Low Asset

The Window Of Opportunity May Be Closing – Top Estate Planning Strategies To Consider


As noted in the recent article by Gideon Rothschild, certain gifting
strategies may be seriously curtailed or eliminated in the coming
months. While we can’t be certain whether (and to what extent)
these proposals will become law, under the circumstances there are
several proactive planning techniques that we would encourage you
to consider, including (i) creating perpetual “dynasty”
trusts, (ii) establishing grantor retained annuity trusts (GRATs)
and (iii) making intra-family loans.

Dynasty Trusts

For individuals seeking to utilize some or all of their
remaining lifetime estate/gift tax exemption, a common strategy is
to gift assets that are likely to appreciate in value to an
irrevocable trust for the benefit of children and more remote
descendants. This is often referred to as a classic “dynasty
trust.” The gifted assets will be removed from the donor’s
estate for tax purposes. In addition, the property will also be
shielded by the powerful protections offered by this trust
structure against potential future creditors (including marital

Over the past year, the COVID-19 crisis has led to depressed
values across many different asset classes. This has created a
temporary opportunity for individuals to transfer wealth to a
dynasty trust for the benefit of future generations at a
considerably lower cost than pre-pandemic values. Assuming that
values will recover and continue to grow over time, any future
appreciation on assets gifted to the trust will escape the transfer
tax system as well.

Still, many clients may be uncomfortable making larger gifts
without retaining some access to the transferred property. There
are several options that can help in this regard, including the
following variations to a typical dynasty trust.

Spousal Lifetime Access Trusts

One approach for a married couple is to gift assets to an
irrevocable trust wherein the grantor’s spouse is named as a
discretionary beneficiary. This type of trust is sometimes referred
to as a spousal lifetime access trust or a “SLAT”. This
type of trust can provide the grantor with indirect access to
future distributions of income or principal, so long as the couple
remains married and the grantor’s spouse is living.

Self-Settled Spendthrift Trusts

Clients who are not married, or those who wish to retain more
direct access to the gifted property, might instead consider a
self-settled spendthrift trust, which is allowable under the laws
of several states. Under this type of trust, the grantor can be
named as a discretionary beneficiary and the trust assets might
still be excluded from his or her taxable estate. For clients
seeking to achieve maximum creditor protection, this approach may
not be advisable. However, there are alternative techniques,
involving special powers and retained controls, which can be built
into a trust to achieve significant protection and maximum
flexibility with respect to the gifted property.

To protect against the relatively small possibility of a
retroactive reduction to the estate/gift tax exemption effective as
of January 1, 2021, there are contingency provisions that can be
built into the trust as well. This includes language that would
allow for the “unwinding” of a gift to the extent of any
tax exposure.

Grantor Retained Annuity Trusts

A GRAT is a mechanism for transferring the appreciation of an
asset to beneficiaries gift-tax free. Assets are transferred to an
irrevocable trust in exchange for the right to receive fixed
annuity payments for a specified term of years. Unlike in the case
of the other trust structures discussed above, the value of assets
transferred to a GRAT need not be limited to the lifetime gift tax
exemption and, if the value of assets transferred to a GRAT is
changed in the event of an IRS audit, there should remain little or
no gift tax consequence.

A GRAT is effective if it is funded with assets that appreciate
in value over and above the 7520 Rate (oftentimes referred to as
the “Hurdle Rate”). For example, one might consider
gifting shares in a closely held corporation or a percentage
interest in a limited liability company which may be currently
undervalued, or has the potential for significant future growth.
This technique is particularly attractive in light of the current
low interest rate environment. The Hurdle Rate for transfers made
in May 2021 is 1.2%. To the extent that property transferred to the
GRAT has an annualized return of more than the Hurdle Rate, any
excess appreciation on the transferred property remaining at the
end of the GRAT term will result in a tax free gift for the benefit
of the trust remainder beneficiaries.

If assets decline in value, the grantor will simply get back the
property that was transferred to the GRAT and be no worse off. If,
however, the grantor dies during the GRAT term, some or all of the
trust property could nevertheless be includable in their estate.
While a longer GRAT term could mean greater appreciation and
increased tax savings, this should be weighed against the
grantor’s mortality risk.

Low Interest Rate Loans

Another attractive option is a sale, rather than a gift, of an
asset (such as non-voting shares in a company), to an irrevocable
grantor trust in exchange for a promissory note. With a sale, the
asset is removed from the grantor’s taxable estate and is
substituted with a stream of income. Since the grantor is treated
as the owner of the trust for income tax purposes, there is no
income tax consequence to the grantor. Any appreciation following
the sale in excess of the Applicable Federal Rate (“AFR”)
will remain in the trust free from estate and gift tax. This method
has become increasingly popular while interest rates are at
historic lows. (Those who previously engaged in such sale
transactions may also want to consider taking advantage of low
rates by either refinancing an existing loan or forgiving some or
all of the note up to their remaining gift tax exemption.)

Applicable Federal Rates for May
Short-term AFR, loans of three years or
Mid-term AFR, loans of more than three years
and up to nine years
Long-term AFR, loans of more than nine

In comparison to a GRAT, there is no mortality risk with the
sales approach. While asset valuations could be subject to
challenge by the IRS in the event that the sale transaction is
audited, there are several ways to mitigate this possible risk.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.


Read More:The Window Of Opportunity May Be Closing – Top Estate Planning Strategies To Consider