Bryant - Course 6. Estate Planning. 6. Generation-Skipping Transfer Tax

Question 1

Module Introduction

Janus transferred a portion of his estate to his daughter Marie. In doing so, his estate was responsible for paying estate taxes. Years later, Marie left the money she received from her dad to her children. Again, the sum of money was subjected to estate taxes for the transfer.
* Before the implementation of the Generation-Skipping Transfer (GST) law, Janus could have transferred the amount to a trust for the lifetime of Marie with the remainder to her children. This would have meant the amount would only be subjected to estate taxes once, rather than twice.
* From a tax perspective, the GST tax ensures that transfers are taxed at each generation and cannot be skipped through the use of trusts.

Answer 1

Wealth transfer once meant the passing of assets to children. Individuals are increasingly interested in extending their assets across generations these days. Parents with wealthy children are passing their estate to their grandchildren, to their great-grandchildren—and sometimes even to generations beyond. Clients must be made aware of potential legal and tax ramifications, as well as estate planning strategies, for generation-skipping transfers to avoid incurring large tax expenses that could have been otherwise avoided.

The Generation-Skipping Transfer Tax module, which should take approximately four hours to complete, will explain the generation-skipping tax transfer and the planning implications associated with these transfers.

Upon completion of this module you should be able to:
* Identify a generation-skipping transfer, and
* Explain the tax implications associated with these transfers.

Question 2

Module Overview

Generation-skipping transfers are made either by a gift or bequest to a skip person or by establishing a trust which has a skip person as a beneficiary. Generation-skipping trusts are created within an individual’s will or trust. Generation-skipping transfer tax laws are complicated and need to be considered when planning on transferring substantial assets between multiple generations.

Answer 2

To ensure that you have a thorough understanding of generation-skipping transfer tax, the following lessons will be covered in this module:
* Generation-Skipping Transfer
* Tax Implications

Question 3

Section 1 - Generation-Skipping Transfer

Under federal law, a transfer of property by gift or at death to any person who is two or more generations below that of the transferor is called a generation-skipping transfer.
* A person who is two or more generations below that of the transferor is called a skip person.
* Generation-skipping transfers can be made through a will or by establishing a generation-skipping trust.
* If a generation-skipping trust is created as part of an individual’s will or revocable trust upon the death of the grantor, then it comes into existence only at the death of the transferor.
* Note: 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.

Answer 3

3 Types of Generation-Skipping Transfers:
1. 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
2. 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
3. Direct Skip. A transfer subject to an estate or gift tax made to a skip person

To ensure that you have a thorough understanding of generation-skipping transfers, the following topics will be covered in this lesson:
* What are they?
* When would they be made?
* How are they made?

Upon completion of this lesson, you should be able to:
* Define generation-skipping transfer,
* List circumstances when generation-skipping transfer techniques may be appropriate, and
* Explain how generation-skipping transfers are made.

Question 4

What is a generation-skipping transfer (GST)?

Answer 4

A generation-skipping transfer (GST) is any transfer of property by gift or at death to any person who is assigned to a generation that is two or more generations below that of the transferor, the transferor’s spouse, or ex-spouse.
* The donee or recipient of the gift who is two or more generations below the transferor is known as the skip person.
* Skip persons can be grandchildren, great-grandchildren, grandnieces, and grandnephews.
* However, if a grandchild’s parent has died, that grandchild is no longer a skip person. Instead, the predeceased parent rule applies and the grandchild takes his parent’s place in lineage.

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).

There is no special form of generation-skipping transfer. A generation-skipping transfer:
* Could simply be a gift or bequest to a skip person, or
* The establishment of a trust in which distributions will or may be made to a skip person.

If a grandparent is considered Generation 1 (G1), then his or her children are considered Generation 2 (G2), and his or her grandchildren are considered Generation 3 (G3).
* Gifts from the grandparent (G1) to the grandchildren (G3) are considered generation-skipping transfers.
* In this example, the grandparent is the transferor or donor.
* His or her children (G2) are considered the intermediate generation.
* The grandchildren in this case are considered skip persons.

Question 5

Exam Tip: Learn Generation-Skipping Transfer Tax (GSTT) basics audio

Generation-Skipping Transfer Tax (GSTT)
* Among the mega rich, it is not uncommon for the children to also have massive estates
* Long ago, a popular strategy became to skip the generation of their children at death or during life, and sending it on to the next generation - which eliminates estate tax for the children (intermediate generation)

Answer 5

• 1996 - Congress created the Generation-Skipping Transfer Tax (GSTT) - bc estate taxes of children were lost
• Additional tax that can apply when transfers are made during life or at death to persons who is 2 or more generations removed for original owner
• Instances when both estate and Generation-Skipping Transfer Tax (GSTT) are applied

Question 6

Match the categories on the right to the correct party listed on the left.
* Spouse
* Children
* Grandchildren

Same generation
Skip person
Immediate generation

Answer 6

• Spouse - same generation
• Children - immediate generation
• Grandchildren - skip person

Question 7

What are three circumstances when GST techniques may be useful?

Answer 7

The following are three circumstances when GST techniques may be useful:
1. A 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.
2. A 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 generation-skipping trust to provide income to children for life, but preserve principal for subsequent distribution to grandchildren.
3. A client wishes to make a direct transfer to a grandchild or another skip person for his or her immediate benefit. Make a gift directly to a grandchild or skip person.

Question 8

How are generation-skipping transfers made?

Answer 8

A generation-skipping transfer can occur during the transferor’s lifetime as a gift, or upon his or her death per direction from a will or a living trust.
* The transferor can give the assets to a skip person directly, or transfer the assets into a generation-skipping trust (which means family income trust or dynasty trust).
* This is a technique whereby assets are placed in trust for the benefit of the children, rather than passing to the children outright.

If the value of the assets that the client intends on transferring into a trust exceeds the GST exemption then the client may want to consider dividing the assets within the trust into exempt and non-exempt portions.
* The exempt portion would be funded with the GST exemption amount, and the non-exempt portion would be funded with the balance of the assets.
* The exemption amount is $12,920,000 (2023), indexed for inflation, for each transferor.
* Therefore, gift-splitting would increase a married couple’s exemption amount to $25,840,000 (2023) or more, depending on the actual indexed amount.

Question 9

What are Dynasty trusts?

