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A Look at the Generation-Skipping Transfer Tax

Ahead of the generation-skipping transfer tax was introduced in 1976, wealthy individuals could legally gift money and bequeath property to their grandchildren without wage federal estate taxes. But the new legislation effectively closed the loophole where inheritances could skip a generation to shun double estate taxation.

Key Takeaways

  • Before 1976 when the GST tax was set into law, wealthy individuals could legally flair money and bequeath property to their heirs without paying federal estate taxes. 
  • The new legislation closed the pretext whereby inheritances could skip a generation.
  • A generation-skipping transfer (GST) is the transfer of assets to a person who is two or more generations underneath that of the grantor.
  • The skip person could be any non-spousal member of the family, at least 37.5 years younger than the transferor.
  • The GST tax was put into okay awkward to ensure taxes were paid on gifts in excess of the GST estate tax credit.

What Is the GST?

A generation-skipping transfer (GST) refers to the transfer of scratch or property, as a gift or inheritance, to a person who is two or more generations below that of the grantor. The giving party is referred to as the “transferor,” and the beneficiary is known as the “skip person.” While the skip person is often a grandchild, it could be any non-spousal family member who’s at least 37.5 years juvenile than the transferor.

What Is the GST Tax?

The GST tax is a federal tax imposed on gifts given to skip-persons to ensure taxes are paid at each generational honest and that they are not avoided through a trust. The tax is only due when a skip person receives amounts over the GST order tax credit. Fortunately, most people will never encounter the GST tax because of the high threshold.

Once a transferor oversteps the exemption, the GST tax is assessed at a flat rate.

GSTs can occur before or after the transferor’s death, and the GST tax is assessed when the charity or property transfer is made. While still alive, the transferor can give the gift directly to the skip person. But upon dying, the transferor’s will may either stipulate that property is bequeathed to a skip person, or it may call for the establishment of a trust from which parcellings will be made. Form 709 is used to report both GST taxes and transfers whereby federal gift strains are due.

Direct vs. Indirect Skips

The taxation of a GST depends on whether the transfer is a direct or an indirect skip. A direct skip is a attribute transfer that’s subject to an estate or gift tax. An example of a direct skip would be a grandmother gifting property to a grandchild. The transferor or their class is responsible for paying the GST tax for direct skips. An indirect skip involves a transfer that has intermediate steps before reaching a romp person. There are two types of indirect skips: taxable termination and taxable distribution.

Once a transferor exceeds the exception amount, the tax is assessed at a flat rate rather than as a percentage.

Taxable Termination

A taxable termination involves a caper person and a non-skip person. A non-skip person is a primary beneficiary who will receive property before it is transferred to the pass by person. The transfer to the skip person occurs upon the death of a non-skip person—typically the transferor’s child. 

As an criterion of a taxable termination, consider a transferor who establishes an income-producing trust for their son. Upon the son’s death, the remaining property pass on be passed on to the transferor’s grandchild, at which time those assets would be subject to the GST tax.

Taxable Distribution

A taxable dispersal refers to any distribution of income or property, from a trust to a skip person that is not otherwise subject to estate or talent tax. If a grandmother established a trust that made payments to her grandson, those payments would be subject to GST taxes, which the heir is responsible for paying.

The chart below shows GST tax exemptions since 2010:

Year GST Exemption
2010 5,000,000
2011 5,000,000
2012 $5,120,000
2013 $5,250,000
2014 $5,340,000
2015 $5,430,000
2016 $5,450,000
2017 $5,490,000
2018 $11,180,000
2019 $11.400,000
2020 $11, 580,000
2021 $11, 700,000
2022 $12,060,000
Federal GST Tax Exemption Amount

Adjusting the Tax Burden for an Heir

Most beneficiaries will avoid the GST tax because their estates will be worth less than the government-provided state tax credit. From 2006 through 2008, each taxpayer was entitled to a $2 million exemption. However, the exclusion has progressively increased annually.

In 2021, the individual exemption is $11,700,000 and in 2022 the amount goes up to $12,060,000. Married team a fews can double these amounts to determine the exempt portion of their GST.

Create a Generation-Skipping Transfer Trust

To lower the operates of the GST tax, transferors can create a dynasty trust, which is designed to avoid or minimize estate taxes with each generational change. By parking assets in the trust and making specified distributions to each generation, the wealth of the trust isn’t subject to estate pressures with the passage of each generation.

The Bottom Line

Generation-skipping transfer taxes can be complex and difficult to navigate, with undeviating rules and deadlines regarding lineage, the eligibility of skip persons, gift reporting, and payment of taxes. An accountant or an attorney can forbear ensure the efficient, cost-friendly transfer from one generation to another.

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