Estate planning takes on an added layer of complexity when you are faced with federal estate tax exposure. To determine your position relative to the estate tax, you must compare the value of your estate to the federal estate tax credit or exclusion.
For the rest of 2014, the federal estate tax exclusion stands at $5.34 million. You can transfer this much tax-free, but transfers that exceed this amount are potentially subject to the death tax and its 40 percent maximum rate.
There is also a federal gift tax, and it is unified with the estate tax. The $5.34 million exclusion is a unified exclusion. It applies to gifts that you give that are taxable coupled with the value of your estate.
There are certain strategies that can be implemented if you are facing a transfer tax burden. If you take the right steps, you can mitigate your exposure. A grantor retained annuity trust can be part of the plan.
Zeroed-Out GRAT
The grantor retained annuity trust is often referred to as a GRAT. When you create a grantor retained annuity trust, you decide on a set term. During this interim, you take annuity payments from the trust. You decide on the amount of the annuity payments.
When you fund a grantor retained annuity trust, you are removing the assets from your taxable estate. This is one of the benefits.
In the trust agreement you name a beneficiary. This beneficiary would inherit anything that remains in the trust after the term expires. Because assets may be transferred to a beneficiary, the gift tax is applicable.
The Internal Revenue Service accounts for anticipated interest using 120 percent of the federal midterm rate. This is sometimes referred to as the hurdle rate.
To implement this tax efficiency strategy you endeavor to “zero out” the grantor retained annuity trust. To do this, you take annuity payments that are equal to the entire taxable value of the trust.
When you originally fund the trust, you want to use highly appreciable assets. If the assets that have been conveyed into the trust outperform the hurdle rate that was applied by the Internal Revenue Service, there will be a remainder after the trust term expires.
The beneficiary that you name in the trust agreement would inherit this remainder, and the gift tax would not be applicable.
A grantor retained annuity trust can be a good choice if you are exposed to the estate tax and you are in possession of assets that you expect to appreciate considerably.
Free Wealth Preservation Consultation
We offer free wealth preservation consultations to people in the greater Indianapolis area. If you would like to discuss tax efficiency strategies with a licensed estate planning attorney, contact us through this website to set up an appointment.
Paul A. Kraft, Estate Planning Attorney
Mr. Kraft assists clients primarily in the areas of estate planning and administration, Medicaid planning, federal and state taxation, real estate and corporate law, bringing the added perspective of an accounting background to his work.
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