Method of transferring assets to heirs up for new restrictions

NORTH BAY – The House Ways and Means Committee has approved HR 4849, and if it is enacted, there will be a new stipulation on Grantor Retained Annuity Trusts, a way for people to transfer interest in their business to their heirs in a tax efficient way.

The law would change the minimum period for a zero-tax GRAT to 10 years instead of the current two.

[caption id="attachment_20616" align="alignleft" width="122" caption="Nick Donovan"][/caption]

A GRAT allows large financial gifts to be made to family members sometimes without paying any gift tax, said Nick Donovan, partner at Gaw Van Male in Napa.

Currently, if $1 million is put into a two-year GRAT in January, and it earns 7 percent in the first year, the first year’s payment back to the donor is $518,000, which leaves $552,000 in the GRAT. If the GRAT also earns 7 percent in the second year, the GRAT will have $590,500. The result is that $72,500 will go to the children or other beneficiaries.

If the market staged a rally sometime in the first or second year, the amount going to beneficiaries would be much greater. If the GRAT earned a 30 percent return in the second year, the GRAT would have $717,000 prior to the second payment and $199,400 would be left over for the children. If the 30 percent return occurred in the first year, approximately $318,600 would be left.

The grantor could achieve a similar result even if the return happened in the second year by putting the $520,000 from the first year into a new GRAT.

This technique is referred to as a “rolling GRAT” and makes it so the donor can catch the market rally whenever it occurs. If the market does not go up at all during the two-year period, all of the GRAT would be paid back to the donor. By using the rolling GRAT technique, the donor knows that whenever the market does go back up, they will be able to take advantage of the increase.

By raising the minimum timeframe to 10 years instead of two, it will be more difficult for people to take advantage of a rolling GRAT.

“There is a benefit of doing short GRATs because it depends on market volatility,” said Mr. Donovan. “Over 10 years prices level out, and that is not too good for this technique.”

Also, you have to outlive the term of the trust to make it work, so the shorter the GRAT term, the more likely the grantor was to live throughout the term.

“This is time-sensitive because the proposed estate tax changes this technique. Now is the time to use a GRAT,” said Mr. Donovan.

In addition to the length of time, the interest rate is low, and assets can be discounted, which is also subject to change.