One critical issue in every estate plan is when to begin implementation, assets are held until the owner's death? Or should a program of asset transfers be initiated during life? Gifts are an excellent way to reduce the tax costs of keeping the fortune in the family-for example, each year the first $10,000 in gifts to any individual isn't taxed at all.

What about larger gifts? Again, there are big tax advantages over estate transfers. First, the way that the gift tax 18 calculated causes it to be lower than an estate tax on a transfer ' of comparable size, Second, and perhaps more importantly, there is no additional estate or gift tax as the gift grows in value. The tax on the gift of a block of stock worth $500,000 today is far less than the estate tax will be on the same block when it is worth $1 million in the future.

Still many people are understandably reluctant to part with substantial assets, even for significant tax savings. There is a middle ground, one in which assets are placed in a temporary trust. The owner of the assets keeps the income from the trust for a defined period of time, while the assets themselves pass to beneficiaries at a specific future date-a bit like having your cake and eating 'it, too,

CHOOSING AN INCOME FORM

This type of trust is known as either a Grantor Retained Annuity Trust (GRAT) or a Grantor Retained Unitrust (GRUT). Don't let the terminology be confusing-the variations refer to the way that trust income is determined. The income from this trust will either be a specified dollar amount (an annuity) that never varies from year to year, or it will be a specified percentage of the value of the trust, recalculated each year (a unitrust interest). As the trust goes up or down in value, the unitrust goes up or down with it. The choice between an annuity or unitrust interest depends upon the grantor's objectives and family situation.

TAX CONSEQUENCES

Creation and funding of a GRAT or a GRUT is a taxable event, A gift tax return will be required, and a gift tax payment will be due once the donor's unified credit is consumed (transfers in excess of $650,000 for 1999).

However, the value of the taxable gift is reduced to reflect the fact that it will take place in the future. The size of the gift will also be affected by the value of the retained income interest-the more that the grantor keeps, the smaller the gift. But the more that the grantor keeps, the less wealth is actually transferred within the family.

A HYPOTHETICAL EXAMPLE

Donor places a securities portfolio worth $500,000 in a GRAT, reserving the right to receive $50,000 from the trust each year for 15 years. If the donor is 60 years old when the trust is funded, and if the applicable IRS interest rate factor is 8%, then the value of the gift of the right to receive the trust remainder in 15 years is just $118,995. Only this lower figure is subject to gift taxes.

Now let's assume that the trust assets grow at a rate of 12% per year-perhaps a bit high over a 15-year period, but not out of the question given recent financial market history. With this level of growth, the trust will be worth $872,797 when it terminates. In effect, the donor will have passed $872,79-1 to beneficiaries for the price of transferring $118,995.

To complete the analysis, one should determine the lost income on the money used to pay the immediate gift tax-but if the unified credit hasn't been used up, there may not be an immediate gift tax cost.

BUT KEEP IN MIND

A GRAT or a GRUT is irrevocable. Although the grantor will receive trust income, control over the trust assets is permanently given up. This is a very serious step that is not to be taken lightly.

If the donor dies during the term of the trust, full tax savings will not be achieved-the assets will be included in the donor's estate.

Financial markets are unpredictable-in the event of a severe market downturn, it is even possible that the assets of the trust could be exhausted. In that event the gift tax would have been paid for nothing.

Still the advantages in the right circumstances can be considerable, and estate planers have reportedly been doing a brisk business in GRATs and GRUTs in recent years. It's an idea that may be worth your serious consideration.