The 65-day rule can give certain trusts more flexibility when deciding when to distribute income to beneficiaries. The IRS may treat an eligible distribution made during the first 65 days of a new tax year as though it occurred in the prior year. This can potentially shift taxable income from the trust to beneficiaries. Because trusts can reach higher federal tax brackets at relatively low levels of taxable income, the timing of a distribution could affect the combined tax burden of the trust and its beneficiaries. Here’s how the 65-day rule may provide some flexibility.
A financial advisor can help you evaluate how trust distributions fit into a broader tax and estate plan, including how the timing of distributions could affect beneficiaries.
How the Trust 65-Day Rule Works
The 65-day rule gives certain types of trusts and estates a limited opportunity to adjust their timing. They can treat distributions made shortly after year-end as though they occurred in the prior tax year, if it would be beneficial to do so. Under Internal Revenue Code Section 663(b), a fiduciary may elect to treat qualifying amounts paid or credited to beneficiaries during the first 65 days after the close of the tax year as distributions made on the final day of that prior year. 1
For a calendar-year trust, this generally means distributions made during the first 65 days of the following calendar year. The trust may count these distributions towards the prior tax year for income tax purposes. This can give trustees additional time after year-end to review the trust’s income, deductions and beneficiary circumstances, allowing trustees to better decide how much income to distribute, and how to allocate it.
The rule is most relevant for complex trusts and estates, which may have the discretion to retain or distribute income. Simple trusts generally must distribute all of their income. As a result, they typically have less use for this type of year-end planning flexibility. A complex trust, by contrast, may accumulate income unless the trustee makes a distribution that qualifies for the deduction.
Taxes
The election can affect who ultimately reports the taxable income. If a trust makes a qualifying distribution, and the IRS treats it as part of the prior year’s transactions, the trust may qualify for an income distribution deduction for that year. Meanwhile, the beneficiary generally reports the corresponding amount on Schedule K-1, subject to distributable net income (DNI) limitations. This can shift taxable income away from the trust and onto the beneficiary rather than allowing the trust to retain and pay tax on it.
The trust or estate may make this election on their Form 1041 federal income tax return for the year they want to apply the distribution to. It generally must occur by the return’s filing deadline, including extensions, and once the deadline has passed, the election generally becomes irrevocable. Trustees therefore need to evaluate both the timing of the distribution and the tax consequences before making the election.
Using the 65-Day Rule to Shift Trust Income
As we mentioned above, the 65-day rule can give a trustee additional flexibility when deciding whether income should remain taxable to the trust or be distributed to beneficiaries. If a qualifying distribution happens during the first 65 days of the following tax year and the trustee makes a valid Section 663(b) election, that payment can generally be treated as though it occurred on the final day of the prior tax year.
For example, assume a complex trust has $50,000 of (DNI) for the year, but distributes only $10,000 before December 31. During the first 65 days of the following year, the trustee distributes another $40,000 to a beneficiary. If the election applies and the full amount qualifies, that $40,000 may be treated as a prior-year distribution for federal income tax purposes.
If the trustee makes the Section 663(b) election and the applicable distribution rules allow the entire $40,000 to be treated as a prior-year distribution, the trust could potentially receive a $40,000 income distribution deduction. The beneficiary generally includes the corresponding taxable amount in income, subject to DNI and the character of the underlying income.
Why Beneficiary Tax Rates Matter
Trusts reach high federal income tax rates at much lower income levels than individuals. For 2026, estates and trusts reach the 37% bracket once taxable income exceeds $16,000. As a result, distributing income to a beneficiary who is in a lower individual bracket can sometimes reduce the combined federal tax burden. 2
The result depends on the beneficiary’s other income and whether the distributed income consists of interest, dividends, capital gains or another type of income. The trust’s income distribution deduction and the beneficiary’s Schedule K-1 generally coordinate the taxation so the same distributed income is not taxed once to the trust and again to the beneficiary.
Trust Tax vs. Beneficiary Tax
Assume $40,000 of ordinary taxable income could either remain in a trust or pass through to a beneficiary.
For comparison, assume the entirety of the beneficiary’s $40,000 falls into the 22% tax bracket and is taxed at the 22% federal tax rate.
| Scenario | Taxable Distribution/Income | Assumed Federal Tax Rate | Estimated Federal Tax |
|---|---|---|---|
| Income retained by trust | $40,000 | 2026 graduated trust rates | $12,731 |
| Income passed to beneficiary | $40,000 | 22% assumed | $8,800 |
The $12,731 trust estimate applies the 2026 trust tax rates progressively. Under the assumptions above, the estimated federal tax on $40,000 retained by the trust is $12,731.
- 10% bracket: $3,300 × 10% = $330
- 24% bracket: $8,400 ($11,700 − $3,300) × 24% = $2,016
- 35% bracket: $4,300 ($16,000 − $11,700) × 35% = $1,505
- 37% bracket: $24,000 ($40,000 − $16,000) × 37% = $8,880
The estimated trust tax is $12,731 ($330 + $2,016 + $1,505 + $8,880), while the estimated beneficiary tax is $8,800.
Under these simplified assumptions, passing the income to the beneficiary could reduce federal income tax by about $3,931 ($12,731 − $8,800). Actual taxes depend on deductions, income, the beneficiary’s tax situation and potentially the net investment income tax.
Limits and Deadlines for the 65-Day Election
The 65-day rule does not allow trustees to arbitrarily assign any amount of income to the previous year. Regulations generally limit the amount covered by the election based on the actual payments and credits during the 65-day period and the greater of applicable trust accounting income or DNI, reduced by certain other distributions.
Trustees must also follow the governing trust document and applicable law when making distributions. They must make the election on a timely filed Form 1041, including extensions, and it becomes irrevocable once made. Because shifting income can affect both the trust and its beneficiaries, a financial advisor, CPA or estate attorney can help you evaluate the tax consequences before you finalize the distribution and election.
Bottom Line
The 65-day rule can give certain trusts and estates added flexibility to include early-year distributions in the prior tax year. That can shift taxable income from a trust, which reaches the highest federal tax bracket quickly, to beneficiaries who may pay lower tax rates. However, the election is subject to strict timing, DNI and distribution limits, so trustees should coordinate carefully with tax and estate-planning professionals.
Tips for Estate Planning
- If you’re unsure whether a trust belongs in your estate plan, you don’t have to go it alone. Most financial advisors have the resources to help you put together an estate 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, start now.
- Estate taxes can be hefty, but you can maximize inheritance for your family by gifting portions of your estate in advance to heirs, or even setting up a trust. Some inherited assets can also have tax implications, so read more about inheritance taxes and exemptions now.
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