together, these changes made the non-grantor trust one of the most versatile tools in modern tax and estate planning. Unlike a traditional revocable living trust, which focuses primarily on probate avoidance, a non-grantor trust is a separate tax entity that can generate meaningful income tax savings while still supporting long-term asset protection and estate transfer goals.

In this article, our estate planning attorney explains what a non-grantor trust is, how it differs from a grantor trust, and the five key ways these structures can be used after the OBBB Act to reduce state income tax, multiply deductions, and improve overall tax efficiency.

What Is a Non-Grantor Trust?

A non-grantor trust is a trust that is treated as an independent taxpayer under the Internal Revenue Code. For federal income tax purposes, it has its own tax identification number and files its own income tax return (Form 1041). That means the trust—not the person who created it—reports and pays income taxes on any trust income that remains undistributed at year-end.

By contrast, a grantor trust reports all of its taxable income directly on the grantor’s personal income tax return using the grantor’s Social Security number. The grantor retains certain powers or control over trust assets, which is why the IRS disregards the trust for income tax purposes. While this structure can simplify administration, it offers little flexibility for shifting income or taking advantage of lower tax brackets.

Who Pays Taxes on a Non-Grantor Trust?

A non-grantor trust pays tax on its own undistributed taxable income, while trust beneficiaries pay tax on any income the trust distributes to them. Because each trust is a separate tax entity, the IRS allows it to take a distribution deduction for amounts paid or credited to beneficiaries, shifting the tax burden to the recipient’s individual tax bracket. This creates strategic opportunities for families to manage overall income taxes across generations.

Can an Irrevocable Trust Be a Non-Grantor Trust?

Yes. Most non-grantor trusts are established as irrevocable trusts, meaning the grantor gives up direct control of the assets once they are transferred. Irrevocable structures prevent the trust from being taxed as a disregarded entity and help remove trust property from the grantor’s taxable estate. They also serve important purposes in asset protection and estate tax planning.

How Much Tax Does a Trust Pay?

Trusts reach the top federal income tax bracket (37 percent) at just over $15,650 of retained income for 2025. Because of this, most effective trust tax planning involves distributing income to beneficiaries in lower brackets or situsing the trust in a no-tax state such as Nevada or South Dakota. Proper planning can also minimize state income taxes and the 3.8 percent net investment income tax that often applies to high-earning taxpayers.

Is There Any Tax on Money Inherited From a Trust?

Generally, money inherited from a trust is not taxable to the beneficiary for income tax purposes. However, if the distribution includes undistributed net investment income, interest, or dividends that were deductible by the trust, that portion may be reported to the beneficiary on a Schedule K-1 and subject to individual income taxes. In most cases, the overall goal is to distribute income efficiently to minimize total taxable income for both the trust and its beneficiaries.

How Non-Grantor Trusts Create Income Tax Savings

The primary advantage of a non-grantor trust is that it operates as its own taxpayer. Because it files a separate Form 1041 income tax return, a non-grantor trust can control where its trust income is recognized and who ultimately pays the income taxes. This flexibility opens several strategies for reducing both federal and state income taxes while maintaining alignment with long-term estate planning goals.

Separate Taxpayer Status

For federal income tax purposes, a non-grantor trust is a separate tax entity, meaning it can have its own taxable income, deductions, and tax identification number. It pays tax on undistributed trust income, while any income distributed to trust beneficiaries is deductible by the trust and reported to each beneficiary on a Schedule K-1. Because trusts reach the top 37 percent bracket at just $15,650 of retained income in 2025, shifting income through distributions is often the first step toward achieving income tax savings.

This separation also enables what practitioners call income shifting, or allocating income among multiple taxpayers (the trust and its beneficiaries) to take advantage of lower tax brackets. A family that uses several properly drafted non-grantor trusts can effectively reduce total taxable income by spreading investment earnings across entities, each with its own bracket structure.

educing or Eliminating State Income Taxes

Another major benefit of non-grantor trust planning is the ability to situs a trust in a no-tax state, such as Nevada, South Dakota, or Delaware. If the trust’s trustee and administration occur outside the grantor’s home state, many jurisdictions will not impose state income tax on the trust income.

For example, a California resident might establish a Nevada non-grantor trust to hold investment assets. If properly administered, the trust, not the individual, pays no state income tax on its earnings. This can yield annual savings of more than 10 percent in high-tax states.

The OBBB Act reinforced these opportunities by confirming that non-grantor trusts remain eligible to claim their own state and local tax (SALT) deductions, separate from the individual $10,000 cap. Families using multiple trusts can therefore increase the total deductible amount while lawfully reducing exposure to state and local taxes.

