6. Generation-Skipping Transfer Tax

Question 1

generation-skipping transfer

Answer 1

transfer of property by gift/death to any person who is 2/+ generations below that of transferor (to skip person): A skip person may or may not be related to the transferor. If a gift is made to a non-relative who is 37 ½ years younger than the transferor, the donee is considered a skip person and the transfer is subject to a generation-skipping transfer tax (GSTT).

can be through will or GST: in and of itself the revocable trust may not be a generation-skipping trust, however, the testamentary trusts created within the revocable trust may in fact be GST trusts.

Question 2

Types of GSTs

Answer 2

-Taxable Distribution: Any distribution of income or corpus from a trust to a skip person that is not otherwise subject to estate or gift tax
-Taxable Termination: A termination by death, a lapse of time, the release of power, or otherwise of an interest in property held in a trust resulting in skip persons holding all the interests in the trust
- Direct Skip: A transfer subject to an estate or gift tax made to a skip person

Question 3

Circumstances when GST techniques may be useful

Answer 3

• client has wealthy children: Create a trust where the children are the lifetime income beneficiaries of the trust, and the remaindermen are the grandchildren. This would give the children the use and enjoyment of the inherited property, together with protection against creditors, divorce, courts, or bankruptcy. Although the client may pay gift or estate tax, the children would not pay estate tax or GST tax on the exempt inherited property at death. No estate tax or GST tax is paid by the children, or future issue (depending on the term allowed for the trust) unless the allocation of the GST exemption was not properly made.
  -client wants to minimize transfer taxes in a child’s estate but still wants to give the child the use and benefit of the estate, or a client wants to protect property from a spendthrift child or from being subject to loss through a child’s divorce or bankruptcy: Create a GST trust to provide income to children for life, but preserve principal for subsequent distribution to grandchildren
  -client wises to make direct transfer to grandchild/another skip person for immediate benefit: make gift directly to grandchild/skip person

Question 4

How GSTs are made

Answer 4

If asset value > GST exemption, then client may want to divide assets within trust into exempt and non-exempt portions.

Dynasty trusts allow property to be passed through multiple generations without being depleted by GSTT

Exempt trust would receive assets to which transferor’s GSTT exemption has/will be allocated, usually with assets with high-appreciation potential since appreciation is exempt from GSTT

Question 5

Inclusion ratio

Answer 5

-0: then 100% immunity from GST
-50/50 then one half is immune and the other half is subject to GST Tax
-1: all taxable distributions and taxable terminations will be fully subject to the GST tax

Amount of GSTT exemption allocated/[value of transferred property-(fed est or death taxes + charitable deductions)+

Question 6

Who may be considered a skip person?

Answer 6

grandchildren, great-grandchildren, grand-nieces, and grand-nephews. The skip person may or may not be related to the transferor. If a gift is made to a non-relative (not a wife) who is 37 ½ years younger than the transferor

trust may be a skip person if all beneficiaries holding interests in the trust are skip persons, or no person holds an interest in the trust, but no distributions could be made to nonskip persons. If a trust is a skip person, its beneficiaries are not assigned to a generation.

Question 7

taxable amount

Answer 7

amount to be multiplied by the applicable rate, depends on whether the transfer is considered a taxable distribution, a taxable termination, or a direct skip.

Question 8

generation assignment

Answer 8

-Transferor’s Generation: Siblings, spouse, siblings’ spouses, cousins:
Unrelated- Not more than 12 ½ years younger

-Intermediate Generation: Children, nieces, nephews, and their respective spouses: Unrelated- Between 12 ½ and 37 ½ years younger

-Skip Persons Generation: Grandchildren, great-grandchildren, and their respective spouses: Unrelated- More than 37 ½ years younger

Question 9

predeceased child exception

Question 10

taxable distribution

Answer 10

net value of the property received by the skip person less any consideration paid (expenses incurred w collection/refund of GST tax and any consideration paid for the distribution)

transferee obligated to pay GST tax in taxable distribution and can deduct on personal income tax return. If trust pays tax, then payment treated as additional taxable distribution to GST tax

Question 11

Taxable Termination

Answer 11

termination by death/lapse of time/release of a power, or otherwise of an interest in property held in a trust resulting in skip persons holding all the interests in the trust.

