Grantor Retained Annuity Trusts

A popular technique for transferring appreciating assets to heirs and saving estate tax is by a Grantor Retained Annuity Trust, or “GRAT”.  A GRAT is a trust into which the grantor transfers assets and retains the right to a specified annuity from the trust for a set term.  At the end of the term the assets pass to or in trust for the grantor’s specified heirs (usually children).  If the grantor survives the term, then none of the assets are included in the grantor’s estate for estate tax purposes.  If the grantor does not survive the term, part or all of the trust assets may be included in the grantor’s gross estate.

If the technical requirements to qualify as a GRAT are met, the value of the portion of the GRAT projected to pass to heirs at the termination of the GRAT will be subject to gift tax to the grantor upon creation.  The gift portion is the actuarial present value of the right to receive the property at the end of the grantor’s retained term.  This value is based on actuarial tables using discount rates published by the IRS.  Under current law, it is possible to minimize the gift tax by zeroing-out the GRAT; that is having the retained annuity payout to the grantor be high.

Numerous technical rules are required for GRAT’s.  These technical requirements include that the annuity interest cannot be prepaid, that no additions may be made after the creation of the trust, and that the annuity itself may not be paid by means of borrowing from or a note to the grantor.

GRAT's could be beneficial in certain situations, including:

  • Where the grantor has assets that are expected to grow significantly, so that earnings and growth combined will exceed the IRS discount rate, then the valuation used to calculate the gift (the property passing to the heirs at the termination of the trust) will have been understated, leaving potentially significant value to pass to heirs free of estate or gift tax.
  • The owner of an interest in a closely held company that could potentially be sold in the near term (in either a public or a private sale) should consider transferring a minority interest in the company to a GRAT.  Prior to a sale, it should be possible to value the company taking into account minority interest and lack of marketability discounts.  If the company is sold as a unit, the interest appreciates significantly, and the appreciation inures to the benefit of the beneficiaries. 
  •  Other assets that have significant appreciation potential, such as real estate or interests in a family limited partnership which may be entitled to a minority interest or lack of marketability discount for gift tax valuation purposes, can be good candidates for a GRAT.
  • In a favorable economic environment, many grantors have even transferred marketable securities to a GRAT, and have been able to earn greater than the IRS assumed rate in combined income and appreciation.

A word of caution about GRAT's in our uncertain estate tax environment.  Since we currently do not have an estate tax in 2010, but we do have a gift tax, careful planning and consideration is in order before a GRAT is utlizied. 

For more information about GRAT's or how they may be utilized in your estate plan, please contact us for a free initial consultation.

 

The Law Office of Richard C. Petrofsky assists clients with Estate and Gift Planning, Wills, Trusts, Charitable Planning, Special Needs Planning, Elder Law and Medicaid Planning, Estate and Family Planning for Same-Sex Couples and LGBT Individuals, Asset Protection Planning and Corporate and Business Planning in St. Louis, Missouri and surrounding areas.