Even estate planning professionals sometimes struggle with the generation skipping tax. The GST is an extra tax imposed–in addition to possible gift or estate tax–when there’s a transfer to grandchildren or to a family generation more remote than children. The current GST rate is 45%.
In 2009, the GST exemption is $3.5 million–up from $2 million in 2008. The bigger exemption makes some estate planning opportunities more attractive.
The GST applies to lifetime gifts or death-time transfers to any person who is two or more generations below that of the transferor. In the case of a death-time transfer, the GST can combine with the estate tax to reduce an amount intended for grandchildren by nearly 70%.
There are three types of transfers that are subject to the GST:
? Direct skips
? Taxable distributions
? Taxable terminations
Direct skips are transfers–by gift or at death–to one or more skip persons. A direct skip may be a transfer to a trust under certain circumstances. A taxable distribution occurs when a trust makes a distribution to a skip person, and the distribution is not subject to estate or gift tax. A taxable termination occurs when all beneficial interest in a trust, by passage of time or some other event defined by the trust, passes solely into the hands of one or more skip persons.
The GST exemption may be allocated to gifts held in trust. If the exemption is used to cover the entire value of the trust, the trust is said to have a zero inclusion ratio for GST purposes. Wealthy prospects might especially consider implementing strategies in 2009 to take advantage of the relatively large GST exemption.
Gifts to an ILIT
The simplest and most powerfully effective way to leverage the use of the GST exemption is to use life insurance.
During a married couple’s lifetime, the grantors might establish an ILIT that is for the benefit of grandchildren. To fund the ILIT, the spouses each use their annual gift tax exclusions–or gifts using the grantors’ lifetime exemption–to fund survivorship life insurance premiums to be paid by the trustee. A properly implemented ILIT keeps the life insurance out of the donors’ taxable estates.