(2) A tax required to be paid by a trustee based on receipts allocated to principal must be paid from principal, even if the tax is called an income tax by the taxing authority.

(3) A tax required to be paid by a trustee on the trust's share of an entity's taxable income must be paid:

(a) From income to the extent that receipts from the entity are allocated only to income;

(b) From principal to the extent that receipts from the entity are allocated only to principal;

(c) Proportionately from principal and income to the extent that receipts from the entity are allocated to both income and principal; and

(d) From principal to the extent that the tax exceeds the total receipts from the entity.

(4) After applying subsections (1) to (3) of this section, the trustee shall adjust income or principal receipts to the extent that the trust's taxes are reduced because the trust receives a deduction for payments made to a beneficiary.

Source: L. 2000: Entire part R&RE, p. 1147, § 1, effective July 1, 2001. L. 2009: Entire section amended, (SB 09-139), ch. 131, p. 567, § 2, effective April 16.

Electing Small Business Trusts. An Electing Small Business Trust (ESBT) is a creature created by Congress in the Small Business Job Protection Act of 1996 (P.L. 104-188). For years beginning after 1996, an ESBT may qualify as an S corporation stockholder even if the trustee does not distribute all of the trust's income annually to its beneficiaries. The portion of an ESBT that consists of the S corporation stock is treated as a separate trust for tax purposes (but not for trust accounting purposes), and the S corporation income is taxed directly to that portion of the trust even if some or all of that income is distributed to the beneficiaries.

A trust normally receives a deduction for distributions it makes to its beneficiaries. Subsection (4) takes into account the possibility that an ESBT may not receive a deduction for trust accounting income that is distributed to the beneficiaries. Only limited guidance has been issued by the Internal Revenue Service, and it is too early to anticipate all of the technical questions that may arise, but the powers granted to a trustee in Sections 15-1-431 and 15-1-404 to make adjustments are probably sufficient to enable a trustee to correct inequities that may arise because of technical problems.