Consider a GRAT

Grantor Retained Annuity Trusts (GRATs) represent an opportunity to transfer appreciating assets to the next generation with little to no gift or estate tax consequences.

WHAT’S A GRAT?

A GRAT is a trust created so individuals and families can move wealth to heirs while using little, if any, of their lifetime federal gift and estate tax exclusion. An individual would set up an irrevocable trust and transfer assets into it. In return, the grantor would receive an annuity payment (at least annually) for a certain number of years.

GO FOR ZERO

The most common structure for a GRAT is a “zeroed out” trust. Here, the initial transfer value plus some interest (set monthly by the IRS) would be returned to the grantor over the term of the trust. And at the end of the trust period, remaining funds would be passed on to heirs, either outright or in a different trust.

With a zeroed-out GRAT, since the grantor retains an annuity equal to what they contribute to the GRAT, the value of the remainder interest (the amount left over after the GRAT term) is zero. This is what the grantor gives to the beneficiaries. Since this is a zero-value gift from the IRS’s perspective, it doesn’t use any portion of the grantor’s lifetime exemption from federal gift tax.

So, suppose individuals or families own assets that they expect to appreciate, but they don’t necessarily want to gift them outright. In that case, it may make sense to shift the potential future growth of those assets to heirs using a GRAT. Also, GRATs tend to be particularly effective in low-interest-rate environments.

The financial downside to a GRAT is often limited to the transaction costs of creating it (e.g., legal, accounting and, if funding it with illiquid assets, appraisal fees). Speak with your tax professional to learn if a GRAT makes sense for your financial situation.