Managing Net Investment Income Tax

Non-grantor trusts are also effective for reducing the 3.8 percent net investment income tax (NIIT), which applies to undistributed income exceeding $15,650 in 2025. By distributing dividends, interest, or capital gains to beneficiaries in lower-income brackets or to trusts domiciled in no-tax jurisdictions, families can minimize their total exposure to this additional tax.

Proper coordination between the trustee, tax professional, and estate planning attorney ensures that distributions are timed to maximize these benefits without compromising the trust’s asset protection or estate-transfer objectives.

At Evolution Tax & Legal, we bring tax preparation and estate planning together under one roof. Founded by a dually licensed CPA and estate planning attorney, our team is well-equipped to design, implement, and report trust strategies that deliver real tax savings. This coordinated approach saves time, reduces costs, and ensures every part of your plan works together seamlessly.

Five Ways to Use Non-Grantor Trusts for Tax Planning After the OBBB Act

The One Big Beautiful Bill (OBBB) Act gave non-grantor trusts renewed importance for families seeking smarter ways to reduce income taxes, protect assets, and preserve flexibility. Once you understand that a non-grantor trust functions as its own taxpayer, the next step is knowing how to use that structure strategically.

Here are five practical ways to apply non-grantor trust planning under the current 2025 tax law.

1. Reduce or Eliminate State Income Taxes

One of the most immediate benefits of a non-grantor trust is the ability to situs it in a no-tax state such as Nevada, South Dakota, or Delaware. When properly structured and administered, the trust, not the grantor, becomes the taxpayer for state income tax purposes. This can allow investment income and capital gains to escape taxation in high-tax states like California or New York.

For example, a California resident might transfer marketable securities into a Nevada non-grantor trust managed by a Nevada trustee. If all trust administration occurs outside California, the trust can legally avoid California state income tax on the investment income it generates. For high-income families, this can result in savings of more than ten percent annually.

2. Expand State and Local Tax (SALT) Deductions

The OBBB Act raises the state and local tax (SALT) deduction cap from $10,000 to $40,000 per taxpayer for tax years 2025-2029, subject to a phase-down for taxpayers with MAGI over $500,000. Because each non-grantor trust is treated as a separate taxpayer, each trust can claim the $40,000 deduction, which makes multi-trust planning especially powerful for residents of high-tax states.

This strategy, sometimes called SALT stacking, can significantly increase deductible payments for families with large real estate holdings or pass-through business income. By creating separate non-grantor trusts for different beneficiaries, the family may increase its total deductible state and local taxes while staying fully compliant with federal rules.

3. Increase the Section 199A Qualified Business Income Deduction

Under the OBBB Act, the Section 199A deduction remains a cornerstone of business-owner tax planning, allowing eligible taxpayers to deduct up to 20 percent of qualified business income. However, this deduction phases out once taxable income exceeds $383,900 for married filing jointly or $191,950 for single filers in 2025.

Because a non-grantor trust is a separate tax entity, establishing one or more trusts can create additional opportunities to stay below these thresholds. For example, a business owner might transfer portions of an S corporation or partnership interest into several non-grantor trusts for different family members, enabling each trust to independently claim a full 199A deduction. This can meaningfully reduce overall taxable income while preserving ownership and control within the family.

4. Multiply the Section 1202 Qualified Small Business Stock (QSBS) Exclusion

The OBBB Act expanded the QSBS exclusion under Section 1202 from $10 million to $15 million per issuer, creating an even greater incentive for founders and early investors. Because each non-grantor trust is treated as a separate taxpayer, families can establish multiple trusts to “stack” QSBS exclusions.

For instance, a founder holding qualified startup stock may gift shares to several non-grantor trusts for children or descendants. When the stock is sold after the five-year holding period, each trust can claim up to a $15 million capital-gains exclusion. With proper planning, this structure allows families to multiply the total tax-free gain recognized under the statute.

5. Shift Income to Lower Tax Brackets

Even without state tax or deduction strategies, non-grantor trusts are effective for income shifting within a family. Each trust operates in its own tax bracket, which allows income to be allocated among multiple entities or beneficiaries to reduce the overall tax burden.

For example, a family might establish two or three non-grantor trusts (each for a separate child or grandchild) so that investment income is recognized by taxpayers in lower brackets. The trust can distribute income annually to beneficiaries who report it on their individual returns, thereby minimizing the total income taxes paid at the family level. This is especially useful for passive income, dividends, and interest, which are otherwise subject to compressed trust tax rates.

These five techniques illustrate how non-grantor trusts bridge the gap between traditional estate planning and modern income tax strategy. Each method requires precise drafting, proper administration, and ongoing coordination with a qualified tax professional or estate planning attorney, but when executed correctly, they can deliver significant long-term tax savings.

