In certain instances, non-resident aliens (NRAs) may find it beneficial to have the trust drafted as an Irrevocable South Dakota Foreign Non-Grantor Trust for added asset protection purposes or other home country benefits.
The structure and benefits are similar to the South Dakota Foreign Grantor Trust. Much like the South Dakota Foreign Grantor Trust, the Irrevocable South Dakota Foreign Non-Grantor Trust is a popular trust for NRAs with foreign beneficiaries and property who are looking for political stability, protection of property, and to avoid the blacklisting issues of many of the offshore trust jurisdictions. The South Dakota Foreign Non-Grantor trust is also best for NRAs who are not anticipating current U.S. beneficiaries, as the trust is deemed far less desirable with U.S. beneficiaries due to administrative complexities, burdensome tax compliance as well potential negative tax consequences. For example, one of the major disadvantages of the Foreign Non-Grantor Trust is the treatment of undistributed net income (UNI) paid to U.S. beneficiaries. UNI paid to U.S. beneficiaries is generally subject to U.S. income tax along with having the following negative consequences:
- Capital gains realized by the trust in prior years that constituted part of the trust’s distributed net income, are treated as ordinary income and taxed at rates up to 37 percent.
- An interest charge is imposed on the tax due by the beneficiary on the UNI from the date the income was originally earned by the trust.
- The “throwback” rules apply, so income may be taxed at the beneficiary’s tax bracket for the years in which income was accumulated.
In addition, there is extensive tax reporting required of the U.S. Beneficiaries. Hence, the structure is typically reserved for foreign families.