How to Use Your Estate Plan to Save on Taxes Even with Interest Rates So Low
By: Barry E. Haimo, Esq.
November 19, 2020
Due in part to COVID-19 economic recovery efforts, interest rates are at a historic low right now. This has created a number of estate planning opportunities for the savvy. Proactive wealth transfer in the current economic climate can lock in significant benefits for future generations.
Depending on the specific circumstances of your estate, a number of strategies can be used to take advantage of current interest rates.
Intra-family loans can be used to benefit family members by allowing financing at below-market rates, which in the current economic climate are quite low.
The minimum interest rate required to avoid gift taxes is the Applicable Federal Rate, which the IRS publishes monthly. There are three rates: for short-term (<3 years), mid-term (3-9 years), and long-term (>9 years) loans.
As of this writing, current short-term rates are 0.14%, mid-term rates 0.38%, and long-term rates 1.12%. This time last year, the rates were 1.69%, 1.51%, and 1.86%, respectively. Clearly a significant decrease, especially for short-term loans.
Sale to Grantor Trust
Selling assets to a grantor trust is another estate-planning strategy that can be used to take advantage of low interest rates. Generally, the grantor will sell assets to a grantor trust in full or partial exchange for a promissory note. The value of the assets are frozen on the date of the sale.
If assets sold to the trust generate income at a rate higher than that of the loan interest rate, the additional appreciation shifts to the trust’s beneficiaries free of estate and gift tax. The current low interest will allow significant estate and gift tax savings from a seller-financed sale to a grantor trust.
Grantor Retained Annuity Trusts (GRATs)
Establishing a Grantor Retained Annuity Trust (GRAT) is an effective strategy for transferring assets to beneficiaries while minimizing estate and gift taxes.
In a GRAT, you would transfer property to a trust, but retain the right to annuity payments for an established term of years, usually 2-5 years. The computation must zero out at the end of the term, and at that time the remaining trust passes to designated beneficiaries, such as family members — again, free of estate and gift tax.
If the rate of the assets’ appreciation is greater than the IRS interest rate, a higher value of trust escapes estate and gift taxes (i.e. a balance greater than 0). Therefore, the lower the IRS interest rate, the more effective a GRAT transfer is.
Gifting Assets with Depressed Values
Assets that currently have a low valuation but are expected to appreciate can be transferred to beneficiaries using trusts.
Although the transfer will use a portion of your gift tax exemption, the amount is based on the property’s current value on the date of the transfer. Once it is transferred, any appreciation of the asset’s value is no longer taxable to your estate.
Assets such as marketable securities, which have significantly declined in the current economic climate, should be gifted now in order to take advantage of their current low valuation, which is expected to increase.
Barry E. Haimo, Esq.
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