How the Generation-Skipping Tax Exemption Works

The Generation-Skipping Transfer (GST) tax is a federal tax on wealth passed to beneficiaries who are two or more generations younger than the person making the gift or bequest. This tax prevents families from avoiding estate taxes for multiple generations by transferring assets directly to grandchildren instead of children. The GST tax exemption is an allowance that permits individuals to transfer a significant amount of assets to these younger beneficiaries without triggering this tax.

The 2024 GST Exemption Amount and Key Definitions

For 2024, an individual can shield up to $13.61 million from the GST tax. This exemption amount is linked to the federal gift and estate tax exemption and adjusts annually for inflation. The tax is imposed at a flat 40% rate. Unless Congress acts, this high exemption amount is scheduled to be reduced significantly at the end of 2025.

A generation-skipping transfer involves giving assets to a “skip person,” most commonly a grandchild or great-grandchild. The definition also includes any unrelated individual who is more than 37.5 years younger than the donor. These transfers can occur during the donor’s lifetime as a gift or at death through an inheritance.

A defining characteristic of the GST exemption is its lack of portability between spouses. Unlike the federal estate tax exemption, a surviving spouse cannot use any of their deceased spouse’s unused GST exemption. If a spouse dies without fully using their exemption, that unused portion is permanently lost, which necessitates careful estate planning for married couples.

How the GST Exemption is Allocated

The Internal Revenue Service provides two methods for applying the GST exemption to transfers: automatic and manual allocation. The default rules are designed to automatically apply the exemption in the most common scenarios to prevent accidental tax liability.

For “direct skips,” which are gifts made outright to a skip person, the donor’s GST exemption is automatically allocated to make the transfer tax-free. For “indirect skips,” which involve transfers into a trust that may benefit both skip and non-skip persons, the exemption is automatically allocated to a “GST trust,” a specific type of trust where future distributions to a skip person are likely.

Donors have the option to opt out of these automatic allocation rules. By filing a timely gift tax return, an individual can elect out of the automatic allocation for a specific transfer or for all future transfers to a particular trust. This manual allocation provides greater control, allowing a donor to preserve their exemption for more strategic purposes, such as for a transfer where the GST tax impact is more certain.

Reporting GST Exemption Allocations

The allocation of the GST exemption is managed and reported on IRS Form 709, the United States Gift (and Generation-Skipping Transfer) Tax Return. This form is required when a gift exceeds the annual exclusion amount ($18,000 for 2024), or when a donor needs to affirmatively allocate their GST exemption or opt out of the automatic allocation rules. A Form 709 may be necessary to document GST planning decisions even if no gift tax is due.

When a gift is made to a skip person, the transfer is reported on Schedule A of Form 709. The allocation of the GST exemption is then detailed on Schedule D, “Generation-Skipping Transfer Tax.” This part of the return calculates the tax implications and tracks the amount of exemption used.

To manually control their exemption, a taxpayer can attach a statement to the return to affirmatively allocate their exemption to specific transfers or trusts. The form is also used to elect out of the automatic allocation rules for certain transfers, such as contributions to a trust that might be considered an “indirect skip.”