Falling Interest Rates Put Some Planning Techniques In Play
In todays falling interest rate environment, some sophisticated planning techniques, such as Grantor Retained Annuity Trusts (GRATs), can actually mean improved benefits for many clients.
GRATs and other split-interest trusts and installment transactions–such as charitable lead trusts (CLTs) and private annuities–are powerful tools in the financial planners universe of solutions. These techniques are even more effective in times of falling interest rates.
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A GRAT is an asset-transfer technique in which an individual transfers an asset to a Grantor Retained Annuity Trust for a term of years, with the remainder passing to an individual or trust. GRATs are powerful estate-freeze tools, because they can be structured so that the income payments from the GRAT constitute a return of principal, with the growth being transferred to the GRAT beneficiary at a discount.
GRATS, along with Charitable Lead Annuity Trusts (CLATs), Charitable Remainder Annuity Trusts (CRATs), Grantor Retained Income Trusts (GRITs) and private annuities, rely on tables issued by the Internal Revenue Service to determine the value of interests retained or gifted.
These tables are published by the IRS in the third week of every month. They include the Applicable Federal Rates (AFRs) and the “7520 rate.” The 7520 is a calculated rate equal to 120% of the applicable federal mid-term rate rounded to the nearest 2/10 of a percent. Values in these tables may change monthly.
Lower 7520 rates mean the gift tax value of the remainder in a GRAT is lower. With the 7520 rate at 5.6% for October 2001, for example, a 65-year-old man can transfer $1 million to a trust and receive an annual payment of $70,000. At the end of 10 years, the remainder of the trust property passes to his daughter. The value of the fathers total retained annuity interest is $473,641. The gift to the daughter is $526,359.
By comparison, if this man had made the transfer in March 2000, when the 7520 rate was 8.2%, he would have had a total retained annuity interest of $422,030. The gift to his daughter would have been much larger–$577,970.