Forbes, Goodbye GRATs?, by Ashlea Ebeling:

Congress seems set to crack down on a popular strategy for cutting estate and gift taxes. Tucked into a jobs and small business tax relief bill that the House is expected to vote on Wednesday are new restrictions on a popular estate planning strategy that has been used by, among others, the billionaire Walton family that founded Wal-Mart. The technique, known as a grantor retained annuity trust, or GRAT, allows rich families to pass on wealth while dramatically cutting their estate and gift tax bills.

In his fiscal 2010 budget proposal last year and again this year in his 2011 budget proposal, President Barack Obama suggested reigning in GRATS. But estate planners didn't take the threat too seriously at first. Now, they're sounding the alarm and urging rich clients to set up GRATs before the restrictions can become law. "The theoretical is becoming real here," says Robert Morrill, an estate lawyer with Gilmore, Rees & Carlson in Wellesley, Mass. "People who have been thinking about doing GRATs need to move forward now."

The new GRAT restrictions would likely be effective when the bill is signed, which means there is a window of opportunity to set up GRATs under the old rules. The jobs bill, assuming it passes the House, still must go to the Senate. But even if the GRAT restrictions don't end up as part of the current legislation, planners now believe Democrats will use the GRAT crackdown as a "revenue raiser" to fund some other spending or tax break this year. Congress' Joint Committee on Taxation projects the GRAT crackdown will raise $4.45 billion over 10 years.

With a GRAT, a grantor puts assets into a trust and takes back an annuity payout for typically two to three years. At the end of the period, anything left in the trust goes to the grantor's children or other trust beneficiaries. The value of the annuity is calculated based on a government set rate of interest–currently a very low 3.2%. Often, the payout is set so that if the assets grow at only 3.2%, all the assets will be paid out as an annuity–what's known as a "zeroed out" GRAT. Since, in theory, nothing is left for the beneficiaries, no gift tax is owed. If the value of the assets in the trust (say Wal-Mart stock) grows at more than 3.2% a year, the children or other trust beneficiaries get that excess appreciation, free of estate and gift tax. If the assets don't appreciate beyond the set rate of interest, the grantor is out the legal set-up fees (which generally start at $2,500 per GRAT) but otherwise no worse off, tax wise, since the grantor has simply paid back to himself as an annuity the assets put in the trust.

But this technique isn't a sure thing. If the grantor dies during the term of the trust, the assets put in the GRAT, plus any appreciation, are included in his or her estate. The House bill would require a GRAT to last a minimum of 10 years. That increases the risk the person setting it up will die during the term of the GRAT, making GRATs less attractive for the older folks who typically set them up.