Occurs on date of parents’ death

Can’t occur if at least one nonskip person has a present interest in the property

Question 12

taxable amount in the case of a taxable termination

Answer 12

value of all property involved minus deduction for expenses/debts/taxes other than GST generated by property and consideration paid by transferee

trustee responsible for payment

Question 13

Direct Skip

Answer 13

transfer subject to an estate or gift tax made to a skip person

Question 14

taxable amount of direct skip

Answer 14

taxable amount in the case of a direct skip is the value of the property or interest in property, including the current right to receive income or corpus or power of appointment, received by the transferee, reduced by any consideration paid by the transferee

transferor (the decedent in the case of a death time transfer or the donor in the case of a lifetime transfer) is responsible for payment of the GST tax in the case of a direct skip

tax-exclusive, paid by the transferor or the estate and the taxable amount does not include the amount of generation-skipping tax.

Question 15

Transfers excluded from GST

Answer 15

-Transfers made by gift that qualify as gift-tax free such as direct payments made for the donee’s tuition or medical expenses.
-Transfers that have already been subjected to the GSTT in which the transferee was in the same or lower generation as the present transferee.

Transfers in the trust will not qualify for the annual exclusion unless:
-only 1 skip person is beneficiary
-no portion of trust’s income/principal can be distributed
-trust assets will be included in grandchild’s estate

Question 16

Choose the transactions that are excluded from GST tax.

Answer 16

Gifts already subject to GST tax and the new transferee is the previous transferee’s son.
Tuition paid to a university for a skip person’s education.

Question 17

Applicable fraction

Answer 17

portion of GST tax exclusion / [val of property transferred-(fed est or state death tax recovered + charitable deduction allowed)]

Question 18

GST tax

Answer 18

Inclusion ratio x max fed estate tax rate x taxable amount

Question 19

Liability for Payment of GST Tax

Answer 19

• taxable distribution: amount received by transferee-expenses, paid by trustee
  -taxable termination: value of property in which interest terminates-expenses attributable to property, paid by trustee
  -direct skip: value of property received, paid by transferor

Question 20

Provisions for GST

Answer 20

-QTIP: Reverse Q-TIPS can be made by the executor to apply the decedent’s GST exemption to the Q-TIP GST trust.
-Taxation of multiple skips: Multiple-trust skips are taxed more than once. But if a direct skip is direct to a great-grandchild, two taxes are not imposed.
-Basis adjustments: In general, the basis is increased by an amount equal to the portion of the GSTT actually imposed which is attributable to the appreciation of the property transferred.
-Disclaimers: A disclaimer that results in property passing to a person at least two generations below that of the original transferor will result in a GSTT. For example, assume a daughter disclaimed a bequest from her mother. As a result of that disclaimer, certain property passes to the mother’s granddaughter. The GSTT would be imposed on the transfer - in addition to the federal estate tax.
-Return requirements: The GSTT return must be filed by the person liable for the payment of the generation-skipping tax. In the case of a direct skip other than a direct skip from a trust, the return must be filed on or before the due date of the applicable gift or estate tax return. In other cases, the GSTT return must be filed on or before the fifteenth day of the fourth month after the close of the taxable year in which the transfer occurs.
-IRC Section 303 can be used to make protected redemptions of stock to pay a GSTT.
-IRC Section 6166, which allows for installment payments of federal estate tax, allows deferral of the tax generated under a GST because of direct skips resulting at death.

Question 21

Recipients of income subject to the GST tax from trust distributions may take an

Answer 21

income tax deduction (similar to the IRD deduction under IRC Section 691) for the GST tax imposed on the distribution.

Question 22

Allocation of the GST Exemption

Answer 22

At the transferor’s death, where the executor or other person making the allocation fails to allocate the exemption, it is allocated automatically according to a statutory formula.

any unused exemption allocated first to direct skips occurring at the individual’s death on a pro-rata basis and then to any trusts from which a taxable distribution or termination could occur after the transferor’s death. Thus, the statutory order of allocation tends not to make optimal use of the allocation.

The GST exemption is not portable and cannot be transferred to the surviving spouse therefore spouses should incorporate GST planning into their estate plans.

Question 23

Provisions for Indirect Skip

Answer 23

-> 25% of the trust must be distributed to, or withdrawn by, nonskip persons prior to reaching age 46 (or a date or event prior to such birthday)
-> 25% of the trust must be distributed to, or withdrawn by, nonskip persons if they are living on the date of death of an individual named in the trust who is more than 10 years older than such skip persons
-If a nonskip person dies before a date or event described in (1) or (2), more than 25% of the trust must be distributed to such person’s estate or subject to a general power of appointment by such individual
-The trust would be includable in the gross estate of a nonskip person (other than the transferor) if the person died immediately after the transfer, or
-The trust is a CLAT, CLUT, CRAT, or CRUT with a nonskip remainder person.

