A grantor retained income trust, or GRIT, allows a person to give away property after death, enjoy the property income during life and still reduce estate taxes. The trustee manages the grantor’s money on behalf of the beneficiaries. However, tax laws limit the GRIT in important ways, including imposing rules for who can be the trustee of a GRIT.
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A person with assets, such as stocks or land, signs a written trust agreement transferring those assets to the trust. The trustee pays the trust income to the grantor for a term of years. At the end of the term, the trustee pays what’s left in the trust to the beneficiaries or holds the assets in trust for the beneficiaries. The value of the GRIT principal is then excluded from the grantor’s estate for federal tax purposes. The GRIT proved so popular and cost the government so much tax revenue that Congress, in 1990, changed the GRIT rules. The grantor’s spouse, ancestors, siblings, children and grandchildren -- and their spouses -- can no longer benefit from GRIT tax savings.
A GRIT is an irrevocable trust. Once the grantor sets up the trust plan, the grantor cannot control trust decisions or try to sway the trustee’s actions. Thus, the GRIT grantor cannot be his own trustee, a common arrangement in lifetime trusts. A spouse cannot be a GRIT trustee either, since a husband and wife presumably have some say over each other’s decisions. Children, for the same reason, are barred as GRIT trustees. However, a GRIT beneficiary can be a trustee. If the GRIT is set up to benefit a niece or nephew, that niece or nephew can act as a trustee. A GRIT trustee also can be a financial professional, such as the grantor’s lawyer or accountant, or a financial entity, such as the bank or other corporate money manager in charge of the trust assets.
If the grantor outlives the trust term, the assets left in the trust pass to the beneficiaries, free of extra estate taxes or gift taxes. If the grantor dies early, his estate is no worse off in tax terms than if he had never set up a GRIT in the first place. The GRIT income the grantor receives is taxable, but that income can be limited by trustee management. If the trustee is managing the grantor’s house or undeveloped land, so much the better. There's no current income to tax and future appreciation will go to the beneficiaries.
GRITs are no longer of much use as family trusts, except for the grantor’s nieces and nephews. However, the GRIT is a boon to tax planners for same-sex couples. Federal law doesn't recognize same-sex marriage. That may or may not be discrimination, but it means one-half of the same-sex couple can set up a GRIT to benefit the other half and not fall afoul of IRS regulations. The other half can also serve as a GRIT trustee. Under current federal law, he or she isn’t considered a spouse — so he or she isn't considered a family member.