Estate planning can be a complicated, yet necessary, process. Along with deciding who you want to receive the assets you leave behind, there are other practical considerations that must be taken into account when planning your estate. Avoiding the payment of excessive estate taxes, for example, is something that should be factored into your estate planning process. One tool that can be used to help avoid a hefty estate tax obligation is the generation skipping trust.
As a general rule, all assets that are owned by you at the time of your death are considered part of your estate. All estate assets, in turn, are subject to the payment of estate taxes. Although the estate tax rate changes from time to time, estates are typically taxed at a high rate — often as high as the highest personal income tax rate. Some trusts, such as the generation skipping trust, help avoid paying estate taxes on the assets used to fund the trust.
A trust, in general, is a legal agreement that allows you to designate assets as trust assets which are to be used for the benefit of beneficiaries. Some trusts become effective immediately and are known as inter vivos trusts. Other trusts only become active upon the death of the grantor and are referred to as testamentary trusts. Although many testamentary trusts are subject to estate taxes, the generation skipping trust is not.
As implied by the name, a generation skipping trust is simply a trust where your grandchildren are named as the beneficiaries of the trust. Because the trust skips a generation, estate taxes do not apply. Your children, however, can still receive benefits from the trust in the form of interest that accrues on the trust assets. By creating a generation skipping trust you may be able to provide your children with an income stream in the short run, guard assets for your grandchildren in the long run and avoid paying estate taxes all at the same