Can One Skip a Generation & Save Estate Taxes by an Irrevocable Trust?
An irrevocable trust may help your family legally sidestep the estate tax, by moving assets out of the taxable estate and into the trust. Skipping generations can help keep assets out of your children's and your grandchildren's estates as well.
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Legal Background
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Under current law, the Economic Growth and Tax Reconciliation Act of 2001 (EGTRA), which eliminating estate taxes, lapses at the end of 2010. At that point, the amount exempted from estate tax reverts to pre-EGTRA levels, with a top rate of 55 percent on assets over $1 million, unless Congress acts to change the law.
Trusts
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A trust is a vehicle in which money is managed for the benefit of a third party. A trust can be revocable, meaning the grantor, or donor, can dissolve the trust or pull money and other assets out of the trust once they have been donated to the trust. An irrevocable trust is a trust the grantor can't dissolve. Once the grantor places assets in a trust, the grantor cannot undo that decision. Assets in irrevocable trusts are not considered part of the estate---and therefore not subject to the estate tax.
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Generation Skipping
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Generation-skipping is a planning technique in which assets are passed on, not to the children, but to the grandchildren of the benefactors. You may wish to consider this if your children are already financially comfortable, and especially if they expect to have an estate tax liability themselves. In such a case, adding your assets to theirs may generate a much greater net tax liability to the family than skipping a generation. If you have more grandchildren than children, spreading the assets around may also help limit family estate tax liability in future years.
Generation-Skipping Transfer Tax
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Unfortunately, it's not a total free-ride. If the beneficiary is more than 37 years younger than the benefactor, and more than one generation apart, the generation-skipping transfer tax could apply. It's been repealed for 2010, but comes back in 2011, levying a 55 percent potential tax liability on assets above $1 million passed on to grandchildren. The exact amount will be indexed for inflation, but based upon a $1 million exemption in 2001.
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