Generation-Skipping Transfer Tax: IRC 2601-2642, Inclusion Ratio, GST Exemption, and Form 706-GS Guide

The generation-skipping transfer (GST) tax is a separate federal transfer tax imposed under Chapter 13 of the Internal Revenue Code (IRC 2601 through 2642). Its purpose is to prevent wealth from escaping estate and gift taxation across multiple generations by taxing transfers that skip at least one generation. When a grandparent transfers property directly to a grandchild, or when a trust distributes assets to a grandchild while the grandparent's child is still living, the GST tax may apply in addition to gift or estate tax.

This guide is written for enrolled agents, CPAs, and tax attorneys who advise clients on estate and gift tax planning. It covers: the three types of GST transfers (IRC 2612); skip persons and generation assignment (IRC 2613, IRC 2651); the GST exemption and OBBBA's permanent increase (IRC 2631, IRC 2631(c), IRC 2010(c)(3)); the inclusion ratio and applicable fraction (IRC 2642(a)); the ETIP trap for GRATs, QTIPs, and QPRTs (IRC 2642(f)); dynasty trust planning and state perpetuities law; GST exemption allocation (IRC 2632); and Form 706-GS(T) and Form 706-GS(D) filing requirements. All dollar amounts, thresholds, and rates: verify at IRS.gov before use in client engagements. This guide is informational and does not constitute legal or tax advice.

Section 1: What Is the Generation-Skipping Transfer Tax?

The GST tax is a separate federal transfer tax imposed on transfers that skip at least one generation. Its fundamental purpose is to prevent wealth from avoiding estate and gift tax indefinitely by jumping directly to grandchildren or more remote descendants. Without the GST tax, a transferor could give property to a grandchild, bypassing the estate tax that would otherwise apply when the property passed through the child's estate.

The GST tax is in addition to, not instead of, estate and gift tax. A single transfer can trigger both gift tax and GST tax simultaneously. The tax was substantially restructured by the Tax Reform Act of 1986 (which enacted the current Chapter 13 of the Code), and the exemption has been adjusted multiple times since, most recently through OBBBA.

Skip persons and non-skip persons (IRC 2613)

The GST tax turns on whether the transferee is a "skip person." Under IRC 2613, a skip person is either:

• An individual assigned to a generation at least two generations below the transferor (typically a grandchild, great-grandchild, or more remote lineal descendant), or
• A trust in which all present interests are held by skip persons (or in which no person holds an interest, and distributions can only be made to skip persons).

A non-skip person is anyone assigned to a generation no more than one generation below the transferor, which typically means the transferor's children. Transfers to non-skip persons are not subject to GST tax.

For edge cases involving who qualifies as holding "an interest in a trust," consult IRC 2652(c), which defines interest for GST purposes, and applicable Treasury regulations.

Generation assignment for lineal descendants

For lineal descendants, generation assignment follows the family tree. The transferor is generation 0; the transferor's children are generation 1; grandchildren are generation 2; great-grandchildren are generation 3; and so on. A transfer to a generation-2 or lower person (grandchild or below) is a transfer to a skip person, subject to GST.

Generation assignment for unrelated persons (IRC 2651(d))

For persons who are not lineal descendants of the transferor, generation is determined by age difference under IRC 2651(d). A person who is 37.5 or more years younger than the transferor is assigned to a generation two or more below the transferor and is therefore a skip person. A person who is between 12.5 and 37.5 years younger than the transferor is one generation below. Hedge specific mechanics and age-bracket calculations to IRC 2651(d) and IRS regulations.

Predeceased parent exception (IRC 2651(e))

Under IRC 2651(e), when a grandchild's parent who is a lineal descendant of the transferor is deceased at the time of the transfer, the grandchild moves up one generation for GST purposes. The grandchild is then treated as if they occupied the parent's generation slot and is NOT a skip person with respect to that transfer. This exception can significantly affect GST planning and analysis when the transferor's child has predeceased, because a transfer directly to the grandchild will not be subject to GST. Hedge specific mechanics, timing rules, and any carve-outs to IRC 2651(e) and IRS.gov.

Section 2: Three Types of Generation-Skipping Transfers (IRC 2612)

IRC 2612 defines three categories of transfers subject to GST tax. Each type has different rules for who pays the tax, when it arises, and how it is reported.

