Reduce your taxable estate with a grantor retained income trust (GRIT)

When you pass away, your estate is susceptible to gift and estate taxes, along with any other applicable taxes. If the value of your assets exceeds the current lifetime exemption amount for these taxes, they may be subject to a staggering tax rate of 40 percent. There are certain tools you can use to ensure this does not happen to your estate, one of which is a grantor retained income trust, or GRIT. This trust is often used by those with a fairly large estate to reduce the size of a potentially taxable estate. It provides its grantor with the additional benefit of being able to reap the income generated from the trust assets. Read on to learn more about this estate management tool.

How does GRIT work?

A grantor retained income trust is first established through a written trust agreement by the trust grantor. If you are the owner of the estate, the trust grantor refers to you.

While setting up the trust, you have to specify the number of years you wish to receive the net income from the trust assets. This period is also known as the “initial term.” You need to think carefully when choosing this period because just how significant the tax discount is depends on the length of the initial term. However, this does not imply that you can set the period as a large, arbitrary number; you have to outlive the term for the tax discount to apply to your estate. Keep in mind that you will still be taxed on the income you receive during the initial term, but the tax rate is just going to be your ordinary income tax rate.

After deciding on the initial term, you will choose how often you will receive the income from the assets. The frequency has to be at least annual but can be quarterly or monthly as well. 

You can then choose a trustee, who is responsible for managing the trust according to the terms you set while creating the trust. In the case of the GRIT, the trustee is also responsible for distributing the income generated by the assets to you according to the specific frequency and initial period you set. 

When all of this is set, you can transfer your assets into the trust. This transfer is synonymous with placing a gift (equal to the total value of the assets transferred) into the GRIT. When the initial term ends, these assets will pass on to the designated beneficiaries at a reduced gift tax value. In essence, the tax discount comes from the value of the principal held in the GRIT being excluded entirely from the grantor’s estate for federal gift and estate tax purposes.

After the transfer, you will enjoy the benefits from the income generated by the trust for the initial term. Once this term ends, the remaining assets in the trust can either be transferred to the beneficiaries or remain in the trust to be distributed at a later date. You, as the grantor, can decide when the beneficiaries are eligible to receive assets in the trust - for example, you may determine that the beneficiaries can receive it after their 18th birthday, upon graduation from college, and so on.

Selecting your beneficiaries

Unlike most other trusts, GRIT imposes certain limitations on who can be the beneficiary of the trust, according to the provisions in Section 2702 of the Internal Revenue Code of 1986. You cannot name the following people as your beneficiaries:

• your spouse.

• your siblings and their spouses, or your spouse’s siblings and their spouses. 

• your children or your spouse’s children.

• your parents or your spouse’s parents.

However, you can name the children of your siblings (nieces and nephews) or any other distant relatives as your beneficiaries. This is why the trust would be ideal for those who already have other trusts which benefit their spouses, children, or other immediate relatives.

You should definitely consider establishing a GRIT If you wish to minimize your taxes while still being able to benefit from your assets. But just keep in mind that you should be cautious throughout the process of establishing the trust, as it is irrevocable. This means that once you complete the transfer of assets, it is very difficult to make changes or “revoke” the action. 

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— Lucy Jung