A grantor retained annuity trust (GRAT) can be a powerful and efficient planning tool for U.S. individuals, as well as international families with U.S. connections or beneficiaries, who are looking to transfer future asset growth while maintaining financial flexibility.
When structured and administered properly, a GRAT offers a measured way to pass appreciation on to future generations, while preserving income for the grantor during the trust term.
WHAT IS A GRAT?
A GRAT is a planning strategy specifically recognised under the U.S. Internal Revenue Code. It enables the person establishing the trust – the grantor - to retain an annuity for a fixed term of two years or more, after which the remaining trust assets may be distributed to designated beneficiaries, often children or other family members.
WHY USE A GRAT?
Lifetime transfers of wealth typically apply against an individual's federal gift tax exemption ($13.99 million in 2025). A GRAT provides an avenue to shift future asset growth out of the taxable estate, while preserving a structured stream of payments for the grantor. Additionally, the present value of the retained annuity reduces the taxable value of the gift at inception, potentially allowing for a more efficient use of the available exemption.
Key benefits of a GRAT include:
- Reduced Taxable Gift Tax: While traditional valuation discounts may apply to certain illiquid assets, GRATs introduce a time-value discount on the retained annuity - even when applied to marketable securities or assets with high cashflow - lowering the taxable value of the initial transfer.
- Asymmetric Outcomes with Limited Downside: If trust assets outperform expectations during the term, the excess growth passes to the beneficiaries with minimal additional transfer tax implications. If not, the grantor typically retains what was originally contributed, with little net loss.
- Income Tax Characteristics: GRATs are treated as grantor trusts for income tax purposes, which may allow the grantor to cover tax obligations on trust income without additional gift implications, indirectly enhancing the value of the transfer.
- Retained Benefit and Control: Unlike other estate planning solutions that often require a complete relinquishment of benefit and control, GRATs allow the grantor to retain access and control of assets, as well as an income stream, during the trust term.
- Inflation Resilience: While annuities are generally fixed, a GRAT can be designed to allow the annuity amount to increase by up to 20% annually, offering some protection against inflationary erosion.
- Estate Planning Flexibility: Should the grantor pass away during the GRAT term, the estate tax inclusion is based on a formula that can, in certain cases, result in a more favourable valuation. If the grantor survives the term, remaining trust assets can pass outside the taxable estate entirely.
KEY CONSIDERATIONS WHEN ESTABLISHING A GRAT
- Trust Administration: Certain benefits, including estate valuation advantages, may be compromised if the grantor serves as trustee. Likewise, failure to meet time-sensitive distribution and reporting deadlines can jeopardize the GRAT’s qualification. Appointing an independent trustee can help reduce administrative risks as well as ensure compliance with timing and reporting requirements.
- Generation-Skipping Transfer Tax Limitations: While GRATs can be highly effective for transferring wealth to the next generation, their benefits do not extend as clearly to generation-skipping planning.
- Term Selection: A GRAT’s effectiveness depends on the grantor outliving the trust term. Shorter terms reduce mortality risk, while longer terms may offer additional structuring flexibility or valuation advantages.
- Valuation and Asset Choice: Accurate valuation is essential, particularly for non-marketable assets. Transfers of interests in businesses, for example, should ideally be made before any third-party offers are received, to avoid using elevated sale values for reporting purposes.
- Liquidity and Use of Principal: If trust income is insufficient to meet annuity payments, principal may need to be used. Longer trust terms and periodic asset substitution strategies may help manage this exposure.
- Interest Rate Environment: GRAT effectiveness is sensitive to IRS-prescribed interest rates. Lower gift tax values tend to favor the creation of GRATs when lower interest rates apply, while lower estate tax values favor higher interest rates if the grantor does not outlive the term.
- Legislative Uncertainty: Proposals to reform GRAT rules have been under discussion for several years, including the potential introduction of minimum terms and a minimum annuity amount, as well as limits on gift, estate, and income tax benefits. As with any planning structure, ongoing monitoring is important in light of possible regulatory change.
HOW WE CAN HELP
A GRAT can be a versatile and powerful tool for families looking to transfer wealth efficiently while retaining financial access during the trust’s duration. However, proper choice of assets, trust term, annuity amount, and time of funding are essential. To explore whether a GRAT aligns with your estate planning goals, speak with your usual Trident Trust contact or reach out to Pete Randazzo, Head of our South Dakota office, at prandazzo@tridenttrust.com.