In “What you need to know about the grandparent tax,” MSN.com offers very useful estate planning advice for those who plan to leave money to their children or grandchildren. Once upon a time, a grandparent could leave money to a grandchild and have it only be taxed once…but that was before 1986 when the government created the GST (generation skipping tax/generation skipping transfer tax):
“The GST tax only hits wealth transfers to individuals more than one generation below you (such as grandkids and great grandkids). But beware, that can include wealth transfers to grandkids (or great grandkids) who happen to be primary or contingent beneficiaries to any trusts you create.”
(That last part means that if you create a trust for your child, and your child dies and passes that wealth on to your grandchild, the GST may still apply.)
According to ElderLawAnswers.com, this tax is not just designed for grandchildren related to you by blood but for other younger people you might want to inherit since, “The tax is also assessed on property passed to unrelated individuals more than 37.5 years younger [than you].”
Since the GST is a 40% tax that would be added to any other taxes that apply, it takes quite a large chunk out of anything you wish to leave for future generations.
You can get around the GST through direct gifts. For example, you can pay a grandchild’s college tuition directly to the school. You can also take advantage of the GST exemption (for 2015, it is a hefty $5.43 million) and this “will shelter all your direct gifts until the exemption has been used up.”
There are a number of other ways to avoid having your grandchildren’s inheritance reduced due to taxation. A financial expert such as a Fee-Only financial advisor can help you with estate planning to make sure that your family can get the most value out of the wealth you plan to leave them.