Creating a comprehensive estate plan requires doing more than simply deciding who will receive your estate assets when you die. Lie many people, you may also be concerned, for example, with the potential tax implications of your death. Therefore, you may wish to include tax avoidance strategies in your estate plan as well. Although every estate plan is unique to the individual creating the plan, one tax avoidance tool you may wish to consider including in your plan is a Grantor Retained Annuity Trust, or GRAT.
Grantor Retained Annuity Trust, or GRAT, is a trust that allows you to transfer assets at a severely reduced tax rate. A GRAT is typically a short-term irrevocable trust that directs annuity payments from the interest earned on trust assets to be paid to the trust creator, or “Grantor” during the life of the trust and that names a non-charitable beneficiary to receive the Principal of the trust. Upon the termination of the trust, assets left in the trust are released to the beneficiary of the trust tax-free. Should the Grantor die, however, before the trust term expires, the assets included in the trust are included in the Grantor’s estate, effectively eliminating the tax-avoidance benefits of the trust.
Normally, assets transferred into an irrevocable trust for the benefit of someone else would incur federal gift taxes. With a GRAT, however, the Grantor could theoretically receive all the assets back in annuity payments so the gift tax is avoided. So why bother? Because if the right assets are used they will appreciate enough that the value of the assets distributed to the beneficiary at the end of the trust term is significantly more than the value of the assets when they were transferred into the trust, thereby accomplishing a tax-free shift of wealth from one generation to the next.
By way of illustration, assume that Bob is 60 years old and has two grown children – Beth, and Bill. Bob created a GRAT and transfers real property into the trust valued at $1 million. Beth and Bill are named as beneficiaries of the trust. The trust is set to terminate in ten years. During that time Bob receives an annually annuity each year which, after the ten years is up collectively amounts to $1 million. This is known as a “zero-out” GRAT. Under the terms of the trust, Beth and Bill are to receive the principal of the trust when the trust terminates. Although Bob has received $1 million in annuity payments over the past ten years, the assets held by the trust have also appreciated considerably and are now worth $2 million. Beth and Bill will receive $1 million tax-free from the trust.
If you have additional questions about GRATS, or other estate planning trusts, contact the experienced Missouri estate planning attorneys at Amen, Gantner & Capriano, Your Estate Matters, LLC by calling (314) 966-8077 to schedule an appointment to get started today.