Answer 9

Dynasty trusts are generation-skipping trusts that allow property to be passed through multiple generations without being depleted by generation-skipping transfer tax.
* In so doing, dynasty trusts provide a wealth-transfer mechanism through which parents and grandparents can achieve family-oriented goals, even after death.
* A simple generation-skipping trust is designed to reduce the effects of the generation-skipping transfer tax, bypassing the client’s children and passing wealth directly to the grandchildren.
* Thus, the assets are excluded from the estates of the bypassed generation.

Question 10

What is the exempt amount for generation-skipping transfer tax (GSTT)?

Answer 10

The exempt amount for generation-skipping transfer tax (GSTT) is available per transferor (not for each skip person) and is $12,920,000 per person (2023).
* An exempt trust would receive assets to which the transferor’s generation-skipping transfer tax exemption has or will be allocated.
* This is the trust which will pass free of the GSTT at the recipient’s death.

Note: GSTT is due when a skip person receives amounts in excess of GST exemption amount.
* Therefore, the amount in the exempt GST trust will pass to the skip person (it could be during his/her lifetime) without the imposition of GST tax.
* For example, if Joan died when the exemption amount was $12,920,000 and she bequeathed $15,900,000 to her only grandson in a trust, the exempt trust should hold $12,920,000 and the non-exempt trust should hold the remaining $2,980,000.

Question 11

Example (Exempt Trust)

Will future growth on assets be exempt from further GST tax?

Answer 11

As long as the assets within the trust are completely designated as exempt, all future growth will be exempt from further GST tax.
* Therefore, for optimal results planners prefer to fund the exempt trust with assets with the greatest appreciation potential.
* This allows the maximum amount of assets to pass to future generations without GST tax.
* Once the exemption is allocated to the trust, the appreciation of the assets within the trust is also exempt.

Question 12

Where should the value of assets passing into a trust which exceeds the GST exemption amount pass into?

Answer 12

Non-exempt Trust
The value of assets passing into a trust which exceeds the GST exemption amount should pass into a non-exempt trust.

Every trust has an inclusion ratio that determines the portion of each future distribution or termination that will be subjected to the GST tax.
* For example, an inclusion ratio of “zero” means that the trust is totally exempt from the GST tax.
* An inclusion ratio of “one” means that all taxable distributions and taxable terminations will be fully subject to the GST tax.
* An inclusion ratio of 50% means that one-half of all taxable distributions and taxable terminations will result in a GST Tax.
* The exempt and nonexempt trusts are established so that they have GST tax inclusion ratios of zero and one respectively.

When the exempt trust is established with an inclusion ratio of zero, the trust maintains its 100% immunity from GST tax as long as there are no later additions of nonexempt property.
* The same exempt/non-exempt structure would continue to apply to the trusts as they pass to the grantor’s grandchildren, great-grandchildren, and so on, the object being to preserve the exempt trust from transfer tax at each generation level.

Question 13

Section 1 - Generation-Skipping Transfer Summary

Generation-skipping transfers (GSTs) occur when estate property is transferred from an individual to a skip person either directly or through a trust. There are no formal requirements for this event to take place. In the past, wealthy individuals engaged in generation-skipping transfers to keep their nest egg from being eaten away by intergeneration estate and gift taxes. This can be accomplished by proper allocation of the GST exemption amount for gifts or bequests.

In this lesson, we have covered the following:
* What Are They? Generation-skipping transfers are transfers of property by gift or devise to any person who is two or more generations below that of the transferor. The recipient of the transfer is known as the skip person.

Answer 13

• When Are They Made? GST planning may benefit clients who have wealthy children, clients who would like to create a trust to generate income for children but preserve principal for subsequent generations, and clients who would like to make a direct transfer to skip persons.
• How Are They Made? A generation-skipping transfer could be made simply by a gift or bequest to a skip person or by the establishment of a trust through a will or a living trust. If the assets are to be transferred to a trust, it may be helpful to create a trust for GST tax-exempt assets and a separate one to hold assets that are not exempt from GST tax.

Question 14

Every trust has an inclusion ratio that determines the portion of each future distribution or termination that will be subjected to the GST tax. Which of the following statements are correct? (Select all that apply)
* An inclusion ratio of “zero” means that the trust will always be exempt from the GST tax.
* An inclusion ratio of “one” means that all taxable distributions and taxable terminations will be fully subject to the GST tax.
* An inclusion ratio of 1/2 means that one-half of all taxable distributions to a transferor’s child will result in a GST Tax.

Answer 14

An inclusion ratio of “zero” means that the trust will always be exempt from the GST tax.
An inclusion ratio of “one” means that all taxable distributions and taxable terminations will be fully subject to the GST tax.
* An inclusion ratio of 1/2 means that one-half of all taxable distributions and taxable terminations will result in a GST Tax. GST tax does not pertain to a transferor’s child, only to those who are two or more generations below the transferor. An inclusion ratio of “zero” means that the trust is totally exempt from the GST tax and an inclusion ratio of “one” means that all taxable distributions and taxable terminations will be fully subject to the GST tax.

Question 15

Which of the following may be circumstances where GST techniques can be applied? (Select all that apply)
* Client wishes to make a gift to grandchildren directly.
* Client wishes estate to be distributed to children and their spouses.
* Client wishes to provide income for children and distribute assets to subsequent generations.
* Client wants to avoid transferring assets to children’s already large estates.

Answer 15

Client wishes to make a gift to grandchildren directly.
Client wishes to provide income for children and distribute assets to subsequent generations.
Client wants to avoid transferring assets to children’s already large estates.
* GST planning may help clients who have wealthy children and do not wish to increase their children’s estates, clients who would like to create a trust to generate income for children but preserve principal for subsequent generations, and clients who would like to make a direct transfer to skip persons.

Question 16

Who may be considered a skip person? (Select all that apply)
* A great-grandchild
* A grand-nephew
* A wife who is 38 years younger than the transferor
* A business partner who is 40 years younger than the transferor
* A grandchild whose parent has died

Answer 16

A great-grandchild
A grand-nephew
A business partner who is 40 years younger than the transferor
* Skip persons can be 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, like the business partner in this example, they are considered to be a skip person.
* A grandchild whose parent has died takes their parent’s place in lineage and is not a skip person.

