GISTs.

• Author: Hills, Marvin D.
• Position: Grantor installment sale trusts

Agrantor installment sale trust (GIST) is a relatively new technique that can accomplish an estate freeze by using an installment sale arrangement. It can delay recognition of any income tax gain on the sale and, at the same time, not recognize interest paid while the installment note is outstanding. It is similar in concept to the popular grantor retained annuity trust (GRAT), but has certain distinct advantages, as well as some unknown risks (e.g., how the IRS may respond to this technique).

Background

Over the years, Congress has found many creative ways to implement new taxes, resulting in a plethora of different tax "structures" affecting various transactions. For example, there are income taxes, social security taxes, Medicare taxes, excise taxes, gasoline taxes, gift taxes, estate taxes, generation-skipping transfer (GST) taxes, etc. In some cases, a single transaction can be subject to more than one of these. For example, a single bargain sale to a grandchild can simultaneously have income, gift and GST tax consequences.

Nevertheless, with creative planning, taxpayers can sometimes take advantage of the slightly different rules for various tax structures. One such planning opportunity exists for taxpayers who want to reduce estate tax. A GIST removes an asset's appreciation from the taxable estate at death, while not recognizing the income as a gift or as a sale.

Grantor Trusts

Before examining the mechanics of creating a GIST, it is necessary to consider the basic rules governing grantor trusts. For legal purposes, if a person retitles assets in the name of a trust, he is no longer the legal owner of the assets transferred to the trust. This is often done to avoid probate proceedings at death. For Federal income tax purposes, however, the IRS continues to treat the grantor (i.e., the person who transferred assets to the trust) as the owner of those assets if he retained any rights or control over them. Although most grantor trusts are revocable, many are actually irrevocable. In either case, the Service essentially ignores (for income tax purposes) the existence of the grantor trust and taxes the income earned on the asset as if there were no tide change. In effect, the taxpayer (not the trust) pays income tax on all income and gains earned by the trust.

Taxpayers can take advantage of the grantor trust rules to draft a trust document that is "intentionally defective" for income tax purposes (i.e., violates the Code's grantor trust...