“Due to recent tax law changes, your family may be able to avoid adverse federal estate tax consequences when you leave assets to your adult children.”
The unified estate and gift tax exemption increased from $5 million to $10 million, with inflation indexing stands at $12.06 million in 2022. A married couple can shelter as much as $24.12 million from the federal estate tax. However, what about assets you gift or leave in your will to grandchildren, asks a recent article titled “Beware the Generation-Skipping Transfer Tax” from CPA Practice Advisor.
Without proper estate planning, the Generation-Skipping Transfer Tax (GSTT) may be imposed on families who aren’t prepared for it. There are some strategies to work around the GSTT. However, you’ll need to get this done in advance of making any gifts or before you die.
The GSTT was created to prevent wealthy individuals from getting too far around the estate and gift rules through generation-skipping transfers, as the name implies. A simple explanation of the tax is this: the tax applies to transfers to related individuals who are more than one generation away—that would be grandchildren or great grandchildren—and any unrelated individuals more than 37 ½ years younger. They are known as “skip persons.”
Transferring assets to a trust and naming grandchildren or a much younger person as the ultimate beneficiary doesn’t work to avoid the GSTT. If you took this route, all of the trust beneficiaries, which could also be adult children, would be treated as skip persons. Even the trust itself may be considered a skip person, in certain circumstances.
The rules for the GSTT are the same as apply to federal estate taxes. The top tax rate for the GSTT is 40%, the same rate for federal estate taxes. The GSTT also shares the same exemption rate, indexed for inflation, as the federal estate tax.
However, remember what’s coming. In 2026, the exemption is scheduled to revert to $5 million, plus inflation indexing. If Congress enacts any other legislation before then, it will change sooner.
There’s more. There is a GSTT exemption for lifetime transfers aligned with the annual gift tax exclusion. You may gift up to $16,000 per recipient, including a grandchild or other descendent, every year, without triggering a GSTT bill.
Talk with your estate planning attorney to see if these three strategies are appropriate for you to avoid or reduce the GSTT:
- Make the most of the GSTT exemption. Even though lifetime transfers do reduce the available estate tax shelter, the current $12.06 million exemption provides a lot of flexibility.
- You can use the annual gift tax exemption to shelter tax gifts up to $16,000 above and beyond the lifetime exemption. Use this before the lifetime exemption.
- Always look to see how trusts within the usual tax law boundaries can be used to protect assets from taxes.
Reference: CPA Practice Advisor (June 3, 2022) “Beware the Generation-Skipping Transfer Tax”