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A bad stock market is often no reason for investors to cheer. But for the wealthy, it could offer a way to lower property taxes.
That’s because a type of trust gives them a better chance of transferring some of their wealth to their children, grandchildren or other heirs tax-free when markets fall, but estate planners say an upswing is expected later.
A grantor-held annuity trust — or “Grant” — makes it easy to receive benefits.
Basically, the wealthy put assets, such as stock in a private business, into a trust for a certain period of time, perhaps two, five or 10 years. Any investment gains then go to their heirs and the owner repays the principal.
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Estate taxes can be avoided or reduced when the wealthy die by moving any future appreciation out of their estate. Investment gains are a tax-free gift to heirs. There is no growth, the asset is returned to the owner without transferring wealth.
Assets that depreciate over the life of the trust therefore provide the highest probability of return.
The S&P 500The barometer of U.S. stocks is down about 24% year to date — making it a ripe time to consider Grant, estate planners say.
“It’s reasonable to believe the market will improve over the next two years,” Megan Gorman, founder and managing partner of Checkers Financial Management in San Francisco, said of trusts with two-year maturities. “We get a lot of messages of appreciation from the beneficiaries.”
Strategy used by Mark Zuckerberg, Oprah Winfrey
Mark Zuckerberg, founder and CEO of Meta Platforms, in July 2021.
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Experts say Grat’s technique makes the most sense for households subject to estate taxes.
The federal estate tax is a 40% levy in 2022 on estates valued at more than $12.06 million. The taxable amount is double that, or $24.12 million for a married couple.
According to the Tax Foundation, twelve states and Washington also have state-level estate taxes, with varying amounts and thresholds.
Some of the country’s richest people and famous businessmen used Grattar, Kazinform informs. Among them are Michael Bloomberg; Facebook parent Meta founder Mark Zuckerberg; Sheldon Adelson, the late casino magnate; The Walton Family of Walmart fame; Charles Koch and his late brother, David Koch; fashion designer Calvin Klein; Lauren Powell Jobs, widow of Apple founder Steve Jobs; media mogul Oprah Winfrey; Lloyd Blankfein, senior chairman of Goldman Sachs; and Stephen Schwartzman, chairman and co-founder of private equity firm Blackstone.
“It’s one-tenth of 1% of the public that really uses it,” Richard Behrendt, an estate planner based in Mequon, Wisconsin, and a former estate tax attorney for the IRS, said of the trusts. “But I think it’s a golden opportunity for this segment.”
The estate tax cap is scheduled to be cut in half starting in 2026 without Congress extending it. A tax law passed by the Republic in 2017 doubled the property tax threshold to its current level, but only temporarily.
Experts say the looming deadline means people with assets worth about $6 million (or $12 million for married couples) can now weigh a wealth transfer.
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Jerome Powell, Chairman of the US Federal Reserve System, September 23, 2022.
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But rising interest rates pose a challenge.
This is due to the complex inner workings of trusts. Investment growth must technically exceed a certain threshold – the “7520 interest rate” also known as the “hurdle” rate – to pass through the estate tax-free.
The 7520 monthly rate is currently 4%, up significantly from 1% in October 2021. It rose as the Federal Reserve aggressively raised its benchmark interest rate to curb high inflation.
Here’s an example of how this applies to an annuity trust held by a grantor. Assume that the investments in the two-year trust have grown by 6% during this time. In October 2021, depending on the hurdle rate, the trust allows 5% of the gross increase to pass to heirs; however, this drops to 2% for trusts established this month.
“The odds are up 400% in one year,” said Charlie Douglas, a certified financial planner in Atlanta and president of HH Legacy Investments. “I think the strategy still has merit, but there’s more of a stretch [it].
While the technique makes sense when the market is in a significant downturn, it’s hard to tell how quickly stocks will rebound, he added.
“It’s always tough to call down,” Douglas said.