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The Proper Path to Integrated Wealth Management, Pt. 1: Trusts

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Preservation and growth of invested capital, tax planning and wealth transfer are common wealth management goals of high-net-worth wealth owners. Integrated wealth management employing the collaborative efforts of a multidisciplinary team (MDT) of professionals (investment advisory, tax, estate planning, philanthropy and risk management) can achieve efficiencies and increase the probability of reaching these goals in the oversight and management of a client’s wealth. 

In this installment, the first in a series on how to help your high-net-worth clients achieve those goals through an MDT, we will focus on trusts. 

The Value of Trusts
Why do wealthy families create and use trusts? Usually it’s for one of these reasons: 

  • Trusts separate legal and equitable title to assets. They place asset management decisions in the hands of an experienced trustee who often also has discretion to make decisions regarding who should receive distributions from the trust, the amounts of such distributions and the timing of when they should occur.
  • Trusts allow a wealth owner to make transfers during lifetime or at death for the benefit of beneficiaries who may be young, immature or otherwise incapable of managing those assets for themselves. 
  • Trusts can protect assets for the future use and benefit of trust beneficiaries and shield the assets from potential creditors, including divorcing spouses.
  • Trusts can provide gift and estate tax benefits by allowing someone to benefit from an asset or its income but not own the asset for estate tax purposes. 
  • Trusts can provide for the future growth in an asset to pass without gift taxes to designated beneficiaries. 

A Closer Look at GRATs
Let’s explore one specific trust example, the Grantor Retained Annuity Trust, or GRAT. 

A GRAT is a frequently used estate planning vehicle. It is an irrevocable trust designed to transfer future appreciation of an asset without gift or estate taxes, after the grantor has received all payments of a reserved annuity payable from the GRAT assets for a period of years. If the annuity is structured to have a present value (using the IRS prescribed interest rate) equal to or only slightly less than the value of the assets contributed to the GRAT, the upfront taxable gift on creation of the GRAT is zero or extremely small.

If the assets in the GRAT appreciate at a rate higher than the modest interest rate prescribed by the IRS, the excess appreciation, if any, passes at the end of the annuity period free of gift taxes to the grantor’s intended beneficiaries (or to continuing trusts for their benefit). If the GRAT assets fail to outperform the IRS interest rate, the assets will all come back to the grantor in the form of annuity payments and another GRAT can be attempted, if desired. 

A multi-disciplinary team assisting the client can enhance the effectiveness of GRAT planning by working together to recommend, create, maintain and administer GRATs.  Attention should be paid to initial asset allocation, valuations of GRAT assets and frequent review of asset performance to identify opportunities to lock in GRAT success (or failure, to be followed by another GRAT with the now depressed assets) as asset values fluctuate.  

Roles of the MDT
How might the differing roles of the members of the multidisciplinary team play out? 

  • The MDT should look for opportunities to recommend GRATs for appropriate clients. 
  • The investment advisory professionals on the MDT can select appropriate assets for each GRAT, set up custodial accounts and fund each GRAT, with due regard for the requirement that each GRAT only have a single funding. 
  • Ongoing review of GRAT performance by the MDT may uncover opportunities to “lock in” significant gains in a GRAT. With effective coordination among the members of the MDT, the substitution of stable assets (such as bonds) from the grantor in exchange for appreciated, more volatile GRAT assets in a successful GRAT can be implemented quickly.
  • The tax advisors on the MDT will prepare the computations of the gift element upon creation of the GRAT and will prepare and file appropriate gift tax returns to report the gift following the funding of each GRAT. 
  • New GRATs can be anticipated, created and funded with assets swapped out of successful or failing GRATs or with annual annuity distributions coming out of each GRAT. 
  • The MDT should develop and maintain a calendar tickler system of GRAT annuity payment due dates and regularly review these deadlines to prepare for each annual annuity payment. 

Future installments in this series on how multidisciplinary teams can meet the goals of your HNW clients will discuss high-end tax planning and transfer strategies.