How Does a GRAT Work? A Guide for High-Income Families in California and Washington

By Kevin Luu, Co-Founder and Chief Learning Officer. Reviewed on 2026-09-30.

A GRAT (grantor retained annuity trust) works like this: you move an asset, usually stock you expect to rise, into an irrevocable trust for a short term, often two years, and the trust pays you back the asset’s starting value plus an IRS interest rate in fixed annual payments. Whatever growth is left over when the term ends passes to your children or a trust for them, with little or no gift tax. If the asset does not beat the IRS rate, everything simply comes back to you and the main cost is legal fees.

For a California or Washington family earning $750,000 to $3 million, a GRAT is a niche tool, not a default. It earns its place in two situations: a Washington family whose estate sits above the state’s estate tax exclusion of about $3,000,000 in 2026, and a family holding a concentrated position (often employer stock) that could grow into an estate far larger than the one they have today.

How a GRAT works, step by step

1. Your attorney drafts the trust. You are the grantor and the trustee is usually you or your spouse during the term. The document fixes the term (say, two years) and the annuity you will receive each year.
2. You transfer the asset. Typical assets are shares you already own outright: vested company stock, shares from exercised options, or a private-company stake. Unvested RSUs cannot go in, because an RSU is only a promise to deliver shares, not property, until the shares are delivered (Treas. Reg. 1.83-3(e)).
3. The annuity is set using the Section 7520 rate. The IRS publishes this rate monthly. It equals 120% of the federal midterm rate, rounded to the nearest 0.2%. The October 2026 rate is 5.6%, and 2026 rates so far have ranged from 4.6% to 5.6% (IRS Section 7520 rates).
4. The gift is valued. Under IRC Section 2702, the taxable gift is the starting value minus the present value of your annuity. Most GRATs are “zeroed out”: the annuity is set so its present value equals the full contribution, making the gift close to zero. You still report it on Form 709 (Form 709 instructions).
5. The trust pays you each year. Payments can be made in cash or by handing shares back. The annuity may also rise each year, by no more than 120% of the prior year’s payment (Treas. Reg. 25.2702-3).
6. The term ends. Whatever remains goes to the remainder beneficiaries. For children under 12, that should be a continuing trust with a trustee, not an outright or custodial gift.

During the term the GRAT is a grantor trust, so you pay the income tax on anything it earns (IRC Section 671). That is a feature: paying the trust’s tax bill is, in effect, an extra tax-free transfer to your kids.

Worked example: a Seattle family with concentrated stock

Assumptions (illustrative): a married couple in Seattle, $1.4 million of combined W-2 income, two children ages 4 and 8, a net worth of about $9 million that includes $2 million of vested employer shares. They fund a two-year zeroed-out GRAT with the $2 million of shares in October 2026, using the 5.6% Section 7520 rate.

The annual annuity that zeroes out the gift is about $1,084,763, paid at the end of each year. Here is what reaches the children’s trust under three outcomes:

In the 25% case, about $684,284 now sits outside the couple’s estate. Washington’s estate tax applies to estates above $3,000,000 for deaths from July 1 to December 31, 2026, at rates of 10% to 20% (WA DOR estate tax tables). Removing $684,284 from an estate already above the exclusion can avoid roughly $68,000 to $137,000 of Washington estate tax (10% and 20% of $684,284), assuming the parents outlive the term and the estate stays above the exclusion.

For the same family in California, the federal estate tax is the test that matters, and their combined federal exclusion is $30,000,000 for 2026 ($15,000,000 each, made permanent by the 2025 tax law and indexed from 2027, per IRS: What’s new, estate and gift tax). For them, a GRAT only makes sense if the shares could plausibly push the estate past $30 million, where the federal estate tax rate reaches 40% (IRC Section 2001). A pre-IPO stake held by a biotech or tech employee is the classic case.

Who should consider a GRAT, and who should not

Usually a fit

• Washington residents with a net worth above about $3 million and a volatile, high-growth asset.
• Families in either state holding private-company shares or a concentrated public position that could multiply in value, such as before an IPO or acquisition.
• Parents who have already used much of their lifetime exclusion and want to move growth without using more.

