Generation-Skipping Transfer Tax
The Second Layer of Transfer Tax

What the GST tax does

The generation-skipping transfer tax exists to prevent families from avoiding a layer of estate or gift tax by transferring wealth directly to grandchildren or more remote descendants. Without it, a grandparent could skip the children’s generation entirely, and the assets would pass through one fewer round of transfer taxation.

The GST tax closes that gap. It applies in addition to any estate or gift tax, at a flat rate equal to the highest estate tax rate: currently 40%. It is imposed on three types of events, each with its own reporting and payment rules.

The three taxable events

Direct skip (§2612(c)). A transfer directly to a skip person (someone two or more generations below the transferor) or to a trust exclusively for skip persons. The transferor pays the GST tax. Direct skips are reported on Form 706 (Schedule R) for transfers at death, or Form 709 (Schedule D) for lifetime gifts.

Taxable distribution (§2612(b)). A distribution from a trust to a skip person, when the distribution is not a direct skip or a taxable termination. The distributee pays the GST tax out of what they receive. The trustee files Form 706-GS(D) to report the event.

Taxable termination (§2612(a)). The termination of an interest in a trust, after which only skip persons hold interests in the trust (or no person holds an interest and no future distributions can be made to non-skip persons). The trust pays the GST tax from its own assets. The trustee files Form 706-GS(T) to report the event.

The distinction matters for who pays the tax and which form is filed. A distribution to a grandchild from a trust that also has children as beneficiaries is a taxable distribution. The same trust terminating after the last child beneficiary dies, with only grandchildren remaining, is a taxable termination.

Skip persons and the predeceased parent rule

A skip person (§2613) is someone assigned to a generation two or more levels below the transferor. For family members, generation assignment follows the family tree: children are one generation below, grandchildren are two. For non-family members, the generation assignment is based on age (each 25-year span is one generation).

The predeceased parent rule (§2651(e)) is critical and frequently overlooked. If the transferor’s child (the skip person’s parent) is deceased at the time of the transfer, the grandchild moves up one generation for GST purposes and is no longer a skip person. A transfer to that grandchild is not a generation-skipping transfer. This applies to lineal descendants only and requires the parent to have died before the transfer (for lifetime gifts) or before the transferor’s death (for testamentary transfers).

The GST exemption

Each individual has a GST exemption equal to the estate tax exemption: $15,000,000 for 2026, permanently raised and indexed for inflation under the One Big Beautiful Bill Act. This is a separate exemption from (but equal to) the estate and gift tax exemption. Allocating GST exemption to a transfer reduces or eliminates the GST tax on that transfer and on all future appreciation of the transferred property.

The exemption is allocated through the inclusion ratio (§2642). An inclusion ratio of 0 means the trust is fully GST-exempt; an inclusion ratio of 1 means it is fully taxable. Any allocation between 0 and 1 is possible but generally undesirable, as it creates a partially exempt trust that is more complex to administer.

Automatic allocation (§2632)

Since 2001, §2632(c) has provided automatic allocation of GST exemption to certain transfers:

• Direct skips: GST exemption automatically allocates to direct skips unless the transferor elects out on a timely filed gift tax return
• Indirect skips: transfers to “GST trusts” (trusts that could have a generation-skipping transfer) also receive automatic allocation. The definition of a GST trust under §2632(c)(3)(B) has several exceptions that can cause unexpected results

Automatic allocation is helpful in most cases, but it is not always what the transferor intends. Common situations where opting out is appropriate:

• Transfers to trusts that benefit both children and grandchildren, where the transferor wants to preserve exemption for other transfers
• Transfers to trusts expected to be fully distributed to non-skip persons
• Short-term trusts where the GST risk is minimal

Opting out of automatic allocation (or electing into it for a trust that doesn’t qualify) must be done on a timely filed Form 709. Missing the election can result in wasted exemption or an unintended inclusion ratio.

Late and retroactive allocation

Late allocation. GST exemption can be allocated on a later gift tax return, but the value used is the fair market value at the time of allocation, not at the time of the original transfer. If the trust assets have appreciated, late allocation costs more exemption to achieve the same result. This makes timely allocation significantly more valuable.

Retroactive allocation (§2632(d)). Available when a non-skip person with an interest in a trust dies before the transferor (the “unnatural order of death” scenario). The transferor can allocate exemption retroactively to the date of the original transfer, using the original value. This must be done on a timely filed gift tax return for the year the non-skip person died.

Qualified severance (§2642(a)(3))

A trust with a fractional inclusion ratio (between 0 and 1) can be divided into two separate trusts: one fully exempt (inclusion ratio 0) and one fully taxable (inclusion ratio 1). This simplifies ongoing administration and planning. The severance must be reported to the IRS on Form 706-GS(T) or by attaching a statement to the trustee’s income tax return.

Reporting and forms

• Form 706, Schedule R: direct skips at death and allocation of GST exemption to testamentary trusts
• Form 709, Schedule D: direct skips during life and allocation of GST exemption to lifetime transfers and trusts
• Form 706-GS(D): taxable distributions from a trust (filed by the trustee for the calendar year of the distribution)
• Form 706-GS(T): taxable terminations (filed by the trustee for the calendar year of the termination)

The GST tax on direct skips is reported and paid as part of the estate tax return (Form 706) or gift tax return (Form 709). For taxable distributions and taxable terminations, the trustee has separate filing obligations with their own deadlines.

Trust design considerations

• Exempt vs. non-exempt trusts: the cleanest approach is to segregate GST-exempt and non-exempt assets into separate trusts from the start. Distributions to grandchildren come from the exempt trust; distributions to children come from either
• Dynasty trusts: trusts designed to last for multiple generations, fully exempt from GST tax. State law governs the maximum trust duration (Alabama allows up to 360 years under the Alabama Uniform Trust Code)
• Leveraged exemption: allocating exemption to trusts funded with assets likely to appreciate (or to GRATs, where the taxable gift is small) maximizes the effective value of the exemption
• Marital and charitable deductions: transfers qualifying for the estate tax marital or charitable deduction are generally not subject to GST tax

Common pitfalls

• Failing to allocate exemption on a timely filed return, then paying more for a late allocation after the trust has appreciated
• Assuming automatic allocation covered a transfer when the trust did not qualify as a “GST trust” under §2632(c)(3)(B)
• Overlooking the predeceased parent rule, either by applying it when the parent died after the transfer or by missing it when it does apply
• Creating a partially exempt trust (fractional inclusion ratio) without planning to sever it
• Not coordinating GST planning with the estate tax return, resulting in inconsistent exemption allocations between the 706 and prior 709s
• Forgetting that the GST exemption is a use-it-or-lose-it allocation: unused exemption at death does not port to a surviving spouse the way the estate tax exemption does under DSUE

What we need to open a matter

• Trust instruments: governing documents for all trusts involved
• Prior gift tax returns (Form 709): to determine how much GST exemption has already been allocated
• Form 706 (if applicable): Schedule R showing GST allocations at death
• Trust beneficiary information: names, relationships, and generation assignments
• Trust asset valuations: current fair market value for any late allocation
• Distribution history: distributions to skip persons that may trigger reporting obligations

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