With a grantor-retained annuity trust (GRAT), it may be possible to pass assets onto your beneficiaries while you're alive without triggering potentially costly gift and estate taxes.
A grantor-retained annuity trust (GRAT), also called a GRAT trust, is a type of irrevocable trust that can be used to pass assets onto your beneficiaries in a tax-efficient manner. It works like this: When you establish a GRAT, you fund the trust with assets that you expect to significantly appreciate in value. Then, over the term of the trust, you receive payments that will equal the original value of those assets, plus interest. When the present value of the payments is equal to the fair market value of the assets transferred to the trust, this is called a "zeroed-out" GRAT. Once the GRAT's term expires, any assets remaining in the trust are passed on to the trust's beneficiaries. This transfer does not trigger gift or estate taxes.
A GRAT can be a powerful estate planning tool when designed correctly and used in harmony with your broader financial plan. To determine whether or not a GRAT is right for you, it's important to know the pros and cons of these trusts:
A GRAT allows you to pass assets to your heirs during your living years while avoiding the estate and gift taxes. This can be particularly powerful when used to pass assets that could appreciate significantly.
Even after putting assets into a GRAT, you're able to swap them out for assets outside of the trust—which could be ideal in some circumstances.
In order for a GRAT to be an effective means of wealth transfer, the trust's underlying assets must have appreciated during the term of the GRAT.
If you die before the GRAT's term runs its course, the underlying assets become a part of your estate—potentially triggering expensive estate taxes.
Any income-producing assets you expect to appreciate faster than the IRS's hurdle rate can be good candidates for funding a GRAT. Some examples include: Real estate, private equity investments, startup investments, pre-IPO shares and shares of a family business. It can also include traditional assets (such as marketable securities).
The length of a GRAT's term can vary, depending on your needs. It can be as short as two years or as long as 20 or even 30 years. As noted above, however, longer terms can come with risks. If you die before the GRAT has run its course, the assets become part of your taxable estate, negating the tax benefits of a GRAT. For those interested in a long-term GRAT strategy, creating a GRAT ladder (or rolling GRAT) that includes multiple shorter GRATs may be a better option.
Anyone who owns assets that are expected to appreciate in value (and could be subject to the estate tax) could benefit from a GRAT trust to minimize tax liability and pass a greater share of wealth to their heirs. Whether or not a GRAT makes sense for you will ultimately depend on your financial and family situation, the types of assets you hold and your tax liability.
Estate planning serves many functions. One of the most important of those functions is minimizing the tax liability of your estate. GRATs can be extremely powerful and effective tools in minimizing liability and maximizing what you're able to pass on.
Northwestern Mutual offers a variety of estate planning services, which may include advice on a trust as part of your financial plan as well as helping manage investments held within a trust. Our advisors can coordinate with your attorneys as you establish trusts, such as GRATs. Reach out to your financial advisor to learn how a GRAT could fit into your broader financial plan.
This publication is not intended as legal or tax advice. Neither Northwestern Mutual nor its Financial advisors render tax advice. Consult with a tax professional for tax advice that is specific to your situation.
Get matched with a financial advisor in four easy steps.
The Northwestern Mutual difference
No. 1 ranked insurance company for consumer experience
Best life insurance company for consumer experience, 20231
A++ financial strength rating
AAA, Aaa, and AA+—we've earned the highest financial strength ratings awarded to life insurers from all four major rating agencies.2
Your advisor is here to help you understand all of your estate planning needs, whether that includes establishing a will, powers of attorney, advanced directives, GRATs, or other types of trusts.
It's easy to get started—no commitment, just a conversation.
