Do I Need a Generation-Skipping Trust?
A generation-skipping trust is an estate planning tool that allows you to transfer assets to grandchildren or more remote descendants. However, there are important tax implications to consider when making these transfers. In this article we will explore the basics of the generation-skipping trusts and the generation-skipping tax.
Why Create a Generation-Skipping Trust?
A generation-skipping trust can assure that assets are held in a family for at least two generations. A trust providing for grandchildren can give the creator of the trust a sense of comfort knowing that hard-earned assets are preserved in the family. A generation-skipping trust can also be a useful tool in minimizing estate taxes.
What is the Generation Skipping Tax?
The generation-skipping tax (GST) applies to any transfer that skips a generation. For example, a grandparent to a grandchild. It also applies to transfers to anyone who is younger than you by at least 37 ½ years. The GST applies in addition to any estate or gift tax owed. However, there is a general exemption from the GST equal to the unified gift and estate tax exclusion amount, which is currently $12.92 million dollars (2023).
The GST was designed to prevent families from circumventing the estate tax. Every time an estate passes to the next generation through a will or trust, the federal government imposes an estate tax on the transfer. Fortunately, the current estate tax exemption is 12.92 million dollars. Thus, any estate under the 12.92-million-dollar exemption does not pay the estate tax. However, any estate valued over the exemption will be taxed at a 40% rate. In order to prevent wealthy families from passing assets directly to grandchildren, thus avoiding one generation of estate taxes, the GST implements an additional tax to simulate those assets passing through each generation.
For example, imagine a family with $1,000,000 in a world where there are 0 estate tax exemptions. In this example, there are three generations of family members: the grandparents (G1), the children (G2), and the grandchildren (G3). When G2 inherits the money from G1, a 40% estate tax would be imposed. When G3 inherits the money from G2, another 40% estate tax would be imposed. Thus, the estate tax is imposed twice as the money transfers down through each generation. If the GST did not exist, G1 could pass the assets to G3 directly, circumventing the imposition of one layer of the estate tax (the 40% imposed on the transfer from G2 to G3). The GST imposes an additional level of tax on the direct transfer from G1 to G3. G1 will pay the estate tax and the GST on the direct transfer to G3. The GST simulates the taxes that would have occurred had the assets transferred from G2 to G3.
As mentioned above, there is a lifetime exemption for the GST that mirrors the unified gift and estate exemption. The lifetime GST exemption allows for trusts to be crafted in a way in which assets pass to children for their lifetime enjoyment, and ultimately pass to grandchildren, minimizing estate taxes at the children’s level. However, these trusts can be complex and can lack flexibility.
6 Major Takeaways for Generation-Skipping Trusts
- Generation-skipping trusts allow settlors of a trust to pass assets to more remote generations
- The GST tax applies to transfers that skip generations
- The GST exemption mirrors the unified gift and estate tax exemption
- The current GST exemption for 2023 is $12.92 million
- Transfers to anyone who is at least 37 ½ years younger can trigger the GST
Generation Skipping Trusts can be complex. If you are considering estate planning, our experienced team of attorneys at Naimish & Lewis, APC can help you navigate the complexities of GSTs, probate, trusts and estates administration, conservatorship, and guardianship. Our team provides personalized, high-quality legal services to ensure that your estate planning goals are met. Contact us today to schedule an initial consultation.
