AFRs (applicable federal rates) are interest rates published each month by the IRS. They are the lowest rates you can charge when making intra-family loans. Because they are taking a substantial dip in October (see chart), now may be a good time to accelerate any gifting you are planning.
These rates are the lowest for the year and, in the case of the long-term, the lowest in history. While is it not clear whether rates will trend even lower, families should seriously consider the opportunity to pursue tax efficient wealth transfer strategies now.
The current estate and gift tax exclusion is $11.4 million ($22.8 million for a married couple). Barring congressional action, these numbers are scheduled to revert to half those amounts in 2026. And they could go even lower depending on the results of next year’s election.
In this environment, the following techniques are advantageous:
Intra-Family Loans. Parents can make low-interest loans to children or to trusts for the benefit of children or other family members, who may pay interest annually and the loan principal at the end of the term. Since the AFR rates are still lower on average than the commercial lending rates, these loans are useful for providing investment capital and funding home purchases.
Grantor Retained Annuity Trust (GRAT). The grantor transfers assets to a trust for a term of years and receives an annual annuity. GRATS are typically structured so that virtually no taxable gift is incurred at creation. If the grantor survives the term, the assets pass to the beneficiaries virtually estate and gift tax free. The annual annuity the grantor receives is based on the 7520 rate. The lower the 7520 rate, the less the grantor is required to receive. This means the more the trust earns and appreciates, the more that passes to the beneficiaries.
Gifts/Sales to Intentionally Defective Grantor Trusts (IDGTs)/Generation-Skipping Trusts (GSTs): By making a complete sale, complete gift, or a combination of both to an IDGT/Generation-Skipping Trust, the grantor will still pay the income tax on the income generated by the trust, including capital gains tax. However, this will allow the property sold and/or gifted to the trust to grow for the beneficiaries outside of the grantor’s estate and unencumbered by income tax. Further, through the allocation of the grantor’s unused GST tax exemption to the trust, an amount up to that exemption may benefit several generations of the grantor transfer tax free.
Should you have questions about how to plan and structure your gifting and overall estate planning to achieve the maximum tax benefits, contact your trust and estate attorney and me at SDitman@berdonllp.com or your Berdon advisor.
Scott T. Ditman, a tax partner and Chair, Personal Wealth Services at Berdon LLP, advises high net worth individuals and family/owner-managed business clients on building, preserving, and transferring wealth, estate and income tax issues, and succession and financial planning.