When a grantor retains certain powers of control over trust property and income, the grantor is considered to be the owner of trust property and is taxed on the income. These rules are included in § 673-677 of the IRC.

§ 673: Revisionary Interest Rule – grantor treated as owner if the grantor and/or grantor’s spouse has a revisionary interest in either trust income or corpus and the value of such interest exceeds 5% of the value of property

§ 674: Beneficial Interest Rule – when the grantor or spouse control the beneficial enjoyment of the trust property, the grantor is taxed as the owner of the trust for income tax purposes. Common when the grantor is also a trustee of a discretionary trust

§ 675: Administrative Powers Rule – if the grantor or spouse retain certain administrative powers, the grantor may be treated as the owner of the trust corpus. Examples:

  • Power to borrow from the trust without adequate interest or security

  • A right to vote any stock held in trust

  • The power to dispose of the trust corpus for less than adequate and full consideration

§ 676: Revocable Powers Rule – if the grantor may revoke the provisions of the trust, the grantor is treated as the owner of the trust property and is taxed on the income from it. Most common example of this rule is a revocable living trust

§ 677: Income for the Benefit of the Grantor Rule – grantor is treated as the owner if, at the discretion of the grantor, the income may be distributed to the grantor or the spouse, accumulated for distributions for them, or used to pay life insurance premiums for them (ILIT)

Grantor Retained Annuity Trust (GRAT)

  • One time irrevocable transfer of property and the right to retain a fixed amount of income for a specified period of time

  • Property passes to or is held for remainder beneficiaries at the end of the term

  • A way to get assets out of your estate

  • Value of gift is discounted to account for the grantor’s retained interest based on the IRC § 7520 rate

  • Assets must outperform the IRC § 7520 rate for the GRAT to be successful

  • The longer the term, higher the payout and lower the rate, the more the value of the gift will be discounted

  • Value of trust added in grantor’s estate if he or she does not outlive the term

  • Does not qualify for annual exclusion

  • ‘Zeroed-out’ GRATs/Short-term rolling GRATs

  • No IRC § 1014 basis adjustment upon death

Grantor Retained Unitrust (GRUT)

  • One time irrevocable transfer of property and the right to retain a fixed percentage of income for a specified period of time

  • Assets revalued annually to determine payout

  • Property passes to or is held for remainder beneficiaries at the end of the term

  • Gift discounted same as a GRAT

  • Value of trust added in grantor’s estate if he or she does not outlive the term

  • No IRC § 1014 basis adjustment upon death

  • No ‘zeroed-out’ GRUTs