by: Chris McGraw, JD, LL.M., Senior Wealth Strategist

Introduction

Grantor Retained Annuity Trusts (GRATs) are widely used in estate planning to transfer wealth to beneficiaries without triggering gift or estate tax, provided the GRAT is properly structured. In favorable market conditions, especially during prolonged bull markets, a passive, “set it and forget it” approach can yield favorable results. However, in today’s environment of market volatility, relying on passive GRAT strategies may limit their effectiveness or result in failure. Strategically and actively managing GRATs in real time, particularly through asset substitution or “re-GRATing”, can substantially increase the odds of transferring wealth tax-efficiently, even amid unstable market conditions.

Active Management in Action

Consider the case of Jane Oxford, who transfers $1 million in publicly traded ABC stock to a two-year, zeroed-out GRAT. At a 5% Section 7520 hurdle rate, she receives annuity payments of approximately 54% of the initial value at the end of each year ($540,000). If the stock performs consistently above this 5% threshold, the remaining assets in the GRAT after the final annuity payment pass to beneficiaries transfer tax-free.

In contrast, consider if the stock declines after the GRAT is funded. For the sake of illustration, let’s assume the stock price declines by 10% during the first year of the GRAT, which results in the value of the trust dropping below what is needed to satisfy future annuity payments, rendering the GRAT ineffective by its termination. Rather than passively accepting this outcome, a more strategic approach might be to consider the following:

• Re-GRAT the annuity payment: Use the first-year annuity payment ($540,000) to fund a new GRAT based on the lower stock valuation; or
• Substitute assets: Replace all of the depreciated stock in the existing GRAT with other assets (e.g., cash) and use the now lower-valued stock to fund a new GRAT.

Either approach allows future appreciation from the depressed value to accrue in a new GRAT, creating a higher probability of success.

For instance, continue to assume the above ABC stock drops 10% in the first year. Taking into account the value decline and the first-year annuity payment, the value of the GRAT drops to $360,000. With a $540,000 annuity obligation in year two, more than 50% gain is needed for success. In order to better position the GRAT for success, the following active GRAT management strategies could be considered:

• Re-GRAT the annuity payment: Jane could take the first annuity payment of $540,000 and create a new GRAT. This would allow any recovery from the lower value to be captured in the new GRAT. If the ABC stock does bounce back and recover the $100,000 value decline and remains flat thereafter, the recovery of the loss amount alone will result in a tax-free transfer of approximately $10,000 from the new GRAT, instead of likely $0 if the new GRAT was not established.
• Substitute assets: Jane could replace all of the ABC stock used to fund the initial GRAT with cash and fund a new GRAT with all of the ABC stock. Assuming the same $100,000 value recovery and the stock remaining flat thereafter, the recovery of the loss amount alone in year one of the new GRAT will result in a tax-free transfer of approximately $28,000, instead of likely $0 if no steps were taken.

Capturing Gains Early: Locking in Value

Now consider the reverse, rapid appreciation. Assume Jane funds a two-year GRAT with $1 million of publicly traded XYZ stock when it’s priced at $115. Within seven months the stock price climbs to $280, a 143% increase.

To “lock in” the appreciation and avoid any potential downturn, Jane could substitute $2.43 million in cash for the XYZ stock, effectively freezing the GRAT’s gain. This would ensure a $1.3 million tax-free transfer. Additionally, if during the remainder of the GRAT term the price of XYZ stock dipped, the then lower-valued stock could be used to fund a new GRAT, establishing a potential second transfer cycle.

Key Takeaways

• GRATs are not set-and-forget—active management makes a difference.
• In declines, restructure to reset basis and regain opportunity.
• In rallies, lock in value to help secure wealth transfer.
• Active GRAT management can maximize flexibility and estate planning efficiency.

Conclusion

GRATs can be a powerful and flexible tool for tax-efficient wealth transfer, but their success depends on more than structure alone. In today’s uncertain market, active management, through re-GRATing, asset substitution and gain-locking, may significantly enhance outcomes and mitigate downside risk.

The Oxford team stands ready to guide clients through strategic GRAT implementation and management tailored to evolving market conditions.

The examples included were created for illustrative and educational purposes only. They are not real scenarios and cannot be guaranteed.

Oxford Financial Group, Ltd. is an investment advisor with the U.S. Securities and Exchange Commission. Registration does not imply a certain level of skill or training. More information about Oxford Financial Group, Ltd.'s investment advisory services can be found in its Form ADV Part 2, which is available upon request. The information in this presentation is for educational and illustrative purposes only and does not constitute tax, legal or investment advice. Tax and legal counsel should be engaged before taking any action. This presentation has been prepared from sources and data believed to be reliable and also includes opinions that are subject to change based on changes in certain industries or market conditions. However, no representations are made as to the accuracy or completeness thereof. Past performance is not indicative of future results.OFG-2507-57