Wyoming Statutory Trust California: Wyoming and Delaware Trusts Could Cost You - Corporate Direct, Inc.

Sean and Scott are very successful entrepreneurs who live in San Francisco. They have had good fortunes investing in tech startups, and both have become very wealthy. Being shrewd with their money, they both decided to invest $5 million of their net worth into paper assets. Many investors, including real estate investors, use Wyoming Statutory Trusts and LLCs for asset protection and tax planning. Wanting to protect these holdings, Sean created a Wyoming LLC to achieve asset protection and other benefits. Because Sean is a California resident, Sean registered his Wyoming LLC in California and paid the $800 franchise tax. Scott found out that out of state trusts do not have to pay that dreaded fee, so he created a Wyoming Statutory Trust for his portfolio to obtain similar asset protection and benefits. He named himself as the trustee, and he and his wife as the beneficiaries. By setting up the trust, Scott thought that he would end up paying less tax than Sean. As it turns out, he ended up paying more. A lot more. The costs and benefits of each structure should be carefully considered, ideally with the guidance of an experienced attorney or professional service.

As all our California clients know, a Wyoming holding LLC owned by a California resident must register with the California Secretary of State and pay the annual $800 franchise tax. The state’s position is that if a California resident is owning and managing a Wyoming LLC, then that entity is doing business in California. Their position infuriates a good many people, and we are frequently asked if there are any ways to avoid this fee. One potential solution, mentioned above, is the Wyoming Statutory Trust. Some use a Delaware Statutory Trust, or “DST,” but the problematic results are the same. The costs associated with creating and maintaining these entities can influence the decision-making process. We will use Wyoming as the example from here on out.

What exactly is a Wyoming Statutory Trust?

It is a trust registered with the secretary of state that combines attributes of a standard trust and an LLC. Like a trust, a grantor puts assets, including investments, into the Statutory Trust, to be held by one or more trustees, for the benefit of one or more beneficiaries. Trust agreements outline the roles of the manager and trustees, and specify how the trust's assets and investments are to be managed on behalf of the beneficiaries. Like a Wyoming LLC, a Wyoming Statutory Trust has the same charging order protection if the beneficiary is personally sued—in Wyoming, a charging order is the sole remedy for creditors, enhancing security for the trust's assets. This trust is created by filing a Certificate of Trust with the Wyoming Secretary of State, and maintaining a registered agent in Wyoming is essential for compliance and privacy. Both the certificate and the annual report each cost $100. As a perceived bonus, California does not require these foreign trusts to pay the $800 franchise tax every year. Forming Wyoming Statutory Trusts will save our clients hundreds of dollars every year, right?

When comparing statutory trusts to LLCs, it's important to note that many states have different laws regarding asset protection, and Wyoming trusts are often chosen for their strong legal protections. Families and family offices, especially families concerned about estate taxes and the generation skipping transfer tax, often use Wyoming trusts and other trusts for long-term planning and tax benefits.

Wrong. The California Franchise Tax Board classifies out of state Statutory Trusts as “business trusts.” In two of their recent Chief Counsel Rulings, the FTB held that while these out of state “business trusts” are not subject to the franchise tax, they are subject to California’s 8.84% corporate income tax. On top of this, a California Court of Appeals case recently held that trustees who are California residents are taxed at California rates on trust property located in another state.[[2]]

Wyoming's lack of state income taxes and other tax benefits make it attractive for those planning for the future and seeking to protect assets during life and for future generations.

Do we really want our clients to pay this tax? As explained below, paying the $800 fee is a much better option.

Back to the example above. For simplicity’s sake, let’s say that Sean and Scott each earned $1 million in taxable income from their Wyoming entities in their first year. The diagram below shows how much each must pay to California and Wyoming.

Because Sean has an LLC now worth $6 million, he will have to pay a $1,200 license tax to Wyoming.[[1]] This fee arises from assets held in Wyoming, so these costs are directly associated with holding assets in the state. If the assets were held outside of the state, the fee wouldn’t apply. If he used a Nevada LLC, which has no such license tax, the annual fee would be $350. In addition to the $800 franchise tax, California also requires LLCs who make $1 million a year to pay a fee of $6,000. Sean’s total here is $8,000. However, Sean will be able to deduct the $800 California fee on his tax returns.

Scott, on the other hand, does not have to pay the license tax, the franchise tax, or the LLC fee. However, because the Wyoming Statutory Trust is a “business trust,” Scott’s income is subject to the 8.84% corporate income tax rate, even though this income came from Wyoming. On the $1 million Scott earned from his Wyoming Statutory Trust, he is footed with the California corporate tax. This means Scott must cough up $88,400. While Scott “saved” $2,000 by not paying the taxes Sean had to, Sean ended up saving $80,400 in taxes altogether. One of the benefits of proper entity selection is enhanced protection from creditors, as certain structures can safeguard assets from outside claims. To make matters worse, this example doesn’t even account for other federal and state taxes that affects them both.

When comparing these outcomes, it’s important to weigh both the costs and benefits of each structure, especially considering the potential asset protection advantages that may shield assets from creditors.

Whose situation would you rather be in: The person who paid the franchise tax, or the person who avoided it?

As it stands right now, there is a lot of inconsistency in how California chooses to tax out of state trusts. Some will argue that if the trust distributes income to the California beneficiaries, the income is taxed at the beneficiary level. But what if the income is held in the trust? What if it is reinvested? Some people will claim their DST has never been assessed an 8.84% tax. But this area is filled with unsettled law and strategy uncertainty.

A key point to remember when seeking to reduce minimum franchise taxes: The trust tax here is on the books. And California is always searching for more tax revenue. Should a favorable ruling come out, we will reconsider using Statutory Trusts for our clients. But we aren't holding our breath. We advise our California clients to stay away from the Statutory Trust ambiguities. If you don't, you could end up like Scott: paying costly and unnecessary taxes.

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Franchise Tax Bd. Chief Counsel Ruling 2016-01 (February 17, 2016), and Franchise Tax Bd. Chief Counsel Ruling 2016-02 (February 17, 2016).

[2] Steuer v. Franchise Tax Bd., 51 Cal.App.5th 417 (2020).

[3] For Wyoming LLCs, the Annual Report License Tax is the greater of $60, or two tenths of one mil on the dollar ($.0002).

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