Question 17

Section 2 - Tax Implications

Although generation-skipping transfers may skip one or more generation’s estate or gift taxes, they are subject to GST tax.
* There is a tax exemption amount for GST tax which is $12,920,000 (2023) per transferor.
* The GST tax rate for non-exempt amounts is equal to the maximum estate tax rate at the time a taxable distribution, taxable termination, or direct skip is made.
* The GST tax rate and estate tax rate is 40%.
* Note: GST tax is in addition to any gift or estate tax that may be due.

To ensure that you have a solid understanding of the tax implications of GST, the following topics will be covered in this lesson:
* Generation-Skipping Transfer Tax
* Planning for GST Tax
* Split-gifts and the Reverse QTIP Election
* Grantor Retained Income, Annuity, and Unitrust
* Multi-Generational Planning
* Planning to Pay Estate Tax
* Exclusion for Nontaxable Gifts
* To Skip or Not to Skip?
* Other Planning Considerations

Answer 17

Upon completion of this lesson you should be able to:
* Define generation-skipping transfer tax,
* Describe the importance of allocating the GSTT exclusion amount,
* Explain split-gifts and reverse QTIP election strategies,
* Describe the impact of GST on grantor retained income, annuity, and unitrust,
* Define multi-generational planning,
* List the exclusions for nontaxable gifts, and
* List the other considerations in planning for GST tax.

Question 18

What is the Generation-Skipping Transfer Tax?

Answer 18

There are some general rules that affect generation-skipping tax transfers.
* A flat-rate tax equal to the highest gift and estate tax rate of 40% is imposed on every generation-skipping transfer.
* Essentially the generation-skipping transfer tax (GSTT) will affect transfers to skip persons.
* The tax applies to outright transfers and to transfers in trust or arrangements having substantially the same effect as a trust, such as transfers involving life estates & remainders, estates for years, insurance policies, and annuity contracts.

Essentially, the GSTT rate is equal to the maximum estate tax rate at the time a taxable distribution, taxable termination, or direct skip is made.
* Technically, the applicable rate is the maximum federal estate tax rate multiplied by a fraction called an inclusion ratio.
* This inclusion ratio is the amount of the assets that can be considered exempt.

The taxable amount, which is the 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 19

Identify the flat GSTT rate that is applied to all generation-skipping transfers that exceed the GST exemption amount.
* 35%
* 20%
* 40%
* 55%

Answer 19

40%

• A flat-rate tax equal to the highest gift and estate tax rate of 40% is imposed on every generation-skipping transfer.

Question 20

Describe Generation Assignment for GST Purposes

Answer 20

For GST purposes, all persons are assigned to a generation.
* In the case of related persons, this is done by reference to the ancestral chain relating back to grandparents of the transferor, except that spouses of the transferor or a descendant are always assigned to the same generation as the transferor or descendant.
* Unrelated persons are assigned to the transferor’s generation if such person is not more than 12 ½ years younger than the transferor; otherwise unrelated persons are assigned to succeeding generations on the basis of 25 years for each generation that is the first younger generation - 12 ½ to 37 ½ years younger than the transferor.
* Therefore, an unrelated skip person is 37 ½ years younger than the transferor.
* Where the transferee is an entity that is an estate, trust, partnership, or corporation, individuals who own beneficial interests in the entity are assigned to generations.

Where persons are initially assigned to generations under the rules just discussed, it is possible that subsequent events will result in generation reassignment.
* For example, upon a taxable transfer to succeeding generations of skip persons, such as grandchildren and great-grandchildren, each transfer is subject to tax, but upon each successive transfer, the transferor is assigned to one lower generation. This is to prevent the imposition of the GST tax twice on transfers to persons in the same generation.

If an individual’s parent who is a lineal descendant of the transferor or transferor’s spouse is deceased at the time of a transfer from which the individual’s interest is derived, the individual and all succeeding generations move up one generation.
* This predeceased parent rule also applies to collateral relatives, for example, nephews and nieces if the transferor had no living lineal descendants at the time of the transfer. This is usually referred to as the predeceased child exception.
* This rule also applies to a transfer made by a transferor who had no living lineal descendants at the time the transfer was made to a grandniece or grandnephew. This only occurs if the transferor’s niece or nephew was deceased when the completed transfer took place.

Question 21

Name the related and unrelated qualifications for generation assignment

Answer 21

The following is a table with a sample generation assignment:

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

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

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

Question 22

Exam Tip with AUDIO

Exam Tip: To determine whether a transfer is subject to Generation-Skipping Transfer Tax (GSTT), the ‘skip person’ must first be identified. The criteria to define the ‘skip person’ varies depending on the relationship with the donor. In this exam tip audio, the rules associated with related and unrelated parties in GSTT are discussed.

Answer 22

• Key - identify the “skip person” (a transfer to a skip person, trust distribution to a skip person, or a taxable termination of a trust which sends money to skip person) will trigger GSTT
• Main thing to watch for are grandchildren - 2 generations removed
• Unrelated person who is more than 37.5 years younger will also be a skip person
• Tranferrer’s current spouse is always considered in the same generation as the transferrer, regardless of the difference in age

Question 23

Define Skip Persons

Answer 23

A person assigned two or more generations below the transferor is a skip person.
* A 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.

Solely for GSTT purposes, a person holds an interest in a trust or trust equivalent if he or she is entitled to receive current nondiscretionary distributions of income or corpus, or is a permissible current recipient of income or corpus and is not a qualified charity.

Question 24

What constitutes a Taxable Distribution?

Answer 24

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.
* For instance, a distribution from a trust to a grandson of the grantor would be to a skip person.
* Likewise, if a mother creates a trust providing distributions of income or principal to her daughter or granddaughter at the discretion of the trustee, a distribution from that trust to the granddaughter is a taxable distribution.
* A distribution from one trust to a second trust would be considered a transfer to a skip person if all interests in the second trust were held by skip persons.

The taxable amount in the case of a taxable distribution is the net value of the property received by the transferee, who is a skip person, less any consideration he or she paid. In other words, the taxable amount is what the transferee received, reduced by:
* Any expenses incurred by him in connection with the determination, collection, or refund of the GST tax, and
* Any consideration paid for the distribution.

The transferee 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.
* If the trust itself pays the tax for the transferees, the payment will be treated as an additional taxable distribution subject to the GST tax.

The tax levied upon a taxable distribution is tax inclusive. That means the amount subject to tax includes:
* The property, and
* The GST tax itself.

Question 25

Describe Taxable Termination

Answer 25

A taxable termination is essentially the termination by death, the lapse of time, the 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.

