The Highs and Lows of Interest Rates

January 2, 2020

Robert Katz

Investment Commentary

As many of our clients experienced in 2019, interest rate trends can lead to meaningful estate planning strategies. Many economists are forecasting interest rates to remain low in the upcoming year, presenting valuable opportunities to transfer additional wealth to next generations while minimizing taxes. Below are some effective estate planning strategies and wealth transfer instruments you may wish to discuss with us in early 2020:

  1. Grantor retained annuity trusts (GRATs)
  2. Intra-family loans
  3. Refinancing of existing intra-family notes or trust notes that bear a higher rate

Transfers to GRATs

A grantor retained annuity trust (GRAT) allows for tax-free transfers of assets from a wealthy family’s estate to its beneficiaries. Below is a brief explanation on how a GRAT works:

  • A wealthy family or individual (the grantor) establishes a GRAT for a specific period of time (the term).
  • The grantor gifts assets to the trust, retaining the right to receive annuity payments equal to the original value of the assets contributed, plus any appreciation up to the interest rate (the “hurdle” rate) assumed by the IRS.
  • At the end of the trust’s term, any appreciation of the assets beyond the hurdle rate is transferred to the beneficiaries of the GRAT, tax-free.
  • If the asset’s growth does not exceed the hurdle rate, nothing is transferred to the beneficiaries – making the interest rate environment a key factor in deciding to establish a GRAT as an estate planning strategy.

In short, the lower the interest rate, the more enticing a GRAT becomes. The 7520 IRS rate has recently fallen significantly; as of January 2020, the rate is 2%.

Intra-Family Loans

The current low interest rate environment is also an ideal time for a parent to loan money to younger family members. If the loan recipient can invest the borrowed funds and generate a return greater than the minimum interest rate, the wealth will have been successfully transferred without any gift tax consequences.

Example: If a loan of $1 million were made to a child for 10 years at 2.0% and the child invests the proceeds in an investment earning 7% after taxes, the excess after 10 years is $690,000; that amount will have been transferred to the child gift tax-free.

Refinancing Existing Family Loans

Families with existing loans may want to consider refinancing those loans while in a low interest rate environment. The current AFR (Applicable Federal Rate), which is the minimum rate that an intra-family loan can charge, is 1.69% for a mid-term loan. In comparison, the AFR rate for a mid-term loan in December 2018 was 3.07%. A loan refinance could re-lock the loan at a lower rate thus saving interest and increasing the wealth passed on to future generations.

Other Strategies to Consider

  • Loans to grantor trust for the benefit of decedents
  • Private Annuities and Self-Cancelling Installment Notes (SCINs)

Want to Learn More?

Feel free to contact our Wealth Strategies group if you have questions on this estate planning topics or would like help connecting to an estate attorney.

Robert Katz, CFP® – Partner, Director of Wealth Strategies – 617.986.5145 

Michael Syer, CFP® Wealth Strategies Advisor – 617.986.5157


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