Attractive Wealth Transfer Opportunity in a Depressed Economy

Attractive Wealth Transfer Option in a Depressed Economy

              Now is an opportune time for individuals to take advantage of low interest rates when reviewing their estate plans.  One option that is available now, but may become limited by legislation pending in Congress, is known as a “Grantor Retained Annuity Trust” or a “GRAT”.  A GRAT is a trust into which a client/grantor transfers assets and retains a right to receive, at least annually, an annuity payment for the term of the GRAT. At the end of the GRAT’s term, the remaining assets pass to designated beneficiaries, tax-free.

             Since the interest rate used to value the transfer to the trust, known as the 7520 rate, is currently 3.2 %, the GRAT is an attractive option for clients looking to transfer wealth to younger generations.  The low interest rate results in a lower threshold for the productivity of the assets.  If the assets in the GRAT grow at a rate greater than the 7520 rate, there will be assets at the end of the GRAT’s term to pass to the beneficiaries and therefore, gift and estate tax savings during the client’s life and at the client’s death. To put it simply, the lower the 7520 rate, the larger the potential tax-free gift at the end of the GRAT’s term. The 7520 rate changes monthly, and as stated above, for April 2010 is 3.2 %. 

             GRAT terms can run for any duration, but generally, the longer the term of the GRAT, the smaller the gift.  The risk, however, is that the grantor could die during the GRAT term.  If this occurs, all trust property will likely be included in the grantor’s estate for estate tax purposes.  Notwithstanding, if the grantor did in fact pass during the term, he or she would be no worse off than if the grantor did nothing.  Hence, nothing ventured, nothing gained.

             Setting up a GRAT can trigger a taxable gift which will require a gift tax return to be filed to report the gift.  We try to minimize the gift associated with the transfer by adjusting the duration and annuity amount.  It is possible to have a close to “zeroed out GRAT” which means that the value of the gift to the GRAT is de minimis. 

             To summarize the above, a GRAT is an excellent wealth transfer option in a low interest rate environment because it is easier to outperform the 7520 rate than in a high interest rate environment.  However, there is pending legislation in Congress which if passed, would have the result of limiting some of the advantages of the GRAT.  The proposed legislation would impose a requirement of a minimum ten year term on the GRAT, thus making it a less viable option for sick or elderly clients.  Additionally, the proposed legislation would require that the “gift” element of the trust be greater than zero, thus eliminating the close to “zeroed-out GRAT”.  Since the proposed legislation may soon become law, anyone considering a short-term GRAT should act fast.

             Please feel free to contact us for more information.

             Nicole E. Cleenput, Esq.

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