Example (Taxable Termination)
Alan leaves a life income to his son, Sam, with a remainder to his granddaughter, Gina. Sam’s death terminates his life interest in the trust property. The interest is then passed to Gina, a skip person. A taxable termination occurs on the date of Sam’s death.

A taxable termination cannot occur as long as at least one nonskip person has a present interest in the property. However, nominal interests are disregarded in determining whether a person has an interest in a trust if a significant purpose for their creation is to postpone or avoid a GST tax. There is no taxable termination if an estate or gift tax is imposed on the nonskip individual (the son in this example) at termination.

The taxable amount in the case of a taxable termination is the value of all property involved less:
* A deduction for any expenses, debts, and taxes other than the GST tax generated by the property, and
* Any consideration paid by the transferee.

The executor may elect to value all the taxable termination property under federal estate tax alternate valuation rules, if applicable. The trustee is responsible for the payment of the tax in a taxable termination.

The tax payable upon a taxable termination is tax inclusive because, as with the taxable distribution, the property subject to the transfer includes the generation-skipping tax itself.

Question 26

Describe Direct Skips and the taxable amount of Direct Skips

Answer 26

A direct skip is a transfer subject to an estate or gift tax made to a skip person.
* A gift from an individual to his grandchild is a direct skip.
* A direct skip can also occur when an individual makes a transfer to a trust if all the beneficiaries of the trust are skip persons. Therefore, an individual who creates an irrevocable trust for the benefit of his grandchildren would be making a direct skip upon funding the trust.

The 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.
* The 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.

The tax in a direct skip is tax-exclusive. In other words, the tax is paid by the transferor or the estate and the taxable amount does not include the amount of generation-skipping tax.

Question 27

Example (Direct Skip)

A grandfather makes a lifetime gift of $1 million to his granddaughter this year. Assume no generation-skipping exemptions are available.
* The grandparent must pay a generation-skipping tax of $400,000.
* But the tax is paid, not out of the gift, but out of additional assets of the grandparent.
* The grandchild will therefore net the full $1 million.

Question 28

Describe the Summary of the 3 Generation-Skipping Transfer Methods

Answer 28

• Tax Distribution. Any distribution of income or corpus from a trust to a skip person that is not otherwise subject to estate or gift tax.
  GSST Payor - Transferree (Skip person)
  Tax Levied - Tax Inclusive
• Tax Termination. Termination by death, lapse of time, 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.
  GSST Payor - Trustee
  Tax Levied - Tax Inclusive
• Direct Skips. Gifts or transfers made to a skip person for immediate benefit.
  GSST Payor - Transferree, Grandparent
  Tax Levied - Tax Exclusive

Question 29

What are Exemptions and Exclusions for GSTT?

Answer 29

An exemption is available from the GSTT of $12,920,000 (2023).
* For a married couple, each spouse has a GST exemption. A gift subject to the GSTT which is split by the spouses will be treated as having been made half by each spouse and each spouse can use some or all of his or her GST exemption to avoid the GSTT.

Certain transfers are excluded from the definition of the term generation-skipping transfer. Transfers excluded from the definition include the following:
* 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.
* Lifetime transfers that pass gift-tax free under the annual exclusion rules.

Transfers in the trust will not qualify for the annual exclusion unless:
* Only one skip person is the beneficiary of the trust. Annual exclusions cannot be used to offset present interest gifts if the trust has multiple beneficiaries, even if the trust beneficiaries are all skip persons. However, this will work if separate trust shares are created for each beneficiary.
* No portion of the trust’s income or principal can be distributed to or used for the benefit of anyone other than the grandchild as long as the grandchild is alive, and
* Trust assets will be included in the grandchild’s estate due to the general power of appointment if the grandchild dies before the trust’s termination.

Property subject to the GST tax must be valued as of the time of the generation-skipping transfer. However, where the tax involves a direct skip, if the property is included in the transferor’s estate, its value for GSTT purposes is the same as its value for federal estate tax purposes. This includes elections for the alternate valuation date or special-use valuation.

Question 30

Choose the transactions that are excluded from GST tax. (Select all that apply)
* Gifts already subject to GST tax and the new transferee is the previous transferee’s son.
* Transfers to trusts that ordinarily qualify for an annual exclusion but are not included in the skip person’s estate.
* Tuition paid to a university for a skip person’s education.
* Transfers to trusts that ordinarily qualify for an annual exclusion but are not available for a skip person’s sole use during his or her life.

Answer 30

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.
* Direct payments made for tuition to colleges or universities are not subject to GST tax. Neither are gifts that have been previously subject to a GST tax.

Question 31

What is the formula to compute the inclusion ratio?

Answer 31

A GST exemption is allowed in computing the tax actually payable. As married individuals making a lifetime transfer can agree to split the transfer and treat it as if made one-half by each, the exemption can be doubled. To understand how this exemption works and how the tax is actually calculated, it is first necessary to examine the inclusion ratio.

The inclusion ratio = 1 - applicable fraction

The applicable fraction amount is:
A / (B − (C+D))
A = the amount of the GSTT exemption allocated
B = the value of the property transferred
C = any federal estate or death taxes actually paid from the property
D = any charitable deductions allowed under the estate and gift tax rules

Any allocation of the GSTT exemption in excess of the amount necessary to reduce the inclusion ratio to zero with respect to a particular transfer is void.

Question 32

Describe the inclusion ratio calculation

Answer 32

The inclusion ratio calculation is in two parts. Compute the applicable fraction as follows:

Step Description Amount in dollars
1. Step 1. State the portion of GST tax exclusion allocated to the trust or direct skip $
2. 2a. State the value of the property transferred to the trust (or involved in the direct skip). $
2b. State the total of any federal estate or state death tax actually recovered from the trust attributable to such property. $
2c. State the amount of any charitable deduction allowed under estate or gift tax law with respect to the property. $
2d. Add (b) and (c) $
3. Subtract (d) from (a) $
4. Divide line 1 exemption by line 3. This is the application fraction. $

Question 33

How do you compute / determine the total GST tax?

Answer 33

To determine the total GST tax:
1. Determine the applicable fraction: see above
2. Determine the inclusion ratio: 1 - Applicable fraction (Step 4 in the table given above)
3. Determine the applicable rate: Inclusion ratio x the maximum federal estate tax rate
4. Determine the total GST tax: Taxable amount x applicable rate

Practitioner Advice: In the applicable fraction, A is the amount of the GST exemption allocated to the transfer—this allocation is on the 706 or the 709.

