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Understanding generation-skipping trusts

A generation-skipping trust is one methodology by which wealthy Californians can pass their estates down through the family without facing the double estate taxation that other methodologies often entail. As Investor Guide explains, a generation-skipping trust generally names the grantor’s grandchildren as beneficiaries of the trust. By bypassing the grantor’s children, the family saves the estate taxes they would have to pay if the children first inherited, followed later by their own children.

Although a generation-skipping trust usually names grandchildren as the beneficiaries, this is not a necessity. The grantor can name anyone (s)he wants as a trust beneficiary as long as that person is not his or her spouse or ex-spouse and is at least 37-1/2 years younger than (s)he.

Per Worth.com, the grantor need not completely exclude his or her children when (s)he sets up a generation-skipping trust. (S)he can structure the trust in such a way that the children receive the income produced by the trust assets throughout their lives, although they will never own the assets themselves. Consequently, most grantors fund their generation-skipping trusts with income-producing assets and those that likely will appreciate in value over time.

Taxes and exemptions

Two tax exemptions come into play with regard to a generation-skipping trust: the estate tax exemption and the generation-skipping transfer tax exemption. Both exemptions amount to $5.49 million for an individual and $11.2 million for a married couple. While the amounts are the same, however, they apply to different portions of the family’s wealth. The estate tax exemption applies to the value of assets that a decedent passes directly to his or her heirs. The generation-skipping transfer tax exemption applies to the value of assets that a grantor passes to his or her beneficiaries by way of a generation-skipping trust.

Additional advantages

While tax savings generally represent the greatest advantage of generation-skipping trusts, this is not the only advantage such a trust can achieve. Trust assets also remain outside the reach of an adult child’s spouse should a divorce occur. The assets likewise remain outside the reach of an adult child’s creditors should (s)he get into financial difficulties.

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