Quick answer: A GRAT lets you transfer asset growth to heirs with little or no gift tax. You put assets into the trust, receive fixed annuity payments back over 2–10 years, and whatever the trust earns above the IRS's hurdle rate (the Section 7520 rate) passes to your heirs tax-free at the end of the term. The strategy works best with assets expected to appreciate significantly — like pre-IPO stock, real estate, or a growing business.
How the Math Works
Here's the logic: the IRS sets a monthly "hurdle rate" (Section 7520 rate). When you fund a GRAT, the taxable gift to heirs is calculated as the trust assets minus the present value of the annuity payments you'll receive back. If you structure the GRAT to pay you back essentially everything at today's value (a "zeroed-out" GRAT), the taxable gift is near zero. Now if the assets inside the trust grow faster than the hurdle rate — say 12% vs. a 4% hurdle — that excess 8% growth passes to your heirs completely gift-tax-free at the end of the term.
The Key Risk: Mortality
If you die during the GRAT term, the assets revert to your taxable estate — as if the GRAT never happened. This is why estate planners often recommend short GRAT terms (2–3 years) and "rolling GRATs" — create a new GRAT each time one expires, locking in gains as you go. GRATs are particularly popular in low-interest-rate environments because it's easier for asset growth to exceed the IRS hurdle.
GRATs vs. Other Transfer Strategies
GRATs are best suited for assets with high expected appreciation and clear market value (public stock, real estate). For closely held business interests, an installment sale to an intentionally defective grantor trust (IDGT) may be more flexible. GRATs cannot be used to skip generations directly — combine with a dynasty trust for multigenerational transfer. Always work with an estate attorney who can model the specific numbers for your situation.
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Kyle Ellison is a licensed financial professional in TX, CA, NV, MT, UT, NM helping families protect and pass on what they've built.