CLIENT ALERT
Impact of New GST Automatic Allocation Rules

In 2001, President George W. Bush signed into law the Economic Growth and Tax Relief Reconciliation Act (“EGTRRA”). EGTRRA may have a profound impact on income, estate, gift and generation-skipping taxes in increasing stages over the next many years. While you should periodically review with us your estate planning in light of these unfolding changes, we are specifically writing today due to the impact of certain changes in EGTRRA with unintended consequences.

As you may be aware, in addition to the federal estate tax, there is also a federal generation-skipping tax (“GST”). Many of our clients have established supertrusts or dynasty trusts or other forms of GST trusts to protect assets from the federal estate tax for more than one generation. In those cases, your accountant should be annually filing a gift tax return to allocate GST exemption to gifts you make to such trusts. Under EGTRRA, such GST allocations will now be automatic in certain cases.

The problem is that the EGTRRA language is so broad that this automatic allocation of GST exemption to irrevocable trusts covers not only the GST trusts described above but also irrevocable trusts that are not intended to be generation-skipping trusts, i.e., those trusts intended to be paid out at some point to children, rather than held in trust for the children’s lifetime and then held in trust or paid out to grandchildren. As worded, EGTRRA may apply to such trusts and create an automatic allocation of GST exemption to them. Such automatic allocation would be a waste of the GST exemption in most cases where GST planning was not intended.

The practical key to GST planning is the need for individuals to wisely “allocate” their available GST exemption to proper transfers, i.e., transfers that are intended to pass estate tax free upon the death of your children.

EGTRRA may now automatically apply your GST exemption to trusts not intended by you, thereby potentially wasting your GST exemption. This may or may not work toward your desired goals and to your benefit.

Fortunately, EGTRRA provides that you may “opt out” from such automatic GST allocation by filing a timely-filed gift tax return (April 15 or the timely extended due date) and so electing. The election to opt out may be for one year or permanently until changed.

If you have an irrevocable trust that is not intended to be a GST trust, we strongly recommend that you contact your accountant to discuss with him or her whether you should file a gift tax return to opt out from the automatic GST allocation with respect to gifts made by you in 2001 to your irrevocable trust. If your irrevocable trust is designed to be a GST trust for which the automatic allocation rules may apply, you should discuss with your accountant whether you should file a gift tax return to manually allocate GST exemption to transfers to the trust or establish a mechanism to keep track of the automatically allocated GST exemption.