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Seven Estate Planning Strategies to Transfer Assets at a Lower Cost

Last update on: Jun 17 2020

You must adjust your Estate Planning Strategy the estate tax repeal scheduled for 2010 over-shadows the fact that the gift tax will remain. Also, though the estate tax exemption will rise through 2009, the lifetime gift tax exemption will not. The gift tax exemption rose to $1 million in 2002, but it stays at that level indefinitely.

The continuation of the gift tax and confusion over the staggered repeal of the estate tax tempts many people not to make lifetime gifts beyond the $11,000 annual tax-free exclusion. Why make potentially taxable gifts now if retaining the assets could help the family avoid estate taxes later?

There are many reasons to make gifts now and in the coming years. Under the current law, there is no estate tax if you expire in 2010, and only in 2010. In fact, in 2006 the estate tax becomes a flat tax with a 46% rate on estates worth $2 million and more. Also, giving moves future income from the property off your tax return to the return of a family member who might be in a lower bracket. Perhaps most importantly, lifetime gifts now are a hedge against the possibility that the estate tax repeal won’t take effect.

There also are non-tax reasons for making gifts. Your children or grandchildren might need the help now. Or you might want them to begin taking over the family business by giving them equity interests.
Another reason to continue making gifts is that there are strategies to taxes on gifts. Choose the right estate planning strategy and gift taxes can be slashed by 20% and more. Traditional tried-and-true estate planning strategies for slashing gift taxes were unchanged by recent tax laws. Consider these estate planning strategies to be ways to transfer more assets to younger generations at lower cost.



It’s an ugly acronym, but it can be a great tax strategy. The grantor retained annuity trust (GRAT) lets you reduce estate and gift taxes while retaining a stream of income. As the name implies, you transfer money or property to a trust. The trust pays you income for a period of years set by you. After that, the assets in the trust go to the beneficiaries you designated.

You pay gift taxes are based on the current value of the property minus the present value of the annuity interest you retain. IRS tables are used to determine the present value. The tables take into account current interest rates and the length of the trust term. The longer the trust term, the lower the gift tax.

If you die during the trust term, the IRS will argue that the entire value of the trust must be included in your estate.  That’s why you must work closely with an experienced estate planning specialist to determine the term of the trust and other provisions.

The property your beneficiaries eventually receive could greatly exceed the value of the property on which your gift tax was based. The IRS tables assume the trust will earn a rate of return based on current interest rates. Exceed that return, and the excess won’t be subject to gift or estate taxes. The value of the property in the trust also could exceed the amount you initially placed in there. That happens when the rate of return exceeds the rate of the annuity payouts to you. Again, that excess is not taxed.

Many people now establish a ?zeroed out GRAT.? In these, the GRAT lasts for about three years and pays a high percentage of the trust to the grantor. But careful arrangement of the trust term and the payout ratio can find the point at which the money left in the trust is transferred to the beneficiaries tax free.

You can receive a fixed income payout each year, one that increases, or one that declines. Work with an estate planner to determine which is best for you.


QTIP trusts.

Qualified terminal interest property trusts are a classic estate planning tool for married couples. Normally for a gift to qualify for the unlimited marital deduction, the spouse must receive full title to the property. But QTIPs are an exception. You can transfer property to a QTIP and owe no gift taxes on the transfer.

The main requirement is that the trust must provide that all income from the property will be paid to your spouse every year. The trust will be included in your spouse’s estate. That gets the property out of your estate tax free, and all estate taxes might be avoided under your spouse’s estate tax exemption, or perhaps the estate tax won’t be in effect at that time. You determine when creating the trust who eventually gets the property.

QTIP trusts have a flexibility that is important under the current estate tax law. I discussed these trusts in detail in the November 2001 issue.. The article is available on the web site in the archive section.


Defective grantor trust.

Here’s a strategy that takes advantage of lower income tax rates and the estate tax law.
You set up a a trust for the benefit of your children. There’s a trick to this trust. It is set up so that you are not treated as an owner under the estate tax. That keeps the trust assets from being included in your estate. But you are considered an owner under the income tax law. The rules are different, so you can be considered an owner under one and a non-owner under the other.

There are a couple of ways this can be helpful.

Most trusts earn taxable income each year. If you are an owner for income tax purposes, then that income is added to your tax return. When you pay the taxes on that income, you essentially are making another gift to the trust. Instead of having the taxes deducted from the trust, the trust income compounds tax free. You owe only the income taxes, which usually have a lower rate than gifts.

Here’s another advantage. Instead of giving property to the trust, you sell it. In return for transferring the property, you take back a promissory note. The note requires interest only payments for a period of years, then a balloon payment of principal. Since you are owner of the trust for income tax purposes, when you sell the property to the trust you are treated as selling it of yourself. That means no capital gains taxes are due on the sale. You also owe no gift taxes at this point, since you made a sale, not a gift.


GRATs vs. IDGTs.

Generally, the grantor retained annuity trust and the intentionally defective grantor trust can be used in the same circumstances. The analyses I’ve seen show that the IDGT is the more powerful tax-saving tool in most cases. In addition, the IDGT should result in less property being included in your estate than in the case of the GRAT if you died prematurely. The GRAT, on the other hand, is specifically approved in the tax code, while the IDGT depends on interpretations of the tax code.


Life insurance trusts.

Nothing in the 2001 law changed the treatment of life insurance trusts. As I will discuss next month, life insurance still is a good way to increase an inheritance, pay estate taxes, or provide cash to pay estate debts and other expenses. In most cases, life insurance avoids all gift and estate taxes. The only tax cost often is income taxes on the money earned to pay the insurance premiums.

You first create an irrevocable life insurance trust. Then you make annual gifts to the trust to pay the insurance premiums. If the trust has Crummy provisions, the gifts qualify for the annual gift tax exclusion. If the trust is irrevocable and you retain no ownership rights to it, then the life insurance proceeds are out of your estate.

A properly created and executed life insurance trust is a way to get substantial wealth to your heirs without paying either gift or estate taxes.


Family limited partnerships.

These are old favorites of ours, and we wrote about it in some detail last month. By putting assets in an FLP you can get a gift tax discount of 20% to 60% of the value of the property. Yet you can continue to control the assets and income by serving as the general partner. The partnership provisions can be used to determine the succession of control. You also can run the FLP in a way that educates the other partners about managing the assets controlled by the FLP.


Long-term loans.

Loans are an overlooked tax strategy. They can be good as a stand-alone strategy or they can enhance other estate planning strategies. For example, instead of giving property to a GRAT or an FLP, you can sell it. You transfer property to the trust and take back a long-term loan. Each year you can make a gift to the trust equal to the required loan payment or make some other provision for the payment. Then, if the estate tax really is repealed, you or your estate can forgive the loan. The result is that the property is out of your estate without any gift or estate taxes. There might be income taxes on forgiveness of the loan.

Don’t shut down your estate planning or your gifting programs because of the scheduled estate tax repeal. Instead, adapt the plan to the new law and dramatically slash the gift taxes you pay.



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