Tax Consulting Estate and Gift Tax 2 — Questions and Answers
Question 1: What is a Grantor Retained Annuity Trust (GRAT) primarily used for?
- Providing income to charity
- Transferring asset appreciation to heirs with minimal gift tax (Correct answer)
- Avoiding probate on real estate
- Funding education accounts
Correct answer: Transferring asset appreciation to heirs with minimal gift tax
A GRAT transfers appreciation above the IRS hurdle rate (Section 7520 rate) to heirs free of gift tax, making it effective when assets are expected to grow substantially.
Question 2: The generation-skipping transfer (GST) tax is designed to prevent:
- Double taxation of income
- Avoidance of estate taxes by skipping a generation of beneficiaries (Correct answer)
- Trusts from lasting more than one generation
- Gift taxes on direct transfers to grandchildren
Correct answer: Avoidance of estate taxes by skipping a generation of beneficiaries
The GST tax applies to transfers to skip persons (generally grandchildren or below) to prevent wealthy families from avoiding estate tax at each generational level.
Question 3: Which valuation discount applies when transferring a minority interest in a closely held business?
- Discount for lack of marketability only
- Minority interest discount (reflecting lack of control)
- Both minority interest discount and discount for lack of marketability typically apply (Correct answer)
- No discount is allowed for business interests
Correct answer: Both minority interest discount and discount for lack of marketability typically apply
Transfers of minority interests in closely held businesses typically receive both a minority interest discount (lack of control) and a discount for lack of marketability, potentially reducing value by 30-40%.
Question 4: An Irrevocable Life Insurance Trust (ILIT) is used primarily to:
- Avoid income taxes on investment returns
- Remove life insurance proceeds from the taxable estate (Correct answer)
- Provide tax-free income to the grantor
- Defer capital gains on asset sales
Correct answer: Remove life insurance proceeds from the taxable estate
An ILIT holds a life insurance policy outside the insured's estate, keeping the death benefit from being included in the taxable estate while providing liquidity for heirs.
Question 5: What is the 'three-year rule' relevant to estate taxation of life insurance?
- Life insurance purchased within 3 years of death is included in the estate
- Transfers of life insurance policies within 3 years of death are pulled back into the estate (Correct answer)
- Beneficiary designations made within 3 years of death are invalid
- Premium payments within 3 years of death are taxable gifts
Correct answer: Transfers of life insurance policies within 3 years of death are pulled back into the estate
Under IRC Section 2035, if a decedent transferred a life insurance policy within 3 years of death, the policy proceeds are included in the gross estate.
Question 6: Qualified Small Business Stock (QSBS) under IRC Section 1202 can provide an exclusion of up to what percentage of gain for eligible shareholders?
- 25%
- 50%
- 75%
- 100% (Correct answer)
Correct answer: 100%
For QSBS acquired after September 27, 2010, non-corporate shareholders who hold the stock for more than 5 years may exclude 100% of the gain from federal income tax.
Tax Consulting Estate and Gift Tax 2
What is a Grantor Retained Annuity Trust (GRAT) primarily used for?