How a Non-Grantor Trust Works

One of the most useful estate planning tools is a trust. They can be used to create a legacy of wealth that protects your family’s assets. One question to consider when creating one is what type of trust best suits your needs. Specifically, is a grantor or non grantor trust more appropriate? That distinction may seem simplistic but it matters from a tax perspective when shaping an estate plan.

A financial planner can help you make arrange an estate plan for your beneficiaries.

What Is a Non Grantor Trust?

To understand non grantor trusts it’s helpful to have some background on how a grantor trust works. A grantor trust allows the grantor, i.e. the person creating the trust, to maintain certain decision-making powers. For example, that might include the power to:

Revoke the trust
Substitute assets in the trust
Borrow from the trust without providing collateral or security
Distribute trust income to oneself or to a spouse
Add or remove beneficiaries from the trust

Regardless of the scope of powers involved, what’s unique about grantor trusts is their tax treatment. With this type of arrangement, the trust grantor is responsible for paying income tax on the trust assets. Any income the trust generates or receives is taxable to the grantor, who reports it on their personal tax return.

A non grantor trust is any trust that is not a grantor trust. This kind of trust affords no control or powers to the grantor. That means they’re unable to revoke or change the terms of the trust or make changes to trust beneficiaries.

This lack of control means the IRS treats a non grantor trust as a separate tax entity. The trust itself must pay taxes on any income it receives. It must also file a tax return using a tax identification number.

Non Grantor Trust Advantages

A non-grantor trust can provide tax benefits by shifting income taxes from the grantor to the trust.

Creating a non grantor trust can offer certain tax benefits to the grantor. First, the grantor wouldn’t have to pay tax on the trust income. This might be an advantage when the grantor wants no further financial responsibility for the trust or its assets. For example, if you remarry after a divorce you may set one up for a former spouse or child. This allows you to avoid paying income tax on assets held in the trust.

There can also be positive tax implications if the trust beneficiaries are in a lower tax bracket than the grantor. The IRS may tax those distributions at a lower rate than it would if they went to the grantor.

You may consider creating a non grantor trust if you run a business. The qualified business Income (QBI) deduction allows eligible taxpayers to deduct up to 20% of qualified business income as well as 20% of qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income. This deduction phases out once business owners reach certain income thresholds.¹

So where does a non grantor trust fit in? For tax purposes, the IRS treats non grantor trusts as separate entities. If your business income is too high for the QBI deduction, non grantor trusts offer a work-around. Essentially, by dividing ownership of business assets and associated income, it may be possible to qualify for the 20% deduction.

Non-grantor trusts can be useful for high-income taxpayers or individuals with significant property. The One Big Beautiful Bill Act (OBBBA) raised the state and local tax (SALT) deduction cap to $40,000 starting in 2025, with one percent increases each year through 2029. So, the SALT cap for 2026 is $40,400.² The benefit phases out once income exceeds about $500,000.³

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Non Grantor Trust Disadvantages

Non grantor trusts come with some potential drawbacks. First and foremost is the lack of control over trust assets. With a grantor trust, on the other hand, you’d still have certain powers you’d be able to exercise.

Next, its important to consider the tax implications of any transactions between yourself as the grantor and the trust. Generally, the IRS taxes certain interactions like moving assets or income between the two. This difference may create tax liability on either side when conducting certain transactions.

Finally, you have to consider how much it costs to set up a non grantor trust. You’ll need to choose the trustee, as grantors cannot be the trustee of a non grantor trust. Trustees receive a trustee fee for overseeing and administering the trust, drawn from trust assets.

Incomplete Non Grantor Trusts

People often use an incomplete non grantor (ING) trust for asset protection. Individuals who live in states with high income tax rates, or no state income tax at all, often use these. For example, if you live in a state that has higher income tax rates you could establish an incomplete non grantor trust, then fund it using appreciated assets that have a low tax basis. If the state has low or no income tax this could reduce the grantor’s tax bill when selling those assets.

Incomplete non grantor trusts can transfer ownership of assets to the trust without paying gift tax. This would also convey the other tax benefits associated with non grantor trusts. Whether it makes sense to establish an incomplete non grantor trust can depend on the tax rules where you live. Talking to an estate planning attorney or tax professional can help.

When to Use a Grantor vs. Non Grantor Trust

The choice between a grantor trust and a non grantor trust comes down to control and taxes. With a grantor trust, the person who creates the trust keeps power over the assets and asset allocation. You can change beneficiaries, reclaim property or dissolve the trust altogether. All income and gains flow back to your personal tax return, which keeps filing simple but also leaves you with the bill. This setup often works best if you want flexibility or if reducing taxable income is not a main goal.

A non grantor trust works differently. Once the trust receives the assets, the grantor steps back. The trust becomes its own taxpayer with its own tax identification number. The trust reports income on its tax return, not the grantor’s. That separation can lower overall tax costs if the trust’s beneficiaries are in lower tax brackets, or if you want to avoid paying taxes on income that you no longer control.

