The Supreme Court’s denial leaves intact a victory for FaegreBD’s trust clients who had challenged a Minnesota law requiring them to pay income tax as Minnesota residents based upon the Minnesota domicile of their grantor at the time they became irrevocable. The tax applied even though the trusts lacked connections to Minnesota during the tax year at issue. This denial makes permanent the Minnesota Supreme Court’s decision that the trusts were unlawfully taxed, and they now are entitled to refunds.
FaegreBD represented William Fielding, the trustee of four trusts established by grantor Reid MacDonald, who was a Minnesota resident at the time the trusts became irrevocable for purposes of the law in 2011. The trusts were funded with stock of Faribault Foods, Inc., a Minnesota corporation, which was sold in 2014. At that time, the trustee, the trust administration and assets, and the primary beneficiaries of three of the four trusts were located outside Minnesota. Nevertheless, Minnesota sought to tax the trusts as Minnesota residents.
Under the applicable statute, a post-1995 trust is a “resident” if the grantor or creator of the trust was a Minnesota resident at the time the trust became irrevocable. The four trusts in question clearly met the definition of a “resident” trust, but the trustee challenged that characterization – and the resulting tax on 100 percent of the trusts’ worldwide income – as a violation of the due process clause.
Due process requires that there be both a minimum connection between the state and the taxpayer and a rational relationship between the tax imposed and the benefits the state provides to the taxpayer during the tax year at issue. The trustee argued that the historical Minnesota domicile of the grantor could not be a constitutional basis to tax the trusts because it is a connection with a party that is not the taxpayer during a year that is not the tax year at issue.
The Minnesota Tax Court agreed, ruling in the trusts’ favor and holding the law unconstitutional. The Minnesota Supreme Court upheld the ruling. The Minnesota Department of Revenue then requested review by the U.S. Supreme Court, which was denied—letting stand the Minnesota Supreme Court’s decision holding Minnesota’s taxation of the trusts as residents to be unconstitutional on the facts in the case.
The decision means a permanent win for the trustee and the trust beneficiaries. The trusts are now entitled to refunds of the Minnesota income tax they paid on interest, dividends, and capital gains (excluding tax paid on income sourced to a Minnesota state business, which remains taxable). Other trusts created by state residents that became irrevocable after 1995 also may be able to claim income tax refunds or tax steps to preclude Minnesota resident income taxation in future years.
The FaegreBD legal team representing the trust beneficiaries included: Walter Pickhardt, Laura Carlson, and Caitlin Abram.