Utilizing Grantor Retained Annuity Trusts in a Low-Interest-Rate World

Jun 10, 2020   Print PDF

By Saul S. Tilden | Related Practice: Estate Planning & Administration

Even before people around the world began dealing with the reality of COVID-19, interest rates were at a recent low. For May 2020, the long-term annual AFR rates are as follows: long-term 1.15%, mid-term .58%, and short-term .25%. One common estate planning strategy is the use of Grantor Retained Annuity Trusts (“GRATs”). This strategy is even more effective when interest rates are low.Two people reviewing financial documents

A GRAT is an estate planning vehicle in which the Grantor (the creator of the trust) places assets in an irrevocable trust in return for the right to receive annuity payments over the term of the GRAT. At the end of the trust’s term, typically the Grantor’s life, trust assets pass to the Grantor’s beneficiaries. The benefit is that any appreciation in the assets transferred out of the Grantor’s estate and into the GRAT will pass to the GRAT’s beneficiaries estate tax free. For this reason, highly appreciable assets should be transferred into the GRAT. The annuity must pay interest out to the Grantor at least at the AFR rate at the time of the GRAT’s creation. When interest rates are low, this strategy is particularly effective. The key is that, over the GRAT’s  term, the appreciation in trust assets needs to “beat” the annuity payments out to the Grantor. This technique allows the Grantor to “freeze” the value of an appreciable asset and use their lifetime estate tax exemption based on the asset’s current value, rather than its appreciated value. This can be a very useful tool for those clients who expect to pay estate tax. 

If a client is already the Grantor of a GRAT, the current economic climate may provide an opportunity to maximize the benefit of the GRAT. In order to create a GRAT, the Grantor must retain one of a certain handful of powers. These powers include the power to revoke the trust, the power to borrow trust assets without adequate security, and, commonly, the power to substitute trust assets out for assets of equal value. If you currently have a GRAT which contains such a “substitution power,” this may be a good time to consider exercising that power. If a Grantor possesses assets which currently have artificially depreciated values, it may be a good time to substitute them into the GRAT in exchange for assets that have not experienced significant depreciation. When the depreciated assets recover in value, that appreciation will escape estate tax upon the Grantor’s death. 

If you are interested in setting up a Grantor Retained Annuity Trust or are interested in reviewing a currently existing Grantor Retained Annuity Trust, we at Stokes Lawrence would be happy to assist. Please contact a member of the Stokes Lawrence Estate Planning Group.