The generation-skipping transfer (GST) tax is a flat 40% tax that backstops the estate and gift taxes by taxing transfers that skip a generation. A dynasty trust leverages the $15,000,000 (2026) GST exemption to create a perpetual, transfer-tax-free vehicle in a jurisdiction that has abolished or extended the rule against perpetuities.
- Direct skip: a transfer to a skip person (e.g., a grandchild) — taxed at the transfer.
- Taxable termination: an interest of a non-skip person ends, leaving only skip persons (e.g., child-beneficiary dies, trust continues for grandchildren).
- Taxable distribution: a distribution from a trust to a skip person that is neither of the above.
- A skip person is generally two or more generations below the transferor; the predeceased-ancestor (deceased-parent) exception can move a grandchild up a generation.
GST exposure turns on the inclusion ratio: 0 means fully exempt, 1 means fully taxable. Allocating GST exemption equal to the value transferred yields a zero inclusion ratio. The applicable fraction (exemption allocated over value) drives the result, so precise, timely allocation is critical.
- Automatic allocation rules (IRC 2632) apply to certain transfers, but affirmative allocation on a timely Form 709 is safer — mis-allocation creates a fractional inclusion ratio that is hard to fix.
- ETIP: GST exemption cannot be effectively allocated during an estate-tax-inclusion period (e.g., during a GRAT term), delaying allocation until the ETIP ends — a key reason GRATs are poor GST vehicles.
- Keep GST-exempt and non-exempt assets in separate trusts (never a partial inclusion ratio) so distributions can be sourced tax-efficiently.
Key takeaways
- The GST tax (flat 40%) reaches direct skips, taxable terminations, and taxable distributions.
- A zero inclusion ratio (full exemption allocation) makes a trust permanently GST-exempt; avoid partial ratios by segregating trusts.
- The ETIP rule delays GST allocation during inclusion periods — a drawback for GRATs.
- Dynasty trusts pair the GST exemption with perpetuities-friendly situs and flexible administrative powers.
Authorities
- IRC 2601-2664 (GST tax), esp. 2612, 2631, 2632, 2642; 2651 (generation assignment)
- Treas. Reg. 26.2632-1; 26.2642-1 (inclusion ratio)