Lemons to Lemonade: Estate Planning Under Current Economic Conditions

When looking through an estate planners lens at current economic conditions, a historically low-interest rate environment offers a unique, yet proven opportunity to transfer significant wealth to future generations.

Four alternative options that are predicated on future market recovery to leverage low-interest rates to achieve current estate, gift and in some cases income tax savings:

  1. Grantor Retained Annuity Trusts (GRATs):
    A GRAT is where a grantor contributes assets to a trust and is re-paid the full value of the initial contribution plus a fixed rate of return over a fixed number of years (the annuity). This rate, called the 7520 rate, for May is historically low at 0.8%. The appreciation of the underlying assets above this low rate then transfers to the ultimate beneficiaries (often family members) at the end of the trust term estate and gift tax-free. For a more detailed explanation on GRATs and how gift and estate tax savings are achieved, as well as how GRATs are structured, please refer to our recent post.
  2. Sales to Intentionally Defective Grantor Trusts (IDGTs):
    Arguably a more advanced tool with certain steps needed to establish the IDGT first, a sale of an asset to an IDGT is equally effective. An IDGT is a disregarded entity for income tax purposes meaning the grantor is taxed on all earnings by the trust on his or her personal return. A grantor can sell an asset(s) to the IDGT in exchange for a promissory note without creating capital gains taxes. The note with a historically low-interest rate will ‘freeze’ the value of the asset transferred to the Trust allowing for virtually all appreciation after the sale to accumulate estate tax-free. The interest payments to the grantor, albeit at the low rate, are not considered taxable income either.
  3. Charitable Lead Annuity Trusts (CLATs):
    Much like a GRAT in terms of theory, a CLAT has an annuity payment directed towards a charity during the lifespan of the trust as opposed to the grantor. At the end of the term, the remaining property along with any appreciation over the required rate of return on the initial contribution is transferred to the remaindermen, often the family members of the grantor. There are separate income tax filings for this type of trust although there is the silver lining of a charitable donation for the grantor based on the present value of the annuity stream. The opportunity for the trust assets to exceed the growth required under the low 7520 rate leads to a higher value passing estate tax-free to the ultimate beneficiaries.
  4. Intra-family loans:
    Perhaps self-explanatory, lending to family members can be accomplished at very low, preferable rates much like other types of mortgage and business financing minus the administrative costs from professional lending. It is important the debt be structured, documented and serviced fully. Interest on the principal is taxable income to the lender. These intra-family loans can also be forgiven over time further limiting the gift and estate tax consequences to lending.
If you have any questions or request assistance, please contact a member of Withum’s Private Client Services group.

These wealth transfer tools have been used and recommended often by estate planners over the past fifteen years, including throughout the 2008 economic crisis while the Fed held interest rates low and during the continuous growth of the federal estate and gift tax exemption to its current level of $11.58 million. If the last 15, 30, or even 100 years are any indication of things to come, the current economic conditions will shift and the low-interest-rate environment will not remain forever. It is important to speak with your estate planning team and determine if any of these options are appropriate for your personal estate plan.

Author: William Thomas, CPA | [email protected]

Private Client Services

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