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A Guide to Generation Skipping Trusts (GST Trusts)

What exactly is a generation skipping trust (or GST trust), and who should consider setting one up? Trust & Will explains.

When you’ve spent your whole life building a legacy, you’ll naturally want to protect it as much as possible. A Trust is a popular estate planning tool that helps families minimize their estate’s exposure to probate, creditor claims, and taxes. There’s a diverse array of Trusts to choose from, with each of them serving different fiduciary arrangements and offering various advantages. One such Trust is a generation skipping trust. Keep reading to find out why some estate planners might choose to pass assets directly to their grandchildren.

What Is a Generation Skipping Trust? 

A generation skipping trust is a fiduciary arrangement that is used to pass down assets and property to a later generation. The trustor, also called the settlor or grantor, skips over their own children to pass the inheritance to their grandchildren. The trust skips a generation, thus earning its name. 

However, the GST trust doesn’t necessarily have to be for your grandchildren. It could be anyone who is younger than you by at least 37 ½ years. So in theory, it could be a niece, a great-nephew, or even your own child that you had later in life.

Any type of properly established trust is a legally binding fiduciary agreement. If you’re wondering “is a GST trust revocable or irrevocable,” the answer is irrevocable. If you remember from our other guides, although irrevocable trusts cannot be revoked or modified, they offer more tax and asset protection. Some individuals use the GST trust as a strategy to retain more wealth in their family by skipping one round of estate taxes

How Does a Generation Skipping Trust Work?

According to U.S. generation skipping trust rules, the beneficiary must be two or more generations younger than the trustor. Mentioned before, this means that the beneficiary must either be the grandchild of the trustor, or anyone who is at least 37 ½ years younger. They do not have to be a blood relative as long as they reach the age requirement.

If you’re considering a GST trust, here is some additional information we want to make sure you know.

In the case of traditional types of trusts, assets are typically exposed to estate taxes. By setting up a GST trust, you get to avoid taxes that are normally assessed if your children were to inherit your assets. However, it should be noted that Congress enacted a generation-skipping (GST) tax to close this loophole that families discovered. Any distributions from a GST trust is subject to the 40 percent GST tax in addition to the general 40 percent gift and estate tax. Luckily, the current threshold is at $11.7 million. Unless you’re ultra-wealthy, your estate won’t owe any taxes.

Second, you might be wondering if there are any benefits for the generation that is being skipped over. There are no regulations that prevent the trustor’s children from accessing earnings made by assets held by the Trust. This means that they can also benefit from trust earnings, as long as the original assets are not distributed. These can only be released to the skip person. 

Benefits of Generation Skipping Trusts

A generation skipping trust is a great estate planning tool for some estates, but not all. If you’re considering setting up one or more GST trusts, make sure that you would be able to take advantage of these benefits:

  • Great planning tool for larger estates: If you have a rather large estate, you can use a generation skipping trust to personally ensure that your family legacy is preserved for at least two generations. This means that not only will your own children benefit, your grandchildren will also be supported.

  • Skip a round of estate taxes: Because the assets held in the GST trust will not go directly to your children, you get to skip a round of estate taxes. Estate taxes will only be assessed when property is distributed to your skip person (such as your grandchild.) Had you passed your assets directly to your child, who then passed their assets to their own children, the family legacy would have been taxed twice. 

  • GST trust assets are not included in your child’s estate: Any assets placed into a generation skipping trust cannot be included in your child’s estate. This protects their estate, and they can retain full control of their own trusts during their lifetime. 

Drawbacks of Generation Skipping Trusts

Before you commit to establishing a GST trust, it’s also important to be aware of the potential drawbacks. However, in some cases, certain disadvantages won’t apply. 

  • Generation-skipping taxes may apply: The generation-skipping transfer (GST) tax was established to circumvent families from escaping estate taxes over multiple generations. If your estate surpasses the $11.7 million exemption, it will be subject to both the GST tax (40%) and estate tax (40%) of the amount exceeding the exemption. Luckily, many families don’t exceed this exemption amount and will not be subject to the tax.

  • Administrative burden of running the trust: Although Trusts are a powerful estate planning tool, you should be made aware that trusts require some thought, energy, and resources. However, it’s completely worth your effort as they are designed to maximize and prolong the legacy passed down through your family. It’s best to work with an estate planning service or professional to help you set up the type of trusts that work best for your financial circumstances.

  • May not be ideal for children being skipped: The idea behind the generation skipping trust is to protect your children and later generations. With an estate large enough, your children can still benefit from profits generated by assets held in the trust without any penalty. If you wish to support your children financially, you will need to evaluate if any income produced by the trust is substantial enough. 

Is a GST Trust Revocable or Irrevocable?

A generation skipping trust is an irrevocable trust. This type of trust cannot be changed or revoked. However, building an irrevocable trust does not necessarily mean that you relinquish all of your power. You can still build in provisions that give you the ability to determine how the estate is invested and how assets are distributed. For more information, visit our guide that explains the differences between revocable vs. irrevocable trusts

Who Needs a Generation Skipping Trust? 

A generation skipping trust is a powerful estate planning tool, especially for individuals with large estates. They are a great way to help your family avoid paying estate taxes twice, when the estate passes to your children, and then again to your grandchildren. Although your grandchildren (or any individual at least 37 ½  years younger than you) act as the beneficiaries, your children still benefit from the trust. Not only can they receive any income produced by the trust’s assets, they get to keep their own estate completely separate from it.

However the GST trust is not the right fit for everyone. Be aware that any trust exceeding the $11.7 million exemption can face a GST tax and estate tax double-whammy. In addition, this type of trust may not make sense for smaller estates, in which case you might want to pass assets directly to your children. 

We always recommend working with a professional to help maximize your wealth and minimize your tax exposure! Trust & Will is here to help you. Not only do we provide easy, accessible and affordable Trust creation services, we have experts available to help you every step of the way.

Is there a question here we didn’t answer? Reach out to us today or Chat with a live member support representative!