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Lev
Lev, Tax Advisor
Category: Tax
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Experience:  Taxes, Immigration, Labor Relations
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Trust Income that is distributed to its beneficiaries is reported

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Trust Income that is distributed to its beneficiaries is reported as taxable income by the beneficiaries. Does the nature of the income hold its character when reported on the beneficiaries tax return? As examples, interest income generated within the trust is reported as interest income by the beneficiaries on their tax return dividend income , dividend income reported as dividend income, capital gains income reported as capital gains , passive income reported as passive income (on schedule E) and tax free income ( from muni bonds) is noted on the return but not taxable. Is this a correct assumption? Assuming that it is, could capital gains income received from the trust by the beneficiaries be offset from tax due to capital losses that the beneficiaries have but not related to the trust ?

Lev :

Hi and welcome to our site!
Yes - the type of income/loss items are passed to beneficiaries and reported to beneficiaries tax returns accordingly..
first of all different income items are reported in different boxed on K1 - http://www.irs.gov/pub/irs-pdf/f1041sk1.pdf
For instance - Interest income is reported in box 1, dividends are reported in boxes 2a and 2b, etc.
If we take a look at the second page of K1 - it explains how different items from K1 are transferred to the beneficiary;'s individual tax return.
For instance
1. Interest income -> Form 1040, line 8a
2a. Ordinary dividends -> Form 1040, line 9a
2b. Qualified dividends -> Form 1040, line 9b

Lev :

14. Other information A Tax-exempt interest -> Form 1040, line 8b
etc.
Your assumption is also correct - if the beneficiary has capital gains passed from the trust on K1 - that income may be fully offset by capital losses that the beneficiary has on his/her own.
Similarly - passive rental income passed from the trust on K1 may be offset by other passive losses realized by the beneficiary.

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