I attended the USC Tax Institute last month.  One of the major themes dealt with certain types of favorable tax planning options during the current economic downturn.  The planning was based upon two principles.  The first dealt with the idea that an individual believed that the depressed value of his or her stocks or real estate will appreciate sometime in the future.  The second principle was that if a gift was going to be made that the income stream from the asset involved would remain steady.  This is very important as will be discussed in the first example and not so important in the second dealing with a personal residence.
Interest rates have dropped significantly in recent months and should remain low given the state of the economy. Sagging rates can have a significant impact on many tax and estate planning strategies. Lower interest rates affect the income, estate and gift tax value of many types of transfers. In many cases, the drop in rates produces more favorable results for individuals engaging in certain types of transactions. In other cases, however, the lower rates result in higher tax costs. Likewise, stock values and real estate generally have declined significantly and also have affected various time-tested tax moves. This article examines how low interest rates and the depressed stock market or real estate affect key tax and estate planning transactions and strategies.  I will discuss only two types of strategies in this article and how the interest rate impacts the planning.
Grantor retained annuity trust (GRAT). An individual can save transfer tax by setting up a GRAT. The individual retains an annuity interest for a specified term at the expiration of which the trust property goes to a child or other individual named at the outset. Gift tax is payable but only on the present value of the remainder interest, which is the value of the property transferred to the trust less the value of the retained annuity interest. A lower interest rate increases the value of the annuity retained by the grantor and thus reduces the value of the gift of the remainder in a GRAT.
The post-transfer appreciation in the value of the trust assets will escape transfer tax. However, this is so only if the grantor survives the trust term. If the grantor dies during the trust term, the trust property will be included in his gross estate under Code Sec. 2036(a) , which provides that property transferred by an individual during his lifetime is includible in his estate if he retains an interest for any period that does not in fact end before his death. But an individual who sets up a GRAT and dies before the end of the term would be no worse off than if he had not entered into the transaction except that he will have incurred the costs of setting up and administering the trust.
Example.  When the Code Sec. 7520 interest factor is 2.2%, Smith transfers $1 million to a trust, which is to pay him an annual annuity of $80,000 for 10 years. At the end of the 10 years, the trust property is to go to Smith’s daughter. The value of Smith’s retained annuity is $711,144. This figure is determined by multiplying $80,000 by 8.8893, which is the annuity factor from Table B of IRS Publication 1457 for a 10-year term and an interest rate of 2.2%. The value of the gift of the remainder to Smith’s daughter is $288,856.  By way of comparison, had Smith made the transfer when the interest factor was 6.2%, the value of the gift would have been $416,736.
Grantor retained income trust (GRIT).  A GRIT is like a GRAT except that the grantor retains an income interest instead of an annuity interest. Code Sec. 2702 generally treats the grantor as making a gift of the full value of the property. However, the value of the gift of the remainder is determined under the valuation tables where the trust is funded with a personal residence of the grantor or the remainder goes to someone falling outside of the definition of family member, such as a nephew or niece. A lower interest rate results in a lower value for the retained interest and a higher value for the gift of remainder interest in a residence GRIT or other GRIT excepted from the Code Sec. 2702 rules.
Example.  When the Code Sec. 7520 interest factor is 2.2%, Bailey establishes a personal residence GRIT, retaining a ten-year term interest. At the end of the 10-year period, the residence is to go to his son. The value of the residence at the time of the initial transfer to the trust is $400,000. The remainder factor from Table B of IRS Publication 1457 is .804435, making the value of the gift $321,774. Had Bailey engaged in the same transaction when the interest factor was 6.2%, the value of the gift would have been $219,187. Thus, higher rates actually produce a better result for this strategy than when interest rates are lower. As a result, a person may want to wait until interest rates rise before engaging in this type of transaction.

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