Question 34

Who is Liabile for Payment of GST Tax?

Answer 34

• If the transfer is a taxable distribution, the GST tax is on the amount received by the transferee, less expenses relating to the determination of the GST tax, and the transferee pays it.
• If the transfer is a taxable termination or partial termination, the GST tax is on the value of the property in which the interest terminates, less expenses attributable to the property, and the trustee pays it.
• 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 35

What are the special provisions for Generation Skipping Transfers?

Answer 35

There are special provisions for Generation Skipping Transfers:
* Qualified Terminable Interest Property: 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 36

What are 2 considerations when Planning for GST Tax?

Answer 36

The generation-skipping tax may be imposed in addition to any estate or gift tax that may also be due because of the transfer.
* It appears that in many cases the total cost of making a property transfer can exceed the value of the gift.

Trust distributions will be subjected to the tax regardless of whether they are made from income or from the corpus.
* Recipients of income subject to the GST tax may take an income tax deduction (similar to the IRD deduction under IRC Section 691) for the GST tax imposed on the distribution.

Question 37

What assets should GST Exemption allocation?

Answer 37

Once all or a portion of a person’s exemption is allocated to a GST, all future appreciation on the property is designated to be exempt.
* Therefore, when selecting assets that will be protected by the GST exemption, assets most likely to appreciate, such as equities, should be used.

The GST exemption may be allocated by the donor (or the executor) to any property that is transferred.
* Once made, the election cannot be changed. Regulations specifically permit allocations of the exemption by formula without requiring taxpayers to specify a dollar amount on the gift or estate tax return.

The GST exemption will be automatically allocated to a direct skip during life unless the donor elects otherwise.

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.
* The statute allocates any unused exemption 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 38

Which of the following is most likely to be allocated for GST tax exemption?
* Stocks
* CDs
* Money Market Mutual Funds
* U.S. Treasury Bonds

Answer 38

Stocks

• GST is likely to be allocated to assets that will appreciate in value, such as stocks.

Question 39

Describe Provisions for Indirect Skip

Answer 39

Before 2001, a lifetime gift that was not a direct skip required the filing of a gift tax return to allocate the donor’s GST exemption.
* EGTRRA 2001 provides that the GST exemption will be automatically allocated to an indirect skip for lifetime gifts to a generation-skipping trust.
* Elections for an indirect skip can be made with respect to a specific transfer or for all transfers to a trust.
* An election can also be made to treat any trust as a generation-skipping trust.

A generation-skipping trust is generally any trust that could have a generation-skipping transfer with respect to the transferor unless the trust has certain provisions for nonskip persons.

Such provisions include:
* More than 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)
* More than 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 40

What is the Effective Date of the Allocation?

Answer 40

As a general rule, the allocation of the exemption will be based on the fair market value of the property on the effective date of allocation.
* The effective date of allocation for direct skips during the transferor’s lifetime is the date of transfer.
* Where a timely filed gift tax return is filed, the effective date of allocation even for skips other than direct skips is generally the date of transfer to which Form 709 relates.

EGTRRA 2001 permits certain retroactive allocations to be made when certain nonskip beneficiaries of a trust die.
* Also, where late allocations are made during life, the transferor may, solely for purposes of determining the fair market value, elect to treat the allocation as having been made on the first day of the month during which the late allocation is made.
* However, such an election is not effective with respect to life insurance if the insured has died.
* Where property is held in trust, the allocation must be made to the entire trust, rather than to specific trust assets.

Question 41

What’s the difference between Allocation Between Direct & Indirect Skips?

Answer 41

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 42

Describe Split-Gifts and the Reverse QTIP Election

Answer 42

Spouses are each entitled to their own exemption amount and they may elect to split a gift pursuant to IRC Section 2513; each is deemed transferor of one-half.
* As each spouse has a GST exemption to allocate, this can be advantageous in planning transfers that could be subject to the tax. It is important to note that spouses do not have to automatically split a gift. Each spouse may designate gifts to be from him or herself.

For example, if a married couple makes a gift to a skip person totaling $7,000,000, they may claim the entire gift as exempt from GSTT by choosing to split the value between their combined exemption amounts of $3,500,000 each. However, the GST exemption is not freely transferable between each transferor.
* Once a spouse passes on, his or her GSTT exemption will be gone.
* Therefore, one strategy to ensure that both spouses can take advantage of the GSTT exemption in their lifetime is to transfer assets to the less wealthy spouse while both are alive.

Where one spouse makes a gift to the other, either during lifetime or at death, in a form that qualifies for the marital deduction there is a danger that all or part of the available GST exemption of the transferor spouse will be lost because the gift will not be taxed in the first spouse’s estate.

Question 43

What is the reverse QTIP election?

Answer 43

However, where the transfer is in the form of a QTIP trust, even though the transferor spouse or estate’s executor claims the full marital deduction, 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. This is known as the reverse QTIP election.
* This election only applies to Q-TIP trusts, not to other trusts that get a marital deduction such as the “A” trust (i.e., Power of Appointment Trust) or the Estate trust.

Question 44

Example (Reverse QTIP Election)

A husband dies in 2023, and his total estate is valued at $11.8 million. His estate plan creates a $620,000 QTIP trust for his wife, a power of appointment or “A” trust for his wife funded with $880,000, and a $10.3 million credit shelter or bypass trust for his family. His executor can elect to apply $10.3 million of the decedent’s $12,920,000 (2023) GST exemption to the bypass trust, and by making the reverse QTIP election, can apply $880,000 to the QTIP trust, even though the full marital deduction is claimed for it. The result is that $12,920,000 of the husband’s estate is completely sheltered from GST tax. Therefore, for GST tax purposes, the family bypass trust is exempt, the QTIP with the remainder of GST exclusion is exempt, and the balance of the estate in the marital trust ($880,000) is non-exempt. If the total value of the QTIP trust will exceed the available GST exemption, the will or trust should provide for the division of the single QTIP trust into two trusts (exempt and non-exempt) to take advantage of the reverse election.

Answer 44

If the total value of the QTIP trust will exceed the available GST exemption, the will or trust should provide for the division of the single QTIP trust into two trusts (exempt and non-exempt) to take advantage of the reverse election.

