You may have heard of the term “generation skipping tax,” but did not understand its meaning. A generation skipping transfer tax is a tax assessed on property passed from one generation to a generation that is two or more levels below the generation of the person transferring the property. What does this actually mean in plain English? If you transfer your property to your grandchild, instead of your son or daughter, the transfer would be subject to the generation skipping tax. Also included in this scenario would be a transfer from one person to someone unrelated, who is 37 ½ years or more younger than the person transferring the property. That type of transfer would be subject to the generation skipping transfer tax.
Are there any exemptions?
This area of tax law has seen a lot of changes. In 2009, the federal government began exempting transfer up to $3.5 million from the generation skipping transfer tax. However, the tax was appealed in 2010, then reinstated in 2011. Since 2011, the exemption has increased from $5 million to the current exemption of $5.24 million in 2014.
In 2009 the federal government exempted transfers of up to $3,500,000 from the generation skipping transfer tax, but the tax was repealed on January 1, 2010, only to reappear on January 1, 2011, with a $5,000,000 exemption. For years 2012 and beyond, the exemption will be indexed for inflation, so the 2012 exemption was $5,120,000, the 2013 exemption is $5,250,000, and the 2014 exemption will be $5,340,000. Some states, including California, assess a generation skipping transfer tax, as well.
Is there a way to plan for this tax?
There is an estate planning tool designed to eliminate estate taxes at every generational level. A tool known as a Generation Skipping Trust is a type or irrevocable trust created for this purpose. These instruments are also known as “dynasty trusts.” The governments apparent belief that a family’s wealth should trickle down from one generation to the next, is also a clever way to guarantee that family’s pay taxes at each level. But, what if you want to provide for your grandchildren instead of your children? You may want to be able to help your grandkids with their student debt many years down the line.
This type of trust is designed to avoid or minimize estate taxes on each transfer to subsequent generations, by holding assets in the trust and making well-defined distributions to each generation. In this way, the entire wealth of the trust is not subject to estate taxes with the passage of each generation. Generation Skipping Trusts are not just for the wealthy. If the second generation in a family is already financially secure, the grandparents can create a generation skipping trust to provide for all of their descendants.
Generation skipping trusts can be complicated. Experienced and competent estate planning attorneys are best equipped to determine whether a generation skipping trust is appropriate for you. The unique circumstances facing you and your family should be considered.