Grantor Retained Annuity Trusts (GRATs) and Unitrusts (GRUTs)
A grantor retained annuity trust is a way to pass the future growth of an asset to your children while keeping the asset’s current value for yourself. You place the asset in a trust for a term of years, the trust pays you back an annuity that returns what you put in plus a modest assumed rate of interest, and whatever the asset earns above that rate stays in the trust for your heirs, free of gift and estate tax.
The technique is most powerful for assets you expect to appreciate faster than the interest rate the Internal Revenue Service assumes: shares of a closely held business before a sale, an interest in a real estate partnership, a concentrated stock position, or any asset whose value is temporarily depressed. Because the trust is designed so that the gift on funding is close to zero, a GRAT can move substantial wealth without using much of your lifetime exemption.
Milvidskiy Law Group P.C. designs GRATs and their unitrust variant, the GRUT, coordinates the valuation and the funding, and administers the annuity payments so that the trust does what it was built to do.
Key Takeaways:
- A GRAT pays you a fixed annuity for a term of years and passes any growth above the IRS assumed rate to your beneficiaries. When the trust is “zeroed out,” the taxable gift at funding is negligible.
- The downside is limited. If the asset underperforms, the annuity payments simply return the asset to you and you are roughly where you started, less the cost of the trust. If you die during the term, most or all of the trust is included in your estate.
- GRATs are a poor vehicle for grandchildren because generation-skipping exemption cannot be allocated efficiently until the term ends. They are also less useful for assets with low expected returns.
How a GRAT Works
Funding and the annuity
You transfer an asset to an irrevocable trust and retain the right to receive a fixed annual payment for a term you select, often two to ten years. The annuity is set so that, at the interest rate the IRS publishes for the month of funding, the present value of the payments you will receive equals the value of what you contributed. The gift to your beneficiaries, which is the value of whatever will be left after the last payment, is then close to zero for gift tax purposes. Practitioners call this a zeroed-out GRAT.
What the beneficiaries receive
Suppose you fund a GRAT with $5 million of stock in a company you expect to sell within a few years, and the IRS rate for the month is a few percent. The trust pays you back roughly $5 million plus that rate over the term, in annual installments, in cash or in kind. If the stock appreciates faster than the assumed rate, the excess remains in the trust at the end of the term and passes to your children, or to a continuing trust for them, with no additional gift tax. If the stock instead grows more slowly than the assumed rate, the annuity payments consume the entire trust, the asset comes back to you, and the children receive nothing. The gift tax return you filed reported a near-zero gift either way. The figures are illustrative only.
The mortality risk
The GRAT works only if you survive the term. If you die during it, the portion of the trust needed to produce the annuity, which is usually all of it, is included in your taxable estate, and the technique fails. Shorter terms reduce that risk; longer terms lock in a low interest rate. Many clients use a series of short-term GRATs, sometimes called rolling GRATs, funding a new one with each annuity payment as it comes back.
GRATs Are Grantor Trusts
For income tax purposes, a GRAT is treated as owned by you. You report the trust’s income and gains on your own return and pay the tax personally. That is not a defect. Each dollar of tax you pay on the trust’s behalf is a dollar that stays in the trust for your children rather than being spent on tax, and the payment is not a gift. The grantor trust status also allows you to swap assets with the trust at fair value, which is how low-basis assets can be pulled back into your estate before death so that they receive a new income tax basis.
The basis point matters. Assets that pass to your children through a GRAT keep your basis; they do not receive the step-up they would have received had you held them at death. For assets you expect the children to hold for decades, or for a business that will be sold with the gain taxed anyway, that cost is often small relative to the estate tax saved. For an asset with a very low basis and a modest expected return, it can tip the analysis the other way.
The GRUT Variant
A grantor retained unitrust pays you a fixed percentage of the trust’s value as revalued each year, rather than a fixed dollar amount. Because the payment rises and falls with the asset, a GRUT cannot be zeroed out in the same way and shifts less wealth when the asset performs well. It is used less often, mainly for assets that are difficult to value each year or where the grantor wants payments that track the asset. In most planning we handle, the GRAT is the better instrument, and we explain why in the specific case.
Choosing the Right Asset
- Closely held business interests before an anticipated sale or liquidity event, particularly non-voting interests that support a valuation discount. See our page on business succession planning.
- Real estate partnership and syndication interests with expected appreciation or cash flow that exceeds the assumed rate. See real estate syndications and limited partnerships.
- Concentrated or volatile stock positions, where a single asset per GRAT prevents losers from cancelling winners.
- Assets that are temporarily depressed in value, so that the recovery passes to the next generation.
Assets with steady, low returns, such as bonds or cash, rarely beat the assumed rate by enough to justify the structure. Hard-to-value assets require a qualified appraisal, and the annuity is usually defined as a percentage of the initial value as finally determined so that a valuation adjustment on audit adjusts the annuity rather than creating a taxable gift.
State Considerations
The GRAT is a federal technique, and for most clients the federal exemption, $15,000,000 per person for 2026 according to the IRS, is not the reason they use it; they use it to move appreciation without touching the exemption at all. State rules still matter. New York has no gift tax, but it adds taxable gifts made within three years of death back into the estate, and its estate tax exclusion is $7,350,000 for 2026 with a cliff that can tax the entire estate once the exclusion is exceeded by a small margin. Because a zeroed-out GRAT produces almost no taxable gift, the add-back is usually minor, but the remainder passing to children at the end of the term is what keeps that growth out of a New York estate. Connecticut taxes lifetime gifts with an exemption tied to the federal amount, so the near-zero gift is reported there as well. New Jersey has neither an estate nor a gift tax, and its inheritance tax does not reach transfers to children.
