While we shelter in place and watch our stock portfolios shrivel, there is a natural tendency to focus on our isolation and loss. However, the current economic downturn created by the COVID-19 pandemic presents a unique opportunity that rarely comes along. Some savvy individuals are taking advantage and implementing strategies to move future growth in their now depressed portfolios away from the reach of the IRS when they die. The combination of low interest rates and depressed stock values makes this a perfect time for one strategy in particular - the GRAT, or Grantor Retained Annuity Trust.

GRATs allow you to freeze today’s lower valued stocks (or other property) you put into the GRAT and shift the potential upside growth to the beneficiaries (your children) with little or no gift or estate tax.

Blessed by the IRS, a GRAT is an irrevocable trust into which you exchange property for the right to receive fixed payments, at least annually, based on the original value of the property transferred and expected growth rate determined by the IRS - the so-called “7520 rate” (which is 0.8 percent in May 2020). Any excess appreciation above the 7520 rate will be transferred to the GRAT’s remainder beneficiaries (usually your children or a trust for their benefit), avoiding inclusion in your estate when you die.

GRATs thrive when funded when interest rates are low and the stock market is flat or depressed - the very conditions in which we now live. Publicly traded stocks that have been beaten down in recent weeks are excellent choices for funding a GRAT.

How It Works:

Suppose, in May 2020, you transfer $1 million of stocks into a GRAT, with a two-year term. The idea is to empty out the assets in the GRAT by paying you an annuity which is equal to the value of the assets you put into the GRAT (a “zeroed-out” GRAT), so that there is little or no taxable gift. Utilizing May’s very low 7520 rate, the IRS projects the stocks will grow by 0.8 percent annually. But let’s assume the stocks actually grow by 10 percent annually:

* Assumes a 7520 rate of 0.8 percent, a two-year term and annual appreciation of 10 percent.

If you believe the stock market will take longer to recover, consider funding a longer term GRAT. One that lasts for ten years would make ten annuity payments to you of $104,452.80 each. If the stocks were to appreciate at 10 percent each year, your children (or a trust for them) would receive nearly $929,034 in 2030! If the stocks appreciate at a more modest 5 percent annually, they would receive $315,098.

Of course, there are risks: (i) the portfolio might underperform and the GRAT fails; (ii) the GRAT is irrevocable, so if there is a change in your financial circumstances and you need the appreciation in the trust assets, it is gone forever; and (iii) if you die during the GRAT term, some or all of the assets return to your estate. None of these risks should necessarily deter planning. If the portfolio underperforms the 7520 rate, the assets in the GRAT are simply returned to you and nothing remains for your children, as though the planning were not done in the first place. Your only cost is the out-of-pocket expense of forming the GRAT. If there is a change in your financial circumstances, a GRAT can allow you to access the assets through a loan.

Even though you may not be able to celebrate good times with your children over these difficult weeks, perhaps on your next Skype or Zoom call, you tell them that if your planning works out, they will receive a gift in the next few years. I suspect that they will be delighted and you will feel very GRATified.