Advanced Underwriting Consultants

Question of the Day – May 8

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax questions posed by producers.  Here’s the question of the day.

Question: My client’s attorney has recommended that she and her husband do generation skipping tax (GST) planning.  What is GST planning?

Answer: The GST is an extra tax imposed—in addition to possible gift or estate tax—when there’s a transfer to grandchildren or to a family generation more remote than children.  The current GST rate is 35%.

Why does the GST exist?  It fills the tax avoidance loophole that might otherwise exist in federal or gift tax situations.

Here’s an example that helps illustrate the point.  Say that Grandpa Munster is planning his estate.  Due to his old age and his careful investment planning, he has accumulated an estate worth $10 million.

Under some circumstances, Grandpa might be expected to leave his estate to his son Herman.  However, Grandpa is convinced that Herman and his wife Lilly do not need the inheritance, as they are self-sufficient.  Grandpa would like to leave his estate in trust to his grandson Eddie instead.

If there were no GST, at Grandpa’s death, Eddie would inherit the estate with about a $1.6 million reduction for estate taxes based on the $5.12 million 2012 exemption and tax rate of 35% on the excess.

What’s wrong with that?

From the government’s perspective, under Grandpa’s estate plan the opportunity to collect estate tax at Herman’s generation was missed.  Grandpa “skipped” one generation of the estate tax through his by-pass of Herman’s generation.

To close that potential loophole, the generation-skipping tax (GST) was created.  With the GST, the federal government collects estate tax plus generation skipping tax if Grandpa’s estate plan skips Herman in favor of Eddie.  Since the current generation-skipping tax rate is the same 35% rate as the federal estate tax rate, the government has removed all the tax incentive for the older generation to transfer wealth directly to grandchildren and great-grandchildren.

GST planning usually involves using the GST exemption–$5.12 million in 2012—to shelter amounts set aside for grandkids from the GST tax.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.