The federal estate tax is an important factor to consider when you are facilitating future asset transfers. This tax carries a 40% maximum rate, so it can take a heavy toll on your estate.
There are various different estate tax efficiency strategies that can be implemented to ease the burden if your estate is exposed. A grantor retained annuity trust (GRAT) can be part of the plan.
Appreciable Assets
When you create a grantor retained annuity trust, you want to convey highly appreciable assets into the trust. This is the key to successfully implementing the “zeroed out” GRAT strategy.
You decide on a trust term when you are creating the trust agreement, and you name a beneficiary. The beneficiary that you name would assume ownership of anything that remains in the trust after its term expires.
Because there is a beneficiary who could receive a gift after the term expires, the gift tax is applicable. The Internal Revenue Service calculates the taxable value of the gift by adding anticipated interest. They use 120% of the federal midterm rate to calculate anticipated interest accrual. This is often referred to as the hurdle rate.
Throughout the duration of the term you receive annuity payments from the trust. You decide on the amount of the annuity payments. The idea is to zero out the grantor retained annuity trust, so you take annuity payments equal to the entire taxable value of the trust.
Remember, you funded the trust with highly appreciable assets. If the assets that you conveyed into the trust outperform the hurdle rate that was applied by the IRS, there is going to be something left in the trust after its term expires.
The beneficiary that you named in the trust agreement would assume ownership of this remainder, and the transfer would take place in a tax-free manner.
Estate and Gift Tax Parameters
The zeroed out grantor retained annuity trust strategy could be useful for people who are exposed to the estate tax. To determine whether or not you are exposed to the federal estate tax, you must compare the value of your estate to the amount of the federal estate tax exclusion or credit.
During the current calendar year, the federal estate tax exclusion amount is $5.34 million. Anything that you want to transfer that exceeds this amount is potentially taxable.
The estate tax is unified with the gift tax, so this $5.34 million exclusion applies to gifts made by you while you are living along with the value of the estate that you are passing on to your heirs.
Free Tax Efficiency Consultation
If you would like to discuss tax efficiency strategies with a licensed estate planning attorney, we would be glad to assist you. We offer free consultations, and you can request an appointment through our contact page.
Blaine Peterson
Attorney
Parman & Easterday
Since founding Parman & Easterday in 1985, Larry has led over 1,000 free, community-service education programs and helped more than 10,000 Oklahoma families go from putting off their estate plan to getting it done. His goal for every client is the same: to become the person their family calls "the one who took care of everything."
Larry is the author of three books: The Straight Shooter's Guide to Estate Planning; Estate Planning Basics; and Guiding Those Left Behind in Oklahoma. He served as Oklahoma's Secretary of State and Secretary of Commerce, and his firm is the only member of the American Academy of Estate Planning Attorneys in the state.
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