Length of trust term

 

Enter the number of years the trust will exist.

 

Practice Pointer. Prior to the issuance of Reg. §20.2036-1, the IRS asserted that, if the grantor died during the term of the trust, the full value of the trust corpus as of that time was includible in the grantor's gross estate under Code Sec. 2039(b) (IRS Letter Ruling 9345035). Under this view, the grantor's death during the trust term would eliminate any benefit of using the GRAT. This required that the GRAT term be set for a period just long enough so there is little chance the grantor will not survive it, taking into consideration the grantor's health as well as actuarial tables when making this determination. Under Reg. §20.2036-1, the portion of the trust includible in the grantor’s gross estate would be equal to the portion of the trust corpus, valued as of the decedent’s death, necessary to generate the annual payment (or use) using the applicable Code Sec. 7520 interest rate. This would be the amount of the annual payment divided by the Code Sec. 7520 rate for the month of the grantor's death. (See Rev. Rul. 82-105, 1982-1 CB 133). The following example is derived from the regulations.

 

Example: Daniel Orr transferred $100,000 to a GRAT in which David's annuity is a qualified interest described in Code Sec. 2702(b). The trust agreement provides for an annuity of $12,000 per year to be paid to Daniel for a term of 10 years or until Daniel's earlier death. The annuity amount is payable at the end of each month in twelve equal installments. At the expiration of the term of years or on Daniel's earlier death, the remainder is to be distributed to Colleen, Daniel's child. No additional contributions were made to the trust after the initial transfer at the creation of the trust. Daniel dies prior to the expiration of the 10-year term. On the date of his death, the value of the trust assets was $300,000 and the Code Sec. 7520 interest rate was 6.0 percent. Daniel's executor did not elect to use the alternate valuation date. The amount of corpus with respect to which Daniel retained the right to the income, and thus the amount includible in his gross estate under Code Sec. 2036, is that amount of corpus necessary to yield the annual annuity payment to him. In this case, the formula for determining the amount of corpus necessary to yield the annual annuity payment to Daniel is: annual annuity (adjusted for monthly payments) / Code Sec. 7520 interest rate = amount includible under Code Sec. 2036. The Table K adjustment factor for monthly annuity payments in this case is 1.0272. Thus, the amount of corpus necessary to yield the annual annuity is ($12,000 × 1.0272) / .06 = $205,440. Therefore, $205,440 is includible in Daniel's gross estate under Code Sec. 2036(a)(1). If, instead, the trust agreement had provided that the annuity was to be paid to Daniel during his life and to his estate for the balance of the 10-year term if he died during that term, then the portion of trust corpus includible in Daniel's gross estate would still be as calculated as in this example. It is not material whether payments are made to Daniel's estate after his death.

 

It remains to be seen whether the position taken in the regulations will be beneficial to taxpayers except in circumstances where the trust investments have performed exceptionally well. Therefore, it is still recommended that the term of the trust be set so that the grantor has a high probability of outliving it.

 

A related point is that the grantor should not use a GRAT if he or she really needs the income it produces. The trust term will normally be set for a period of time that is significantly shorter than the grantor's life expectancy. This means that the grantor would ordinarily be expected to live for a significant period of time after the end of the trust term and would need other sources of income after the GRAT payments stop. As a practical matter, the assets transferred to a GRAT will typically be assets that are not currently contributing to the grantor's standard of living.

 

See also

Entering GRAT calculator information