The Role of Irrevocable and Complex Trusts

The strategies described above rely on irrevocable non-grantor trusts, which are treated as separate tax entities for federal income tax purposes. Understanding the differences between irrevocable, complex, and revocable trusts is essential to ensure the trust is structured correctly for both tax and estate planning goals.

Irrevocable Trusts

An irrevocable trust cannot be changed or revoked once established. When a grantor transfers assets into an irrevocable trust, the trust property is removed from the grantor’s taxable estate, which can reduce future estate taxes. Because the grantor gives up direct control, the trust is no longer taxed as part of the grantor’s personal finances. This separation allows the trust to file its own income tax return using its own tax identification number, a critical distinction for creating a non-grantor trust.

Irrevocable trusts are often used to hold investment assets, business interests, or life insurance policies that would otherwise increase estate value. They also provide strong asset protection, shielding trust assets from potential creditors or lawsuits. In many cases, these trusts are the foundation of effective tax and estate planning for high-net-worth families.

Complex Trusts

A complex trust is a type of irrevocable trust that can accumulate income, make charitable contributions, or distribute principal in addition to income. Unlike a simple trust, which must distribute all income each year, a complex trust gives the trustee discretion over how and when to make distributions. This flexibility allows families to manage trust income efficiently, distributing earnings when beneficiaries are in lower tax brackets or retaining them for future generations when it makes sense to defer income taxes.

Complex trusts are particularly valuable for long-term estate management because they can adapt to changing tax laws and family needs. They are also well-suited for multi-trust strategies that use separate entities to take advantage of multiple SALT deductions or qualified business income deductions under the OBBB Act.

Revocable Living Trusts

In contrast, a revocable living trust remains under the control of the grantor during their lifetime and is treated as a grantor trust for tax purposes. All income and deductions pass directly to the grantor’s individual return, so there are no income tax savings. Revocable trusts are used primarily for probate avoidance and basic estate administration, not for tax reduction.

When transitioning from a revocable to an irrevocable structure, timing and intent matter. A well-coordinated plan ensures assets are transferred at fair market value and that the trust agreement aligns with both state law and federal tax objectives.

How the Wealthy Use Non-Grantor Trusts to Reduce Taxes

Non-grantor trusts have long been a cornerstone of tax and estate planning for high-net-worth families. The reason is simple: when properly structured, these trusts provide flexibility that individuals cannot achieve on their own. The trust can be located in a tax-friendly jurisdiction, operate as an independent taxpayer, and coordinate income distributions to achieve the best overall tax treatment for the family.

Income Shifting and Tax Bracket Management

One of the most common approaches involves income shifting, or allocating income among several non-grantor trusts and beneficiaries to take advantage of multiple lower tax brackets. For example, rather than holding all investment income in one entity taxed at 37 percent after $15,650 of income, a family might divide its portfolio among several trusts. Each trust can recognize income up to that threshold before entering the top bracket, thereby reducing the family’s combined taxable income.

A tax professional plays a crucial role here, ensuring each trust files its own Form 1041 income tax return and maintains separate accounting. This strategy can also limit exposure to the net investment income tax, which applies once undistributed income exceeds $15,650 in 2025.

Capital Gains and QSBS Planning

For entrepreneurs and investors, non-grantor trusts are particularly useful for managing capital gains and the Qualified Small Business Stock (QSBS) exclusion. By transferring shares of qualified stock to several non-grantor trusts, each trust can potentially claim its own $15 million exclusion under the OBBB Act. When the stock is sold after the required five-year holding period, the trust beneficiaries can collectively recognize a significantly larger amount of tax-free gain.

Similarly, non-grantor trusts can be structured to hold appreciated trust assets that may later be sold or exchanged, allowing for controlled recognition of capital gains across multiple entities. Coordinating this process with a financial advisor or estate planning attorney helps ensure compliance with valuation rules and IRS reporting standards.

Maintaining Control and Access

Contrary to popular belief, using an irrevocable non-grantor trust does not necessarily mean giving up control. While the grantor retains limited powers, such as appointing or removing trustees or changing beneficiaries, these powers are carefully drafted to avoid causing the trust to be treated as a grantor trust for income tax purposes. The grantor can still influence the trust’s direction without directly owning the assets.

Many families also pair these trusts with spousal access trusts, allowing one spouse to benefit from distributions while still keeping the assets outside both spouses’ taxable estates. This structure balances asset protection and tax benefits, giving families flexibility and peace of mind.

Important Considerations and Potential Drawbacks

Non-grantor trusts can be powerful tools for reducing income taxes, limiting estate tax exposure, and protecting family wealth. But they come with real administrative and legal responsibilities. Understanding these trade-offs is critical before moving forward.

