SCINs, GRATs and IDGT and Low Interest Loans Make Now a Good Time to Transfer Wealth to Heirs

The low interest rate environment we're in makes it a good time to transfer wealth to heirs via loans or more arcane financial structures with names like SCINs, GRATs and IDGTs.

The topic is becoming hot and WSJ did a great article on this today.

Let's do our own review of how the low rate environment make this a good time to do some wealth transfer planning.

Loan from Mom and Dad

This is the easiest way to transfer money to your heirs. Under October rules, the IRS allow you to make a loan to your kids at a rate that is now as low at 2.63%. In addition, for every year of the loan you and your spouse can forgive up $52,000 of the loan annually without triggering current gift taxes.

The rate can be refinanced at any time if the AFR (Applicable Federal Rate) comes down. To avoid any IRS suspiction that this is a gift cloaked as a loan, be sure to have a written agreement, and plan on paying interest for at least one year before any loan forgiveness is given.

You can check the current AFR on the IRS site here.

Several other financial products take advantage of falling rates. These are more complicated and you should consult an estate planning expert if you are thinking of setting one up.They are:

Self-Cancelling Installment Note (SCIN)

A skin allows a senior member in a family to sell an asset (asset, real estate, etc.) to a junior member and finance the sale through the issuance of loan that is paid in installments. The loan is set up so that is cancels upon the death of the senior member. Is the seller lives, the note must be paid but upon the sellers death, all future payments are cancelled. The objectives os a SCIN are two-fold: the avoidance of paying inheritance tax on the asset that was transferred; 2) the exclusion of the unpaid balance to the seller's estate.

Low rates are an advantage because while the seller is alive, the interest paid is less that it would be in a high rate environment, minimizing the amount that must be paid to the seller while alive.

Grantor-retained Annuity Trust (GRAT)

GRATs allow a senior family member to put money into a special trust. The trust then pays the money back to the donor at a specified rate. Money that accrues above in the trust above the IRS threshold rate, can be passed to the heirs tax free. Thus, the lower the IRS rate, the bigger the potential difference that can be passed tax-free. GRATs are meant to run during the senior members life. If the parent dies, then the tax advantages of a GRAT disappear.

Intentionally Defective Grantor Trust (IDGT)

IDGT's are actually not defective at all. They allow individuals to sell assets into a trust. The sale price is usually significantly below the market price. The trust pays an interest rate over time that is based on IRS tables. Thus, the lower the rate, the less the trust has to pay out. Everything inside the trust then passes tax free to the heirs upon the death of the senior member.

There are several disadvantages to an intentionally defective grantor trust. First, while legal, these trusts are sometimes contested by the IRS. Usually, the discounting of the asset passed is the biggest issue. Also, if the value of the asset drops after the trust is set up, the trust still needs to pay back the initial amount.

Bond Survivor's Option or Estate Put

These bonds, which are issued by major institutions such as GE Capital, Bank of America, Caterpiller, and others provide a death benefit in which the issuer will allow the estate of the owner to put the value of the bond back at par value upon the death of the original purchaser. In this low rate enviroment that may be very valuable. If for example, someone purchased bonds today in this low interest rate environment, in 5 years rates may be higher, lowering the value of the bond. With a survivors option, the bond value would reset at par value.

The bonds pay slightly less interest because of this option but are still competitive.

Low rates have many downsides for savers, but they also offer benefits. If you are thinking of ways of passing your hard earned money to your heirs, then these are all instruments to consider.