How The RICH Pass Their Wealth (Secure Strategies Revealed)

I'm talking about generation skipping transfer tax. If you have substantial wealth and you want to leave money to your grandchildren, you definitely want to pay attention to GST. In order for you to take advantage of the GST rules, you have to allocate the gift. Failure to do so will result in a lot of unnecessary and unintended taxes.

A lot more people are going to be affected because of a sunset provision that takes place on January 1 2026. Today we have an exemption amount of $13.61 million. It will drop by nearly half.

Hey everyone, welcome to another edition of We're Talking Money. I'm Phil Clark, your host, and today we're delving into something that might initially seem really complicated, but it's also very important for a lot of individuals and families. I'm talking about generation skipping transfer tax, or GSTT for short.

So why are we talking about this subject? Well, recently one of our clients asked about the efficacy of GST and if his in-laws should consider it. Before we dive into the details, take a minute to subscribe to our channel so you never miss a great episode.

First, let me explain to you what GST is all about. This is a federal tax that's imposed on the transfer of wealth when it skips a generation. Basically, this tax was introduced to prevent families or individuals from avoiding estate and gift tax when passing or transferring assets to their grandchildren or other beneficiaries who are at least two or more generations below them. This is what's called the skip generation.

This generation skipping transfer tax is equal to the highest federal gift or estate tax at the time of transfer. In 2024 that rate is 40%, and this is in addition to any other federal gift or estate taxes that might be owed.

Now, when it comes to gifting, there's still a few exceptions, and I want to tell you about those before we go any further. Number one, there's an annual gift exclusion equal to $118,000, and you can give that to as many people as you would like. Number two is qualified payments for higher education, we're talking about tuition here, and for medical providers for any medical expense. Both of these are disregarded for gift tax purposes. And number three, of course, is the lifetime exemption. Today that number is a whopping $13.61 million, and if you're married, we're talking over $27 million. Now, beyond these three exceptions, anything that goes over the federal gift or estate tax exemption, it's going to cost you 40%.

Let's look at a few more common scenarios to help you better understand how GST works. Now keep in mind, what I'm about to show you is based on a single donor or grantor.

In the first line, you'll notice we're gifting to a child $13.61 million. No skip generation here. That means gift to grandchildren shows zero. So the lifetime exclusion of $13.61 million has been used. Notice we did not allocate any of that to the GST exemption. Therefore gift taxes owed is zero and GSTT tax is owed is zero.

Now line two: 0 to first generation, but notice this donor has chosen to give the full exemption, $13.61 million, to their grandchildren. Lifetime exclusion used is zero. GST exemption used is $13.61 million. In this example, once again, no gift taxes are owed and no GST taxes are owed.

Now here's where it gets a little more complicated. Line three is a wealthier family. They're going to give $13.61 million to the first generation, and they're going to create a generation skipping trust, and that's going to have 13.61% allocated to the trust. Now the lifetime exemption has now been used, $13.61 million, and GST exemption was used, $13.61 million. However, notice that because they only have one exemption of $13.61 million, we now have a gift tax of 5,444 th000.

The example in the bottom row of the table illustrates how expensive it can be to transfer assets to skip generations once the lifetime exemptions have been used. The total combined gift and GST tax of 6778 million would be paid for the $15 million gift to the grandchild. That's a lot of tax, and this would require more planning.

With all of that, the question is, who should really be concerned about this GST? Well, let's break that down. If you have substantial wealth and you're planning to skip a generation, meaning you want to leave money to your grandchildren or to another generation, you definitely want to pay attention to GST.

A lot of people miss this next part. In order for you to take advantage of the GST rules, you have to allocate the gift. In other words, you have to use your GST exemption. You can allocate some of that during your lifetime or at death. Failure to do so will result in a lot of unnecessary and unintended taxes.

So what's the big deal here, and why is this such a valuable tool in the estate planning toolkit? Once your exemption is allocated to a transfer in trust, all subsequent growth in that trust is never taxed at the GST level, nor would it be federally estate taxable ever.

So let's look at an example where one of our clients established an irrevocable trust in 2024. He funded this trust with $10 million, and he allocated his generation skipping transfer tax exemption to the transfer. If that trust subsequently grows to $20 million, no distributions to his beneficiaries will be subject to any generation skipping transfer tax. Our client only used $10 million of GST exemption to shelter what turned out to be $20 million of assets. Now that is serious leverage and that serious transfer of wealth.

Now, the generation skipping transfer tax might not affect everyone, but I believe a lot more people are going to be affected because of a sunset provision that takes place on January 1 2026. Today we have an exemption amount of $13.61 million. It will drop by nearly half. The exception to this is Congress can extend this rule, or this law. Will they? Who knows. What I can say is, if you're planning to take advantage of maximizing your transfer, your legacy planning, you can get the 13.6 one million exemption now.

Well, that's all the time we have for today, but I hope this episode has inspired you to think about your estate planning and how the generation skipping transfer tax may affect the very efforts of transferring your wealth. Be sure to subscribe to our channel for more insightful content on the most important matters when it comes to wealth management. I'll see you next time on We're Talking Money.