9011 / How can a grantor retained annuity trust be used in family business succession planning?
Trust entities can be useful in business succession planning, whether the trusts are revocable or irrevocable. The two forms of trust are not mutually exclusive, and in many instances, a succession plan may contain more than one trust entity. The decision to have one or both depends on the business owner’s goals, how much control the senior generation wants, when the assets will be transferred to the heirs and other restraints that are imposed.
A grantor retained annuity trust (GRAT) is an irrevocable trust to which the business owner transfers shares in his business while retaining the right to a fixed annual annuity payout for a stated term of years.
Planning Point: In response to a comment on the IRS’s proposed GRAT regulations, the final regulations include and use interchangeably both the term “GRAT” (which does not appear in the statutes or the regulations) and its Treasury Regulation citation, § 25.2702-3(b).1
At the end of the term, the property remaining in the GRAT (the appreciation and income in excess of the annuity amount that is to be paid to the business owner) will pass to the trust beneficiaries (often the owner’s children or grandchildren). Only the value of the remainder interest is subject to gift tax.
The amount of the taxable gift to the beneficiaries can be reduced by structuring the trust with a larger annuity payout or a longer stated term. Further, the value is dependent on the IRS Section 7520 interest rate in effect at the time the trust is established—a lower interest rate can also reduce the value of the taxable gift.