The most elegant solution to any equation is going to be the most efficient one, and being able to satisfy dual objectives through one action is the height of efficiency. There are several estate planning tools that “kill two birds with one stone,” as it were, and one of them is the grantor retained annuity trust or GRAT. The two goals we address here are the reduction of the overall value of your estate to gain estate tax efficiency, and the ability to give a gift to an heir free of the gift tax.
With a GRAT you fund the trust with assets that you would expect to appreciate, and you set a term for the trust which can be any length of time that you choose, either short term or long term. By placing these assets into the irrevocable trust you are removing them from your estate, and this accomplishes one of your two objectives. You name a beneficiary to the trust, and you decide on the amount of the annuity payments you will receive from the trust and how frequently they will be paid.
The original funding of the trust is of course a gift in the eyes of the IRS, and it is subject to the gift tax. Since this gift is comprised of appreciable assets they take this into account, calculating the taxable value of your retained interest using the Section 7520 interest rate. These rates are changed monthly, so the best time to start a GRAT is when they are at their lowest ebb. The strategy here is to use a “zeroed-out” GRAT, and this is when you state in the agreement that your annuity payments over the term of the trust will equal its total value as calculated by the IRS when it was created. If the assets appreciate beyond this estimated value, your beneficiary will receive this remainder free of the gift tax when the trust expires.
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