Grantor Retained Annuity Trusts (GRATs)
A Grantor Retained Annuity Trust (GRAT) is an irrevocable trust that allows the grantor to transfer assets into the trust while retaining the right to receive annuity payments for a specified period. The primary purpose of a GRAT is to minimize gift and estate taxes on the transfer of assets to beneficiaries.
In a GRAT, the grantor specifies an annuity payment amount, which is typically calculated based on the fair market value of the assets contributed to the trust and an interest rate set by the IRS (known as the Section 7520 rate). After the trust term ends, any remaining assets in the trust are transferred to the beneficiaries, potentially allowing for significant tax-free appreciation if the trust assets perform well.
For example, if a grantor places $1 million in a GRAT and retains an annuity payment of $100,000 per year for 10 years, the remaining value of the trust at the end of the term can be passed on to the beneficiaries without incurring gift tax, provided the investment growth exceeds the IRS’s assumed rate of return.
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