Note: If By-pass trusts with skip person beneficiaries are funded with the full $12,920,000 (2023) exemption equivalent amount, then the decedent’s $12,920,000 GST exemption should be allocated to the trust. The growth in trust corpus would be sheltered from GST taxes, and the exemption would prevent GST taxes on distributions made to skip persons in the future. Currently, the reverse Q-TIP election is only used if the decedent made gifts during life that made the amounts of the estate tax applicable credit and GST exemption remaining at death unequal.

Question 45

Describe GST tax with Grantor Retained Income, Annuity, and Unitrust

Answer 45

The GST tax may have an impact on transfers of remainder interests in property where the transferor retains the income, use of, or payment from a trust for a term of years.
* The issue here is the GST tax consequences of such trusts where the remainder interests pass to skip persons.

It is possible to make such a transfer that is complete for gift tax purposes but which may be includable in the transferor’s taxable estate. The question is whether for GST purposes the transfer is made at the date of transfer or the date of death of the transferor. The grantor retained income trust (GRIT), grantor retained annuity trust (GRAT), or grantor retained unitrust (GRUT) is a perfect example.

These are split-interest trusts whereby the grantor receives income for a term of years and the remainder passes to others after the grantor’s income term is complete.
* The grantor makes a gift of the present value of the remainder interest on the date the trust is created.
* If the grantor dies before the income term has expired, then the full value of the trust corpus is included in his gross estate.

In such arrangements, the GST rules postpone allocation of the exemption until:
* There is an actual GST transfer,
* The transferor dies, or
* The property would no longer be included in his or her estate.

Question 46

Describe postponement of allocation of GST exemption

Answer 46

The law provides that where the transferred property would be includable in the transferor’s taxable estate under any statute other than IRC Section 2035 if the transferor were to die immediately after the transfer, allocation of his GST exemption will be postponed during the estate tax inclusion period, which runs until the earlier of:
* The date the property would no longer be included in the taxable estate,
* The date there is an actual generation-skipping transfer, or
* If neither event occurs during the transferor’s lifetime, the death of the transferor.

If the transfer is a direct skip, allocation is deemed to occur at the end of the estate tax inclusion period.
* The postponement period is only for purposes of determining the inclusion ratio, and should not affect other rules.
* For example, there should be no step-up in generation for a child whose parent was alive when the transfer was made even if the parent dies before the end of the inclusion period.

Question 47

Describe Multi-Generational Planning

Answer 47

If the taxable transfer is to succeeding generations of skip persons, that is, grandchildren and great-grandchildren, then each transfer is subject to tax.
* Upon each successive taxable transfer, the transferor is assigned to one lower generation.
* However, a transfer to a person more than two generations below the transferor is subject to only one GST tax.
* This may lead to the establishment of multi-generational trusts (such as a dynasty trust), which permit distributions at least two generations below the transferor.
* The actual distribution of these trust assets will be postponed to avoid estate tax as long as the law will permit.
* Such trusts could last many years, limited only by a legal limitation called the rule against perpetuities, which prohibits the establishment of trusts which last indefinitely.

In the case of older clients, direct skip transfers assigned at least two generations below the transferor should be considered.

Question 48

How can the generation-skipping transfer (GST) tax exemption be leveraged using an irrevocable life insurance trust?

Answer 48

• Leveraging of the GST tax exemption can be accomplished by allocating the exemption against the discounted dollars that the premiums represent when compared with the ultimate value of the insurance proceeds. However, in the case of inter vivos transfers in trust, allocation of the GST exemption is postponed until the end of an estate tax inclusion period (ETIP). In general, an ETIP would not end until the termination of the last interest held by either the transferor or the spouse of the transferor during the period in which the property being transferred would have been included in either spouse’s estate if that spouse died.
• Of course, the transferor should be given no interest that would cause the trust property to be included in the transferor’s estate. Furthermore, the transferor’s spouse should be given no interest that would cause the trust property to be included in the transferor spouse’s estate if the transferor spouse were to die.
• The property is not considered as includable in the estate of the spouse of the transferor by reason of a withdrawal power limited to the greater of $5,000 or 5 percent of the trust corpus if the withdrawal power terminates no later than sixty days after the transfer to the trust. Also, the property is not considered as includable in the estate of the transferor or the spouse of the transferor if the possibility of inclusion is so remote as to be negligible (i.e., less than a 5 percent actuarial probability). Furthermore, the ETIP rules do not apply if a reverse qualified terminable interest property (QTIP) election is made. Otherwise, if proceeds are received during the ETIP, the allocation of the GST exemption must be made against proceeds rather than premiums and the advantage of leveraging is lost.

Question 49

Example 1

G creates a trust for the benefit of his children and grandchildren. Each year he transfers to the trust $50,000 (to be used to make premium payments on a $2 million insurance policy on his life) and allocates $50,000 of his GST exemption to each transfer. Assuming G makes no other allocations of his GST exemption, the trust will have a zero inclusion ratio (i.e., it is not subject to GST tax) during its first twenty years. At the end of twenty years, G will have used up his GST exemption and the trust’s inclusion ratio will increase slowly with each additional transfer of $50,000 to the trust.
* If G died during the twenty-year period, the insurance proceeds of $2 million would not be subject to GST tax.
* Part of the $2 million proceeds may be subject to GST tax if G died in a later year.
* To ensure that the trust has a zero inclusion ratio, the use of a policy that becomes paid-up before the transfers to trust exceed the GST exemption may be indicated.

Answer 49

To ensure that the trust has a zero inclusion ratio, the use of a policy that becomes paid-up before the transfers to trust exceed the GST exemption may be indicated.

Question 50

Example 2

Same facts as in Example 1, except that the trust is created for G’s spouse, S, during her lifetime, and then, to benefit children and grandchildren. If the trust is intended to qualify for the marital deduction (apparently, other than if a reverse QTIP election is used), the valuation of property for purpose of the ETIP rule is generally delayed until G or S dies because the property would have been included in S’s estate if she died during the ETIP.
* Consequently, if the $2 million insurance proceeds are received during the wife’s lifetime, the GST exemption is allocated against the $2 million proceeds, and a substantial amount of GST tax may be due upon subsequent taxable distributions and taxable terminations from the trust.
* Because the allocation of the exemption must be made against the proceeds if they are received during the ETIP, the advantage of leveraging enjoyed in Example 1 is lost.

