Distributable Net Income (DNI)

Why This Matters for the Exam

DNI is the most important concept in trust/estate taxation. It prevents double taxation and determines how income is allocated between the fiduciary and beneficiaries.

Expect at least 2-3 questions on DNI.

What Is DNI?

Distributable Net Income (DNI) is a calculated amount that serves as a ceiling on:

The Purpose: Prevent Double Taxation

Without DNI, income could be taxed twice:

• Once to the trust when earned.
• Again to the beneficiary when distributed.

DNI ensures income is taxed only once—to either the trust OR the beneficiaries, not both.

DNI Calculation

DNI Formula (Simplified)

DNI = Taxable Income
      + Tax-Exempt Interest
      + Personal Exemption
      - Capital Gains to Corpus

The Distribution Deduction

The trust/estate gets a distribution deduction for amounts distributed to beneficiaries, but capped at DNI:

Character of Income

DNI preserves the character of income:

DNI Example

Scenario: Trust has:

• Taxable income: $50,000
• Tax-exempt interest: $5,000
• Personal exemption: $100
• Capital gains allocated to corpus: $10,000
• Distributions to beneficiaries: $60,000

DNI Calculation:

• $50,000 + $5,000 + $100 - $10,000 = $45,100 DNI

Distribution Deduction:

• Distributions: $60,000
• DNI: $45,100
• Deduction: $45,100 (capped at DNI)

Beneficiary Income:

• Beneficiaries include $45,100 (not $60,000).

Tier Allocation

When distributions exceed DNI, income is allocated by tier:

Real-World Scenario

Scenario: A trust has DNI of $30,000. It must distribute $25,000 to Beneficiary A (first-tier) and distributes $15,000 to Beneficiary B (second-tier).

• Total distributions: $40,000.
• DNI available: $30,000.
• Beneficiary A income: $25,000 (first-tier takes all its distribution).
• Beneficiary B income: $5,000 (remaining DNI: $30,000 - $25,000).
• $10,000 to B is tax-free (exceeds DNI, treated as corpus).

On the Exam

Expect 2-3 questions on DNI, typically:

1. Purpose Questions: "What is the primary purpose of DNI?"
2. Calculation Questions: "Trust has DNI of $X and distributes $Y. What is the deduction?"
3. Ceiling Questions: "What does DNI limit?"

The key is to remember: DNI = ceiling on deduction and beneficiary income. Prevents double taxation. Distributions > DNI = tax-free to beneficiary.