Generation-skipping transfer tax: The generation-skipping transfer (GST) tax is a federal tax on transfers of wealth that skip a generation, including gifts or bequests to grandchildren. This tax is designed to prevent families from avoiding estate taxes by skipping a generation.
Cost basis updates at death: When an asset is inherited, the cost basis typically “steps up” to its fair market value at the time of the original owner’s death. This step-up in basis can significantly reduce capital gains taxes if the heir decides to sell the asset.
Reducing exposure to taxes with “upstream” gifting: Upstream gifting involves transferring assets to an older generation (such as elderly parents) who may have lower estate tax exposure. When the older generation passes away, the assets can benefit from a stepped-up basis, reducing capital gains taxes for the eventual heirs.
Potential risks associated with wealth transfer: Transferring wealth to the next generation is not without its risks. Heirs may lack the financial literacy to manage the assets responsibly, or there could be disputes among beneficiaries, resulting in probate. The value of transferred assets can also decrease due to market volatility or poor management.