Question 51

Describe Planning to Pay Estate Tax

Answer 51

Almost the reverse of multi-generational planning is planning transfers to trigger federal estate tax in the estates of each succeeding generation.
* Any transfer from a trust other than a direct skip which is subject to estate or gift tax with respect to a person in the first generation below the grantor is exempt from GST tax.

In many situations, as the GST tax is computed at the highest possible federal estate tax rate, it would be preferable to allow the property in a nonexempt trust to pass through the taxable estates of children to grandchildren, as the federal estate tax imposed on the property cannot exceed the GST tax, and in many cases will be substantially less.

This could be accomplished by giving children a general power of appointment over the trust, at least up to the amount needed to put the child in the highest estate tax bracket.
* While this may result in tax savings, there is always a danger the children will exercise the power and cause the property to pass to someone other than the grandchildren.
* A possible solution is to give the child only the power to appoint to creditors of his estate, which is a general power of appointment.

Question 52

Describe Exclusion for Nontaxable Gifts

Answer 52

Gifts that are not taxable by reason of the gift tax annual exclusion are also exempt from GST tax under most circumstances.
* The inclusion ratio for nontaxable gifts is zero.
* This includes gifts not subject to tax under IRC Sections 2503(b) and 2503(e), and by inference, 2503(c).

However, in the case of transfers after March 31, 1988, 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.

Therefore, for purposes of the generation-skipping transfer tax, annual exclusions are not available for Crummey withdrawal powers (a general power of appointment over the property subject to withdrawal).

Question 53

When is it best To Skip or Not to Skip?

Answer 53

Where there is intentional planning to skip generations, the GST tax cost must be compared to the estate or gift tax cost of transferring the property to the first generation children who would then transfer to the second-generation grandchildren.

Practitioner Advice: Due to the legalities involved, it is important to seek the counsel of an attorney to help a client determine whether or not to make intentional generation-skipping transfers.

Question 54

Describe Other Planning Considerations

Answer 54

As a general rule, the GST tax applies to transfers after October 22, 1986, except for the year 2010.
* However, lifetime transfers that were made after September 25, 1985, and were subject to gift tax are also subject to the GST tax.
* GST tax does not apply to any transfer from a trust that was irrevocable on September 25, 1985, so long as no additions are made after that date.
* Even if a trust is grandfathered for GST purposes, the trust may become tainted to the extent that there are either actual or constructive additions.

A constructive addition will occur where a general power of appointment is exercised or released or lapses over a portion of the grandfathered trust. However, a constructive addition will not occur where a nongeneral power of appointment is exercised if the exercise will not postpone or suspend the vesting, absolute ownership, or power of alienation of the interest for a period longer than allowed by the rule against perpetuities from the date of the creation of the trust. However, the exercise of a power of appointment that validly postpones or suspends the vesting, absolute ownership, or power of alienation of an interest in property for a term of years that will not exceed 90 years (measured from the date of creation of the trust) is not considered an exercise that will extend beyond the perpetuities period.

These rules create the opportunity to change the distribution of grandfathered trusts via the exercise of nongeneral powers of appointment without adversely affecting its grandfathered (exempt from GST tax) status.

As irrevocable trusts created before September 26, 1985, are completely exempt from the GST tax system (but only to the extent no additions are made to the trust from that date), it is important not to taint such trusts by adding new property to them. Not only would this create a tax where none existed, but it would also create an administrative nightmare tracking and allocating pre- and post-September 26 assets and appreciation.

Greater emphasis should now be placed on protecting irrevocable life insurance trusts from the GST tax by advising clients to consider allocating a portion of the GST exemption to each transfer made to the trust. Keep in mind that the use of a portion of the GST exemption to shield, say, twenty $50,000 annual premiums protects not only that $1 million but also the future trust corpus generated by the policy proceeds created by those premium payments. Leveraging the GST exemption this way (for as long as this technique lasts) may be the single most effective long-run means of keeping wealth within the family.

Question 55

Section 2 - Tax Implications Summary

Generation-skipping transfer tax can take away a significant amount of a generation-skipping transfer. The key to planning for the GST tax is to appropriately allocate the GST exemption in conjunction with other exemptions available for estate planning. One strategy to keep in mind is to make sure allocation covers the assets that are likely to appreciate the most.

In this lesson, we have covered the following:
* Generation-Skipping Transfer Tax (GSTT): The GSTT rate is equal to the maximum estate tax rate at the time a taxable distribution, taxable termination, or direct skip is made. Tax exemptions are available to be allocated to the assets transferred.
* Planning for GST tax: You should consider whether or not the asset will appreciate in value and therefore benefit from the protection from GSTT exemption. Planning strategies should also consider whether allocating GSTT exemptions to a direct or indirect skip would be more tax efficient. Also, spouses may consider electing to split a gift using their individual exemptions. Spouses can also use a QTIP trust as part of their GST strategy.
* GRITs, GRATs, and GRUTs are affected by the GST tax. The GST tax may have an impact on transfers of remainder interests in property where the transferor retains the income, use of, or payment from a trust for a term of years. The issue here is the GST tax consequences of such trusts where the remainder interests pass to skip persons.
* Multi-generational planning occurs if the taxable transfer is to succeeding generations of skip persons. Upon each successive taxable transfer, the transferor is assigned to one lower generation. However, a transfer to a person more than two generations below the transferor is subject to only one GST tax.

Answer 55

• Planning to pay estate tax: Any transfer from a trust other than a direct skip that is subject to estate or gift tax with respect to a person in the first generation below the grantor is exempt from GST tax. In certain cases, as the GST tax is computed at the highest possible federal estate tax rate, it would be preferable to allow the property in a nonexempt trust to pass through the taxable estates of children to grandchildren. The federal estate tax imposed on the property cannot exceed the GST tax.
• Exclusions for nontaxable gifts are permitted. Under most circumstances, gifts that are not taxable by reason of the gift tax annual exclusion are also exempt from GST tax. The inclusion ratio for nontaxable gifts is zero.
• To skip or not to skip is a decision that must be made carefully while planning an estate. If there is intentional planning to skip generations, the GST tax cost must be compared to the estate or gift tax cost of transferring the property to the first generation (children) who would then transfer to the second generation (grandchildren). The relative tax cost on a tax-inclusive basis should also be considered.
• Other planning considerations include decisions that affect GST taxation. The GST tax applies to transfers after October 22, 1986, as a general rule, except for the year 2010. Lifetime transfers that were made after September 25, 1985, and were subject to gift tax are also subject to the GST tax. If a trust is grandfathered for GST purposes, the trust may become tainted to the extent that there are either actual or constructive additions. Irrevocable trusts created before September 26, 1985, are completely exempt from the GST tax system. It is important not to taint such trusts by adding new property to them. Whenever possible, transfer some assets from a rich spouse to a less wealthy spouse. This is because the GSTT exemption cannot be transferred to a surviving spouse upon the death of one of the spouses. But transfers to a less wealthy spouse can double the advantage of the GSTT exemption. Greater emphasis should now be placed on protecting irrevocable life insurance trusts from the GST tax by advising clients to consider allocating a portion of the GST exemption to each transfer made to the trust.

