Liquidity, Powers of Appointment, and Trusts - Valuation of Qualified Interests
Valuation of Qualified Interests
GRATs and GRUTs – Discounting may be used
- The irrevocable transfer of the remaining interest in the GRAT or GRUT is considered a current gift for gift tax purposes. The gift does not qualify for the annual exclusion, but it is discounted from the fair market value of the corpus by subtracting the value of the grantor's retained interest.
- Taxable Gift:
The retained interest value is determined based on the amount of the annual payment, payment term and the monthly percentage rate obtained from Section 7520 rules. The discounted gift can then be sheltered by the grantor's applicable credit amount.
Suppose Darlene transfers $500,000 to a GRAT with an annual fixed payment of $25,000 for 10 years. Under Section 7520 rules, the value of the retained annuity is $170,000 (you will not be required to calculate this value on the exam). Therefore, the taxable value of the gift will be how much? $330,000 ($500,000 less $170,000)
Death of Grantor Prior to Term Expiration:
If the grantor dies prior to the expiration of the trust term, then an actuarial valuation of the property in the trust is used to determine the value to be included in the decedent's estate. This amount is calculated based on the annuity or unitrust amount and the Section 7520 discount rate at the time of the decedent's death. The amount is typically less than the original fair market value of the property when transferred into the GRAT or GRUT.
Other Retained Interest Trusts - No discounting
Retained interest in trusts (other than GRATs or GRUTs), is generally valued at zero for gift tax purposes. The grantor is treated as having gifted the entire remainder with no discounting for other retained rights.
Therefore, the full value of the transferred property is included as a taxable gift, and if the grantor dies prior to the expiration of the trust term, the full fair market value of the property will be included in the estate of the decedent.