Grantor Retained Annuity Trust: Income & More

A Grantor Retained Annuity Trust is an irrevocable trust business owners might use to transfer ownership in their companies and other assets estate tax-free. In order to qualify, the business must be structured as an S corporation.
A GRAT provides an income called an annuity, which is a fixed amount of money or a percentage of the trust, from the trust’s assets to a named beneficiary. That person may be the creator, or grantor, of the trust. If you create a GRAT, it’s best the business generates enough income to pay income to the trust’s beneficiaries. Otherwise, trust income payments will come from principal. When the trust expires, its assets pass to surviving beneficiaries. A GRAT can help facilitate business succession by taking estate taxes out of the equation.
A unique aspect of a GRAT is that the creator of the trust, or grantor, continues to keep control and benefit from the trust’s assets. This differs from other irrevocable trusts, which don’t allow the same lifetime control by a grantor over their trusts’ assets. While business shares are popular assets in a GRAT, you can also transfer stocks, bonds, mutual funds and other assets to it. Assets expected to appreciate work best because Internal Revenue Service formulas potentially discount their value.

Game Plan

  • A GRAT is as complicated as trusts get, so talk to an experienced estate planning attorney and accountant before creating one. This counsel is crucial in light of some unscrupulous advisors, who have used GRATs and other trusts in ways the Internal Revenue Service frowns upon. The IRS has a description of trusts that are sometimes used illegally. This site also offers short descriptions of a GRAT and other types of trust.
  • If you use a trust to transfer shares of an S corporation free of federal estate taxes, talk with your business successor to make sure you’re all on the same page. Read more about transferring a business.
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