Complexity and Cost

Creating and maintaining a non-grantor trust requires careful drafting, separate accounting, and annual income tax return filings. Each trust is a separate legal and taxpaying entity, which means separate recordkeeping, valuations, and compliance with both federal and state rules. While the long-term tax benefits often outweigh the costs, these structures should only be implemented with guidance from an experienced tax professional and estate planning attorney who can ensure compliance and proper reporting.

Gift and Estate Tax Implications

When a grantor transfers property to a non-grantor trust, that transfer is typically treated as a completed gift for gift tax purposes. This means the assets are removed from the grantor’s estate, but the transaction must be reported on a federal gift tax return (Form 709). The OBBB Act made the $13.99 million lifetime exemption permanent, which allows most families to transfer significant assets without incurring immediate gift taxes.

However, once the assets are transferred, the trust beneficiaries—not the grantor— benefit from the income and appreciation. If the trust is designed to be irrevocable, the grantor’s estate no longer includes those assets at death, which can significantly reduce estate taxes but limits access and control.

Loss of Step-Up in Basis

One important consideration is that assets held in an irrevocable non-grantor trust generally do not receive a step-up in cost basis at the grantor’s death. If the trust later sells appreciated assets, capital gains tax may be due on the increase in value since the time of transfer.

Legal and Fiduciary Duties

Trustees of non-grantor trusts carry fiduciary duties to act in the best interests of the trust beneficiaries. The trustee must manage investments prudently, keep detailed records, and follow the terms of the trust agreement. Many families choose a professional fiduciary or corporate trustee to ensure consistent administration and compliance with state and federal law.

Evolution Tax & Legal: Smarter Tax and Estate Planning

A non-grantor trust can be one of the most effective tools for families looking to reduce income taxes, limit estate tax exposure, and strengthen asset protection. By treating the trust as a separate taxpayer, it becomes possible to manage where and how trust income is taxed, distribute income strategically, and protect assets for future generations.

These structures are not one-size-fits-all. They require thoughtful design, clear goals, and coordination between legal and tax advisors. When implemented properly, non-grantor trusts can create lasting tax savings and greater financial control for high-income individuals, business owners, and investors.

At Evolution Tax & Legal, we bring tax preparation and estate planning together under one roof. Our attorneys and tax professionals work side by side to design, implement, and report trust strategies that deliver real results. This coordinated approach saves time, reduces costs, and ensures every part of your plan works together seamlessly.

If you’re ready to explore how a non-grantor trust could fit into your estate and tax plan, contact our team today to schedule a consultation.

Frequently Asked Questions

How do advanced trusts like Grantor Retained Annuity Trusts (GRATs) differ from non-grantor trusts?

A Grantor Retained Annuity Trust (GRAT) is a short-term estate-tax strategy that allows the grantor to transfer appreciating assets to beneficiaries while retaining an annuity stream for a fixed period. Most GRATs are grantor trusts, meaning the grantor pays all income taxes during the annuity term. A non-grantor trust, on the other hand, is designed for long-term tax and estate planning where the trust, not the grantor, pays the tax on retained income and the assets remain outside the grantor’s taxable estate.

What is the SALT deduction limit for non-grantor trusts in 2025?

The One Big Beautiful Bill Act increased the state and local tax (SALT) deduction cap to $40,000 for non-grantor trusts, effective for 2025 and later years. Because each trust is treated as a separate taxpayer, families using multiple trusts may deduct up to $40,000 per trust, significantly expanding planning opportunities for residents of high-tax states.

What role do spousal access trusts play in non-grantor trust planning?

A spousal access trust allows one spouse to be a discretionary beneficiary of an irrevocable non-grantor trust while keeping the assets outside both spouses’ estates. This offers flexibility, providing indirect access to funds while preserving estate tax efficiency and asset protection. These trusts are especially useful for couples who want to lock in the $14 million exemption but maintain potential access to income or principal.

How are assets valued when transferred to a non-grantor trust?

When assets are transferred into a trust, they are generally valued at fair market value on the date of transfer. This establishes the trust’s basis for capital gains purposes. The transfer may be treated as a completed gift for estate tax purposes, which must be reported on a gift tax return (Form 709) if the amount exceeds the annual exclusion. Accurate valuations help prevent disputes with the IRS and ensure proper reporting by the tax professional preparing the return.

Can a trust lend money back to the grantor or beneficiaries?

A non-grantor trust may loan money to the grantor or beneficiaries, but only under clearly defined, market-based terms. The loan must charge at least the Applicable Federal Rate (AFR) to avoid being treated as a gift under the Internal Revenue Code. All loans should be documented with a written agreement, interest rate, and repayment schedule to maintain compliance and prevent unintended tax consequences.