Now that the Obama administration is in place, the uncertainty regarding the future of the federal estate tax may soon be resolved and that resolution almost certainly includes the estate tax being here to stay. If your estate exceeds the $3.5 million lifetime exclusion you need to be proactive and take steps that will minimize the impact of this tax on your estate or else your estate will be paying the government 45 cents for every dollar above $3.5 million. Certain strategies are particularly attractive when asset values have decreased and interest rates are low, as they are today.

One estate planning technique that can be very effective is the grantor retained annuity trust or GRAT. With this approach, you transfer investments, a business interest or other assets to an irrevocable trust. You then receive annuity payments from the trust for a specified period. At the end of that time, the assets remaining in the trust pass to your named trust beneficiaries. When you transfer assets to the GRAT, you are making a gift for tax purposes, however you are not taxed on the present value of the annuity interest since you are keeping those payments for yourself. Additionally you can use your lifetime gift-tax exclusion, currently $1 million, to avoid or reduce tax on the gift of the trust remainder.

Setting up a GRAT when interest rates are low results in a higher value being assigned to the annuity stream. That, in turn, results in a lower taxable gift of the remainder. An additional benefit occurs when asset values increase again because the future appreciation associated with the trust assets will not be subject to gift tax. As long as you survive the annuity term, the value of the assets you’ve transferred will not be included in your estate.

If you’re like me, you’d have to read that paragraph about 6 time to even comprehend what it means.  So let’s simplify: You take an asset, something you bought a long time ago for not a lot of money and today is worth a whole lot more than you got it for and put it into a special trust, the GRAT.   Now the point is that you want your beneficiaries to get it at some point in the future.  Well, we can give it to the GRAT, but the GRAT has to give you an income stream in return, the annuity.  At the end of the annuity term, the asset in the GRAT isn’t considered part of your estate and therefore not subject to the $3.5 million dollar exclusion.  Nice!

The easiest way to reduce your estate is to simply give pieces of it away.  The gifting strategy for reducing the value of your estate is to make gifts that are protected from tax by the gift-tax annual exclusion, currently $13,000 per recipient per year. Since many asset values have temporarily decreased, you should still look at the glass half-full because it enables you to give away more assets to loved ones on a tax-free basis. Another possibility you might consider is loaning your child money. You will have to charge interest at an IRS-prescribed rate, but that rate is currently low. And, to shrink your estate, you can forgive up to $13,000 of the loan each year, which is the extent of the gift-tax annual exclusion.

These are two of many ways to plan your estate in order to minimize the federal estate tax and prevent the federal government from taking 45% of everything you pass along to your loved ones that exceeds the $3.5 million lifetime exclusion.  To help avoid imposing such a significant tax burden on your family contact our office today (858-384-5757 or info@yourtotalestateplan.com) to schedule an appointment so we can discuss strategies that will work for your family.