Question 24

Effective Date of Allocation

Answer 24

Date of transfer

Question 25

Allocation Between Direct and Indirect Skip

Answer 25

-Taxable distributions and taxable terminations are tax inclusive
-direct skips are tax exclusive

Preferable to allocate to taxable distributions and taxable terminations

Question 26

Split-Gifts and the Reverse QTIP Election

Answer 26

an election can be made solely for GST purposes to treat the QTIP property as if no QTIP election was made at the date of gift or death, only applies to Q-TIP trusts (not A/POA/Estate trust)

If total value of QTIP trust>available GST exemption, the will/trust should provide for division of QTIP trust into two trusts

Question 27

GST rules for GRITs/ GRATs/GRUTs

Answer 27

Potsponement of exemption allocation until:
-actual GST transfer
-transferor dies
-property no longer included in estate

Question 28

Multi-Generational planning/Dynasty trust

Answer 28

permit distributions at least two generations below the transferor, where actual distribution of assets postponed to avoid estate tax for as long as law permits

Question 29

How to leverage GST exemption with ILIT

Answer 29

-Allocating exemption against discounted dollars that premiums represent when compared to value of insurance proceeds.
-Transferor and transferor’s spouse should be given no interest that would cause trust property to be part of estate
-property is not includable in estate of transferor’s spouse by withdrawal power >$5k/5%

Question 30

Planning transfers to trigger federal estate tax

Answer 30

Give GPOA over trust which would result in tax savings and make sure to only give power to appoint creditors of estate

Question 31

Exclusion for Nontaxable Gifts

Answer 31

Only nontaxable gifts that are direct skips would have a zero inclusion ratio. In addition, nontaxable gifts to trusts would not have a zero inclusion unless:
No portion of the trust could be distributed to a person other than a single beneficiary, and
If that beneficiary dies before the trust terminates, the trust assets will be included in his estate.
Annual exclusions are not available for Crummey withdrawal powers (GPOA over property subject to withdrawal)

Question 32

Determining whether to intentionally skip generations

Answer 32

GST tax cost should be compared to the estate/gift tax cost of transferring property to first generation children, should seek counsel of attorney

Question 33

When does GST tax apply?

Answer 33

-Transfers after 10/22/86 (except 2010)
- Lifetime transfers after 9/25/1985, and subject to gift tax are also subject to GST tax
-GST tax does not apply to transfer from irrevocable trust on 9/25/1985

Question 34

Constructive addition

Answer 34

Where general power of appointment is exercised /released/lapses over a portion of grandfathered trust

Question 35

Irrevocable trusts created < 9/26/1985

Answer 35

Exempts from GST tax system to the extent no additions are made

Question 36

How protect irrevocable life insurance trusts from GST tax

Answer 36

Allocate portion of GST exemption to each transfer made to trust / leveraging GST exemption

Question 37

Assuming a GST exemption is not allocated to a trust, which party is responsible for paying a GST tax when a distribution is made to a skip person beneficiary?

Answer 37

The beneficiary is obligated to pay the GST tax in a taxable distribution. The recipient can deduct the GST tax paid on the distribution on his own personal income tax return. The tax is tax inclusive, meaning the distributed amount is reduced by the amount of GST tax the beneficiary must pay.

Question 38

In the case of direct skips (other than a direct skip from a trust), the GST tax is on the value of the property received and is paid by the ____________.

Answer 38

In the case of direct skips (other than a direct skip from a trust), the GST tax is on the value of the property received, and the transferor pays it.

Question 39

Last year, Seth received corpus that was not subject to estate or gift tax. The trust was established by Seth’s grandfather, Milo. What type of GST transaction has occurred?

Answer 39

A taxable distribution is any distribution of income or corpus from a trust to a skip person that is not otherwise subject to estate or gift tax.

Since the trust was established by Milo, Seth’s grandfather, and Seth received a distribution of trust corpus, this transaction would be categorized as a taxable distribution.

Question 40

To maximize the use of one’s GST tax exemption, it is preferable to allocate it to which of the following?

Answer 40

taxable distributions and taxable terminations are tax inclusive whereas direct skips are tax exclusive. Since the net amount for the recipient of direct skips is exclusive of the tax, then, an allocation to direct skips tends to be wasteful. Therefore, in order to maximize the use of one’s GST tax exemption, it is preferable to allocate it whenever possible to what otherwise would be taxable distributions and taxable terminations.

Question 41

Once all or a portion of an individual’s exemption is allocated to a GST, all future appreciation on the property is designated to be _______.

Answer 41

exempt - When selecting assets that will be protected by the GST exemption, assets most likely to appreciate, such as equities, should be used.