A grantor trust may suit someone who wants to pass wealth to family but still keep a say in asset management. A non grantor trust may be better if you want to shift tax burdens, manage exposure to state and local taxes, or set up a structure that stands apart from your personal finances. For business owners above the qualified business income thresholds, or high earners limited by the SALT cap, non grantor trusts can create room for tax benefits.

Family and life circumstances matter as well. A parent may choose a non grantor trust to provide for children from a prior marriage. A couple with shared goals may prefer a grantor trust so one spouse can oversee their wealth management. Each type solves different problems, and the right fit depends on what you value most—control, tax savings, or protection.

Common Types of Non-Grantor Trusts and When to Use Each

Non-grantor trusts come in several forms, each designed to solve a different estate planning or tax problem. Knowing which type fits your situation is the practical question that follows understanding what a non-grantor trust is.

Charitable Remainder Trust

A charitable remainder trust allows the grantor to transfer appreciated assets into the trust, receive an income stream for a set period or for life, and ultimately pass the remaining assets to a designated charity at the end of the trust term. Because the trust is a tax-exempt entity, it can sell appreciated assets without triggering immediate capital gains tax. This allows the trust to reinvest the full proceeds and generate a larger income stream than if the grantor had sold the assets directly.

The grantor also receives a partial charitable deduction at the time of funding based on the present value of the charitable remainder interest. This structure works well for donors who hold highly appreciated assets, want to convert them into income and have charitable giving as part of their long-term plan. It is less appropriate for those who want to pass the full value of an asset to family members, since the charity receives whatever remains at the end of the trust term.

Special Needs Trust

A special needs trust holds assets for a beneficiary with a physical or cognitive disability without disqualifying them from means-tested government benefits such as Supplemental Security Income or Medicaid. Because the trust holds the assets instead of the beneficiary, they do not count towards eligibility.

The trust must comply with the rules governing each benefit program. Distributions can pay for goods and services that supplement rather than replace what government programs provide, such as education, transportation, recreation and personal care items not covered by Medicaid. Parents planning for a child with a disability often use these trusts, though beneficiaries can establish one themselves under certain circumstances using their own assets.

Spendthrift Trust

A spendthrift trust protects a beneficiary from their own financial decisions and from the claims of creditors by restricting their ability to access or transfer their interest in the trust. The trustee controls distributions and the beneficiary cannot pledge the trust assets as collateral, assign their interest to someone else or demand a lump sum payout.

Grantors who want to provide for a beneficiary who has a history of poor financial management, struggles with addiction, or is in a profession or relationship that creates creditor exposure, can use spendthrift trusts. It can also distribute an inheritance over time rather than all at once. Most states allow spendthrift provisions in any trust, and they are a standard feature in many estate plans involving beneficiaries who may need financial protection.

Testamentary Trust

A testamentary trust is created through the terms of a will rather than during the grantor’s lifetime. It comes into existence only after the grantor dies and the will has been admitted to probate. Because the grantor has no control over a trust that does not yet exist, testamentary trusts are always non-grantor trusts from the moment they are established.

This structure is commonly used to hold assets for minor children until they reach a specified age, to provide for a surviving spouse while preserving the principal for children from a prior relationship or to manage a large inheritance for a beneficiary who is not yet ready to handle it independently. The main limitation of a testamentary trust compared to a living trust is that it does not avoid probate, since the will must go through the probate process before the trust is funded.

Qualified Personal Residence Trust

A qualified personal residence trust allows a grantor to transfer a primary residence or vacation home into a non-grantor trust while retaining the right to live in the property for a specified term. At the end of that term, ownership passes to the named beneficiaries, typically children, at a reduced gift tax value because the IRS discounts the transfer to reflect the grantor’s retained right to use the property during the trust term.

This structure is used primarily as an estate planning tool to reduce the taxable estate by transferring a valuable asset to the next generation at a lower effective gift tax cost than an outright transfer would require. The risk is that if the grantor dies before the trust term ends, the full value of the property is pulled back into the taxable estate, eliminating the tax benefit. For that reason, the trust term is typically set shorter than the grantor’s life expectancy.

Bottom Line

An incomplete non-grantor (ING) trust can help reduce state income taxes by holding assets in a lower-tax state.

Non grantor trusts can be useful in a variety of situations from a tax and estate planning perspective. The most important thing to know about them is how the IRS treats them for tax purposes. Also, keep in mind that they don’t offer the same degree of control and decision-making as grantor trusts.

Tips for Estate Planning

Consider talking to a financial advisor about various tax planning strategies you may incorporate into your financial plan. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Grantor and non grantor trust define how a trust is taxed. But there are other characteristics of trusts that are important to understand. For example, whether a trust is revocable or irrevocable matters for tax and estate planning. A revocable trust can be changed after the fact while an irrevocable trust cannot. It’s also helpful to understand different types of trusts that may be useful in estate planning. For example, a testamentary trust can be used to transfer assets in accordance with a last will and testament while a special needs trust (SNT) may be established on behalf of a dependent. with a disability An estate planning attorney can help with deciding which type of trust might fit your situation.