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Estate planning does not occur in a vacuum. Among other things it needs to take into account the existing economic environment. Currently, with interest rates low and the value of many assets reduced, one technique that may be particularly attractive to someone who wants to make substantial gifts to family members at a reduced tax cost is a Grantor Retained Annuity Trust or GRAT. GRATs are expressly permitted by the Internal Revenue Code.
A GRAT is a type of irrevocable trust and works as follows: The donor transfers cash or other property to an irrevocable trust for a fixed term. During the term of the trust, the donor receives a fixed amount (annuity) from the trust each year. At the end of the term, whatever assets remain in the trust pass to others, generally children or other family members.
A gift is made when the cash or property is conveyed to the trust. Because the gift is of a future interest, one which the family members do not receive immediately, it is discounted to present value based on a specific interest rate determined monthly by the IRS (the 7520 rate). The 7520 rate normally follows the ups and downs in federal interest rates, which at the present time are quite low. A lower 7520 rate increases the actuarial value of the retained annuity, reducing the value of the gift.
In addition to the 7520 rate, the annuity rate and the term of the GRAT affect the amount of the gift. The larger the annuity or the longer the term of the GRAT the smaller the value of the gift. In fact, a GRAT can be structured in such a way that the value of the gift for tax purposes is almost zero. This is called “zeroing out the GRAT.” |
The Section 7520 rate for December 2008 is 3.4%.
If the total of the income received by the GRAT and the appreciation in the value of the assets in the GRAT exceeds the 7520 rate, then the excess will ultimately pass tax-free to the remainder beneficiaries of the trust. As an example, if a donor funds a 10 year GRAT with $1,000,000.00 and retains the right to receive annual payments of $120,000.00 the gift will be negligible. If the combination of income and appreciation in the trust is 8%, the donor’s family will receive over $430,000.00 estate and gift tax-free when the GRAT ends.
GRATs can be funded with a wide variety of assets including marketable securities, real estate or interests in closely held businesses. As interest rates are so low, and if a person believes an asset he or she owns is undervalued and likely to appreciate, now is an ideal time to create a GRAT with that asset.
Use of a GRAT as a successful tool involves sophisticated planning and professional counsel. For more information about GRATs or other estate planning strategies, consult a member of the Armstrong Teasdale LLP Tax practice group.
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Jonathon W. Igoe, 314-342-8019
jigoe@armstrongteasdale.com
Christopher J. Anderson, 816-472-3117
canderson@armstrongteasdale.com
Daniel Cooper, 314-259-4715
dcooper@armstrongteasdale.com
Joseph D. Demko, 314-342-4143
jdemko@armstrongteasdale.com
John E. Dooling, Jr., 314-259-4743
jdooling@armstrongteasdale.com
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Scott E. Hunt, 314-342-4145
shunt@armstrongteasdale.com
Robert Lewis Jackson, 314-342-8076
rjackson@armstrongteasdale.com
Jill M. Palmquist, 314-552-6635
jpalmquist@armstrongteasdale.com
Guy A. Schmitz, 314-259-4738
gschmitz@armstrongteasdale.com
Larry M. Sewell, 314-342-8020
lsewell@armstrongteasdale.com
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