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Estate Planning Opportunities in a Volatile Market

By Gregory L. Matalon, Esq. and Jordan Kanzer, Esq.

Volatility in the stock market may provide additional estate planning opportunities. Depressed stock prices and the potential for future growth are key factors that contribute to the success of certain estate planning strategies. Two of such strategies to consider are: (1) gifting assets to a Grantor Retained Annuity Trust; and (2) converting some portion or all of your traditional IRA to a Roth IRA.

What is a Grantor Retained Annuity Trust?

A Grantor Retained Annuity Trust (GRAT) is an estate planning tool that allows the Grantor of an irrevocable trust to shift the appreciation on contributed assets to the Grantor’s children while efficiently using the Grantor’s federal gift tax exemption. Creating and funding a GRAT during a market downturn and when applicable interest rates are low can help reduce the value of the Grantor’s estate. When the market rebounds, the appreciation on the contributed assets inures to the GRAT beneficiaries and is removed from the Grantor’s taxable estate.

A GRAT functions as follows:

The Grantor gifts assets to a GRAT for the benefit of one or more beneficiaries while retaining a fixed annuity over a period of years (GRAT Term). Upon the termination of the GRAT Term, the appreciation (in excess of Internal Revenue Code Section 7520 rate) passes to the GRAT beneficiaries. The Grantor can fund a GRAT with marketable securities and receive the annuity in-kind, over the GRAT Term.

For example, with a ten-year GRAT, slightly more than 10% of the Grantor’s securities will be returned to him/her each year and the remaining appreciation will pass to the Grantor’s children at the end of the GRAT Term. If a GRAT is funded with cryptocurrency, the value of which may spike during the GRAT Term, the trustee may sell or exchange the cryptocurrency at its highest value for cash (or other stable assets of equivalent value), thereby locking in the gain for the benefit of the Grantor’s children. If the value of the assets declines, the GRAT principal will be paid back to the Grantor; there is no penalty for the GRAT failing to appreciate and outperform the Internal Revenue Code Section 7520 rate.

The gift to a GRAT can be structured to use very little of Grantor’s federal gift tax exemption. Future tax law changes may limit the benefits and design of a GRAT.

Should You Convert Your Traditional IRA to a Roth IRA?

Converting a traditional IRA to a Roth IRA might make sense for those individuals who have watched their account values dip as a result of the current economic climate. Upon conversion, income tax will be due on the amount converted. Paying the income tax now will reduce the value of the individual’s estate, thereby reducing potential estate tax due on death. In addition, the payment of income tax will be made at the current income tax rates, which are scheduled to rise on January 1, 2026 (pursuant to the Tax Cuts and Jobs Act of 2017).

Further, due to the passage of The SECURE Act of 2019, Roth IRA conversions may be an even more attractive option for individuals who want to reduce the future tax liability for their children, who may be in higher income tax brackets.

The SECURE Act eliminated the lifetime “stretch IRA” for many beneficiaries. The lifetime stretch allowed a beneficiary to withdraw funds from a traditional IRA over the beneficiary’s lifetime. Instead, the SECURE Act now requires many beneficiaries to withdraw the full value of a traditional IRA within ten years after the account owner’s death. This means that beneficiaries are required to report income received from the IRA in a short period of time, possibly placing them in a higher income tax bracket and triggering substantial income tax. By converting to a Roth IRA, the beneficiaries can avoid such future tax implications.

Individuals should review their estate plans and consider current income and estate tax opportunities. Creating and funding a GRAT and/or converting some portion or all of a traditional IRA to a Roth IRA are just two opportunities to consider during this period of financial market uncertainty.

If you have questions about the appropriate estate planning strategy for you and your family, the attorneys at Capell Barnett Matalon & Schoenfeld, LLP routinely assist clients seeking to implement various estate planning strategies.

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