Question 56

Which of the following is NOT a generation-skipping transfer?
* Direct skip
* Taxable distribution
* Taxable termination
* Taxable redemption

Answer 56

Taxable redemption
* A direct skip, taxable distribution and taxable termination are generation-skipping transfers. An estate tax is equal to the maximum estate tax rate at the time a taxable distribution, taxable termination or direct skip is made.
* A taxable redemption is not a generation-skipping transfer.

Question 57

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?
* The transferor/grantor
* The trustee
* The beneficiary

Answer 57

The beneficiary
* 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 58

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 __ ____??____ __.
* beneficiary
* trustee
* transferror
* executor

Answer 58

transferror

• 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 59

Module Summary

Generation-skipping transfer tax was created to ensure that some taxes are paid on assets being transferred between each generation. GST planning involves determining suitable allocation strategies of the GSTT exemption amount among assets transferred, or to be transferred, to skip persons. It also involves deciding to transfer assets to skip persons directly or via a generation-skipping trust.

The key concepts to remember are:
* Generation-Skipping Transfer: The transfer of property by gift to any person who is two or more generations below that of the transferor is called a generation-skipping tax transfer. In such transfers, one or more generations below the transferor is skipped. Generation-skipping is made by gifting to a skip person or by a bequest to a skip person. It is done by the establishment of a generation-skipping trust. This trust can be of two types, exempt trust and non-exempt trust.

Answer 59

• Generation-Skipping Transfer Tax: Each transferor has a GST tax exclusion of $12,060,000 (2022) that is not portable between spouses. Annual exclusions can be applied to certain gifts made to skip persons which would not reduce the transferor’s exemption. If a husband and wife elect to split a gift, then the transfer is considered as one-half for each of them. Any transfers that exceed $12,060,000 are taxed at 40%. A reverse Q-TIP election can be made to allocate the decedent’s GST exemption to a QTIP trust.

Question 60

To maximize the use of one’s GST tax exemption, it is preferable to allocate it to which of the following? (Select all that apply)
* Taxable terminations
* Direct skips
* Taxable distributions

Answer 60

Taxable terminations
Taxable distributions
* 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 61

Match the GST payor to the correct transfer type.
Transferee
Trustee
Transferor
* Taxable termination
* Taxable distribution
* Direct Skip

Answer 61

• Taxable termination - Trustee
• Taxable distribution - Transferee
• Direct Skip - Transferor

Question 62

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?
* Direct skip
* Taxable distribution
* GSTT exemption
* Taxable termination

Answer 62

Taxable distribution

• 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 63

Select the type of GST where the taxation is tax-exclusive.
* Trust corpus distribution
* Taxable termination
* Direct skip
* Taxable distribution

Answer 63

Direct skip
* The tax in a direct skip is tax-exclusive.
* In other words, the tax is paid by the transferor or the estate and the taxable amount does not include the amount of generation-skipping tax.

Question 64

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 __ ____??____ __.
* exempt
* taxable
* pass-through
* tax-deferred

Answer 64

exempt
* Once all or a portion of a person’s exemption is allocated to a GST, all future appreciation on the property is designated to be exempt.
* When selecting assets that will be protected by the GST exemption, assets most likely to appreciate, such as equities, should be used.

Question 65

The recipient of a gift who is two or more generations below the transferor is known as the __ ____??____ __.
* skip person
* transferor
* remainderman
* beneficiary

Answer 65

skip person

• The donee or recipient of the gift who is two or more generations below the transferor is known as the skip person.
• Skip persons can be grandchildren, great-grandchildren, grandnieces, and grandnephews.

Question 66

When a client transfers property into a trust and the total value exceeds the GST exemption, the __ ____??____ __ portion would be funded with the GST exemption amount and the __ ____??____ __ portion would be funded with the balance of the assets.
* taxable; tax-deferred
* exempt; non-exempt
* trust; brokerage
* non-exempt; exempt

Answer 66

exempt; non-exempt

• If the value of the assets that the client intends on transferring into a trust exceeds the GST exemption then the client may want to consider dividing the assets within the trust into exempt and non-exempt portions.
• The exempt portion would be funded with the GST exemption amount, and the non-exempt portion would be funded with the balance of the assets.

Question 67

A disclaimer that results in property passing to a person at least two generations below that of the original transferor will result in __ ____??____ __.
* GSTT
* no taxation
* carryover basis
* taxation at the beneficiary’s individual tax rate

Answer 67

GSTT
* A disclaimer that results in property passing to a person at least two generations below that of the original transferor will result in GSTT.

Question 68

Juanita, age 75, is interested in transferring a significant portion of her $100,000,000 estate to a co-worker. Which of Juanita’s co-workers would be considered a skip person?
* Gus, age 45, unrelated
* Faith, age 33, unrelated
* Corrine, age 37, spouse of Juanita’s son, Leo
* Grant, age 63, Juanita’s cousin

Answer 68

Faith, age 33, unrelated

• For GST purposes, all persons are assigned to a generation. In the case of related persons, this is done by reference to the ancestral chain relating back to grandparents of the transferor, except that spouses of the transferor or a descendant are always assigned to the same generation as the transferor or descendant.
• Related skip persons are 2 or more generations below the transferor.
• An unrelated skip person is at least 37½ years younger than the transferor.
• Of Juanita’s co-workers, Faith is the only skip person. Since she is unrelated, Faith must be at least 37½ years younger than Juanita. Faith is 42 years younger.

Question 69

The GSTT exemption amount is __ ____??____ __ in 2023.
* $17,000
* $12,920,000
* $5,850,000
* $5,113,000

Answer 69

$12,920,000

• An exemption is available from the GSTT of $12,920,000 (2023). For a married couple, each spouse has a GSTT exemption.