How powerful are generation-skipping transfers in building family wealth?

• Author: Aaronson, Marc A.

Grandparents typically provide for their property to go to their children first, then to their grandchildren. However, this will cause two levels of transfer tax: first at the grandparent level, then at the parent level. Even in modest estates, this may cause 80% of the available assets to be consumed by taxes. An individual who wishes to transfer $1 million net to a grandchild would require assets of $4,938,272 in order to do so:

Amount available in grandparent's estate $4,938,272 Less: Federal estate tax at 55% (2,716,050) Amount received by child, preserved and bequeathed to grandchild 2,222,222 Less: Federal estate tax in child's estate at 55% (1,222,222) Balance to grandchild from parent's estate $1,000,000

Grandparents, therefore, often wish to bypass their financially well-off children and transfer assets directly to grandchildren. Transfers to grandchildren, however, are subject to the generation-skipping transfer tax (GSTT); the Federal tax is imposed at a 55% rate on taxable transfers to, or for the benefit of, grandchildren or other persons two or more generations below the transferor. This results in Federal transfer taxes on a direct bequest to a grandchild being the same ($3,938,272) as the total estate taxes on assets passing through two generations.

In contrast, a lifetime gift directly to a grandchild produces gift tax substantially larger than 55% of the gift, because the gift tax is computed on the sum of the taxable gift and GSTT thereon:

Assets available to grandparent $2,402,500 Less: Generation-skipping tax at 55% on $1,000,000 given directly to grandchild (550,000) Less: Gift tax at 55% imposed on $1,550,000 (852,500)...