Usually not a fit

• California families whose realistic future estate stays well under $30 million. Simpler moves (annual exclusion gifts of $19,000 per child per parent in 2026, 529 plans, a revocable trust with good guardianship and trustee choices) do more for them.
• Assets that grow slowly and steadily, like a bond fund. They rarely beat the 7520 rate by enough to matter.
• Goals that include grandchildren. An allocation of GST exemption to a GRAT does not take effect until the term ends (IRC Section 2642(f)), which makes it a poor dynasty tool.

The risks a GRAT actually carries

Dying during the term. If the grantor dies before the last payment, much or all of the trust is pulled back into the estate (Treas. Reg. 20.2036-1(c)(2)). This is why short terms are common. No statute sets a two-year minimum; two years is simply the shortest term most attorneys use in practice.

No step-up in basis. Shares that pass to the children’s trust keep your original cost basis (IRC Section 1015). Had you held them until death, your heirs would generally get a new basis at market value. For a California family that matters: California has no lower rate for capital gains, so a later sale is taxed at ordinary rates up to 13.3% (2025 rate schedule). In Washington, a sale of stock can trigger the 7% capital gains tax above the annual standard deduction ($278,000 for 2025, the latest published), rising to 9.9% on taxable gains above $1,000,000 (WA DOR capital gains tax).

A flat or falling asset. You lose time and legal fees, not principal. Many families handle this with “rolling” GRATs: a new two-year GRAT each year, each funded with the annuity shares coming back from the last one, so one bad year does not sink the plan.

Trading and blackout rules. If you are an officer or insider, moving shares into a trust and back is a securities question as well as a tax one. Check your company’s insider trading policy and Section 16 reporting before funding.

Decision checklist before you call an estate attorney

• What is our likely estate in 15 years if the concentrated position does well? Above $30 million (federal), or above about $3 million (Washington)?
• Which asset has the most upside relative to the hurdle set by the Section 7520 rate (4.6% to 5.6% so far in 2026)? Is it something we already own outright?
• Who is trustee of the children’s trust when the GRAT ends, and at what ages do the kids get access?
• Do we have the cash flow to pay income tax on the trust’s earnings during the term?
• Would a sale to an intentionally defective grantor trust, or a spousal trust, fit better? (See the disadvantages of intentionally defective grantor trusts for the trade-offs.)

Bring that list, plus these questions to ask an attorney about inheritance, to the first meeting. If the trust will later hold a brokerage account, read how naming a trust as beneficiary works.

What to write down for your kids

A GRAT can move several hundred thousand dollars to a seven-year-old without the seven-year-old ever knowing why. Write a one-page Decision Memo the day you fund it: what you put in, why you chose that asset, what you hoped would happen, and what you want the money used for when they are adults. As Kevin Luu puts it: “Your kids don’t need to inherit your portfolio. They need to inherit your decision-making process.” File it in your FamilyKnowledge® Library next to the trust document, so the trustee and your children can read your reasoning, not just the account balance.

Common questions about GRATs

How long should a GRAT last?

Two-year terms, often rolled each year, are common because the shorter the term, the less chance the grantor dies before it ends. Longer terms lock in today’s 7520 rate and give growth more time, but they raise the mortality risk. There is no statutory minimum term; the choice depends on the asset’s expected volatility and the grantor’s health.

Can I put RSUs in a GRAT?

Not unvested RSUs. Until shares are delivered, an RSU is a contractual promise, not property you can transfer. Once RSUs vest and shares land in your brokerage account, those shares can fund a GRAT, subject to your company’s trading policy. Shares acquired through exercised options or an ESPP can also be used if you own them outright.

Where can I get help setting up a GRAT?

A GRAT needs an estate planning attorney to draft it and someone to run the annuity math, valuations and Form 709 each year. Look for a fee-only adviser who coordinates the attorney, your CPA and your equity compensation picture, so the GRAT fits the rest of your estate plan and your equity compensation decisions.

This is general education, and the right move depends on your family’s full picture. If you hold concentrated stock and want to know whether a GRAT is worth the legal work, a Tax & Wealth Assessment with Age Five Family Office™ is a practical first step.

Written by

Kevin Luu

Co-Founder and Chief Learning Officer, Bright Advisers

Kevin has advised high-income W-2 tech and biotech families since 2015, and leads the education-first Age Five Family Office from Brea, California.

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