When a GRAT Is Not the Right Tool
A GRAT is not worth its cost when your estate will remain below the federal and state thresholds, when the assets you would contribute are unlikely to outperform the assumed rate, or when your health makes surviving even a short term uncertain. It is the wrong vehicle for grandchildren; a dynasty trust funded by gift or by a sale to a grantor trust is designed for that. And it provides no creditor protection to you, because you retain the annuity. Where the goals are protection and control rather than tax, our asset protection and irrevocable trust pages describe the alternatives, and our tax planning page sets out the broader menu.
What Our GRAT Service Includes
- Modeling the transfer with your CPA and financial adviser: the asset, the term, the assumed rate, and the projected remainder under several return scenarios.
- Drafting the trust with the annuity formula, the valuation adjustment clause, the grantor trust and swap provisions, and the structure of the remainder trust for your children.
- Coordinating the qualified appraisal and the transfer documents for business interests, partnership units, or securities.
- The gift tax return reporting the transfer, and Connecticut gift tax reporting where applicable.
- Administration of the annuity payments during the term, including in-kind distributions and the funding of successor GRATs.
- Integration with your estate plan and business agreements so that the trust’s ownership does not conflict with transfer restrictions.
Schedule a Consultation About GRAT Planning
If you hold an asset you expect to grow substantially, and your estate is at or near a taxable level, a GRAT can move that growth to your family at very little transfer tax cost. Timing matters, because the technique depends on the interest rate in effect when the trust is funded. Our attorneys practice in New York, New Jersey, and Connecticut. Contact Milvidskiy Law Group P.C. to schedule a consultation.
This page is provided for general informational purposes only and does not constitute legal advice. Laws differ by state and change over time. Tax figures are as of the date stated and change annually. For advice about your situation, consult a qualified attorney.
Frequently Asked Questions
What is a grantor retained annuity trust?
A GRAT is an irrevocable trust into which you transfer an asset while retaining the right to receive a fixed annual payment for a term of years. The payments return your contribution plus interest at a rate the IRS publishes. Whatever the asset earns above that rate stays in the trust for your beneficiaries at the end of the term, generally free of gift and estate tax.
What does it mean to zero out a GRAT?
It means setting the annuity high enough that the present value of the payments you will receive equals the value of what you contributed, so the taxable gift of the remainder is close to zero. A zeroed-out GRAT uses almost none of your lifetime exemption, which is why it is attractive even for people who have already used most of it.
What happens if the assets in a GRAT do not grow?
The annuity payments consume the trust and the asset comes back to you. Your beneficiaries receive nothing, but you have lost only the cost of setting up the trust. Because the gift at funding was near zero, no exemption has been wasted. This limited downside is one of the technique’s main attractions.
What happens if I die during the GRAT term?
The trust assets needed to fund the remaining annuity payments, which in a zeroed-out GRAT is usually the entire trust, are included in your taxable estate. The planning fails, though you are not penalized beyond the cost. Shorter terms reduce this risk, and many clients use a series of short GRATs rather than one long one.
What is the difference between a GRAT and a GRUT?
A GRAT pays a fixed dollar amount each year. A GRUT pays a fixed percentage of the trust’s value as revalued annually, so the payment rises and falls with the asset. A GRUT cannot be zeroed out in the same way and generally transfers less wealth when the asset performs well, so it is used mainly for assets that are hard to value or where the grantor wants payments that track the asset.
Who pays the income tax on a GRAT?
You do. A GRAT is a grantor trust, so its income and gains are reported on your personal return. Paying that tax from your own funds is not a gift, and it allows the trust to grow undiminished for your beneficiaries, which increases the amount that ultimately passes to them.
Do assets in a GRAT get a step-up in basis?
No. Assets that pass to your beneficiaries at the end of the term keep your original basis. The trust’s grantor trust status usually allows you to swap low-basis assets back into your own name for high-basis assets or cash before death, so that the low-basis assets receive a step-up in your estate. That swap power is built into the document.
Which assets work best in a GRAT?
Assets you expect to appreciate faster than the IRS assumed rate: closely held business interests ahead of a sale, real estate partnership interests, concentrated stock positions, and assets whose value is temporarily depressed. Low-return assets such as bonds rarely beat the rate by enough to justify the structure.
Can a GRAT benefit my grandchildren?
Not efficiently. The generation-skipping transfer tax exemption cannot be allocated to a GRAT until the term ends, when the trust’s value is known and may be much larger. For multigenerational planning a dynasty trust funded by gift or by a sale to a grantor trust is usually the better tool.
How does New York treat a GRAT?
New York has no gift tax, so funding the GRAT is not taxed by the state. New York does add taxable gifts made within three years of death back into the estate, but a zeroed-out GRAT produces almost no taxable gift. The value that passes to your children at the end of the term is outside your New York taxable estate, which matters because New York’s exclusion is $7,350,000 for 2026 and its cliff can tax the entire estate above that level.
