How Does a Grantor Retained Annuity Trust (GRAT) Work?
Here is a general overview of how a GRAT works:
The Drawbacks of Using a GRAT
Assets that are expected to appreciate greatly in value above can be transferred into a GRAT and in turn, move a significant amount of property down to the beneficiaries of the GRAT when the term ends. There are, however, two downsides to using a GRAT:
The Bottom Line
GRATs are not for everyone or just any type of asset. The trustmaker/grantor must be willing to take a gamble and bet that the property transferred into the GRAT will outperform the section 7520 interest rate, that the trustmaker/grantor will live to see the end of the term of the GRAT, and that the trustmaker/grantor will not need the gifted property later in life to pay for living expenses or long-term care. Aside from the drawbacks discussed above, one other important thing to note is that President Obama fought GRATs as an estate reduction tool in his budget proposals throughout his time in office. The budget proposals addressed GRATs on two fronts: (1) GRATs would be required to have a minimum term of 10 years, which increases the chance that the trustmaker/grantor will die during the term of the trust and cause the GRAT assets to be pulled back into the trustmaker/grantor’s taxable estate, and (2) zeroed-out GRATs would be eliminated. Instead, transfers into GRATs would be required to have a significant value for gift tax purposes. Both of these changes would have severely limited the effectiveness of GRATs as an estate tax reduction technique. With the signing of the Tax Cuts and Jobs Act (TCJA) by President Trump on Dec. 22, 2017, GRATs remained the same.
