Grantor Retained Annuity Trust (GRAT)

What Is a Grantor Retained Annuity Trust (GRAT)?

A grantor retained annuity trust (GRAT) is a financial instrument utilized in estate planning to limit taxes on large financial gifts to family individuals. Under these plans, a irrevocable trust is made for a certain term or period of time. The individual framing the trust lays out a gift value when the trust is made. Assets are set under the trust and afterward a annuity is paid out to the grantor consistently. At the point when the trust lapses and the last annuity payment is made, the beneficiary receives the assets and pays next to zero gift taxes.

Understanding Grantor Retained Annuity Trusts (GRATs)

A grantor retained annuity trust is a type of irrevocable gifting trust that permits a grantor or trustmaker to possibly pass a lot of wealth to the next generation with practically no gift tax cost. GRATs are laid out for a specific number of years.

While making a GRAT, a grantor contributes assets in trust however holds a right to receive (over the term of the GRAT) the original value of the assets contributed to the trust while earning a rate of return determined by the IRS (known as the 7520 rate). At the point when the GRAT's term lapses, the extra assets (basically any appreciation of the original assets minus the IRS-assumed return rate) are given to the grantor's beneficiaries.

Under a GRAT, the annuity payments come from interest earned on the assets underlying the trust or as a percentage of the total value of the assets. On the off chance that the individual who lays out the trust passes on before the trust terminates the assets become part of the taxable estate of the individual, and the beneficiary doesn't receive anything.

GRAT Uses

GRATs are generally valuable to wealthy individuals who face huge estate tax liability at death. In such a case, a GRAT might be utilized to freeze the value of their estate by shifting a portion or all of the appreciation onto their heirs. For instance, in the event that a person had an asset worth $10 million however expected it to develop to $12 million throughout the next two years, they could transfer the difference to their children tax-free.

Assuming the grantor bites the dust during the term of the GRAT, the value of the remainder interest is additionally remembered for the grantor's estate. In any case, the grantor can pass the right to receive any excess annuity payments to their enduring spouse to fit the bill for the estate tax marital deduction, which could wipe out any estate tax liability connecting with the GRAT assets.

GRATs are particularly famous with individuals who own shares in startup companies, as stock price appreciation for IPO shares will ordinarily far outperform the IRS assumed rate of return. That means more money can be passed to children while not eating into the grantor's lifetime exemption from estate and gift taxes.

GRAT History

GRATs saw a big flood in ubiquity in 2000 because of a great ruling in the U.S. Tax Court including the Walton family of Walmart Inc. popularity. Audrey J. Walton v. Commissioner of Internal Revenue saw the court rule for Walton's utilization of two GRATs, in which annuity payments were set up to return each of the original assets to the grantor and leave just the appreciated value to beneficiaries.

Through this set-up, the value of the gift originally put in trust is decreased to zero, and any leftover value in the trust is transferred to the beneficiary tax-free. The utilization of GRATs in this manner is known as a "zeroed-out GRAT" or "Walton GRAT."

Illustration of a GRAT

Facebook pioneer Mark Zuckerberg put his organization's pre-IPO stock into a GRAT before it opened up to the world. While the specific numbers are not known, Forbes magazine ran estimated numbers and thought of an impressive number of $37,315,513 as the value of Zuckerberg's stock.

Features

• Grantor retained annuity trusts (GRATs) are estate planning instruments in which a grantor secures assets in a trust from which they earn annual income.
• Upon expiry, the beneficiary receives the assets with negligible or no gift tax liability.
• GRATs are utilized by wealthy individuals to limit tax liabilities.