Taxable termination (IRC 2612(a))

A taxable termination is the termination of an interest in a trust if, immediately after the termination, a skip person has an interest in or can receive distributions from the trust, and no non-skip person holds an interest in the trust. In practical terms: a taxable termination arises when the last non-skip beneficiary's interest in a trust ends and the trust assets then pass to, or remain available for, skip persons only.

The trustee pays the GST tax on a taxable termination. The tax is paid from the trust, reducing the amount that passes to the skip persons. The taxable termination is reported by the trustee on Form 706-GS(T), "Generation-Skipping Transfer Tax Return for Terminations" (revised December 2025). Use the current version available at IRS.gov.

Taxable distribution (IRC 2612(b))

A taxable distribution is any distribution from a trust to a skip person that is not a taxable termination and not a direct skip. Taxable distributions arise when a trust distributes income or principal directly to a skip person (such as a grandchild) while a non-skip person still has an interest in the trust.

The distributee (the skip person who receives the distribution) pays the GST tax on a taxable distribution. If the distributee is legally incompetent, the trustee may be required to pay. The taxable distribution is reported on Form 706-GS(D), "Generation-Skipping Transfer Tax Return for Distributions," filed by the distributee. Note: if the trust pays the GST tax on a taxable distribution on behalf of the distributee, that payment is itself a taxable distribution. Confirm all current instructions at IRS.gov.

Direct skip (IRC 2612(c))

A direct skip is a transfer of property subject to estate or gift tax that is made directly to a skip person or to a trust where all beneficiaries are skip persons. This is the most common form of GST for individual gift planning: an outright gift from a grandparent to a grandchild, or a contribution to a trust whose beneficiaries are exclusively grandchildren or more remote descendants.

The transferor (or, in the case of a taxable estate, the estate) pays the GST tax on a direct skip. A direct skip made during the transferor's lifetime is reported on Form 709 (Schedule C). A direct skip occurring at death is reported on Form 706, Schedule R. The annual exclusion for direct skips to skip persons applies on a per-donor-per-donee basis, consistent with the general annual exclusion for gift tax purposes; confirm the current indexed annual exclusion amount at IRS.gov (the amount is adjusted annually per Rev. Proc. published by the IRS). For direct skip trusts, the per-donee exclusion rule is governed by IRC 2642(c)(1).

Summary comparison: who pays, when it arises, how it is reported

Section 3: GST Exemption, OBBBA, and Exemption Allocation

The GST exemption: IRC 2631 and the link to IRC 2010

Every individual has a GST exemption equal to the basic exclusion amount for estate and gift tax purposes. This equivalence is established by IRC 2631(c), which cross-references IRC 2010(c)(3) for the exemption amount. Each spouse has a separate, independent GST exemption. GST exemption is not portable at death: a deceased spouse's unused GST exemption cannot be transferred to or used by the surviving spouse. The surviving spouse's estate planning must use the surviving spouse's own GST exemption.

OBBBA: permanent exemption increase

OBBBA permanently increased the GST exemption to a level significantly above the pre-OBBBA amount by permanently increasing the basic exclusion amount under IRC 2010(c)(3) as amended. Unlike the Tax Cuts and Jobs Act (TCJA), which increased the basic exclusion amount but included a sunset provision that would have reduced the exemption after December 31, 2025, OBBBA eliminated the sunset. The increased exemption is now permanent law.

The exact 2026 GST exemption amount must be confirmed at IRS.gov and on Form 709 instructions before advising clients on exemption allocation. The amount is indexed to inflation annually and the confirmed figure may differ from any preliminary estimate. Practitioners must check the IRS-confirmed figure before any exemption allocation decision or client representation.

How to allocate GST exemption

GST exemption can be allocated in three ways:

• Affirmative allocation on Form 709 (Schedule C), lifetime: The taxpayer affirmatively elects to allocate a specific dollar amount of GST exemption to a specific trust or direct skip transfer. This is the most precise method and the preferred approach for practitioners who want control over the allocation.
• Deemed allocation to direct skips (IRC 2632(b)): GST exemption is automatically allocated to direct skips to the extent not otherwise allocated. This applies to outright gifts to skip persons or transfers to trusts that are entirely skip-person trusts. The deemed allocation can be overridden by affirmative election.
• Deemed allocation to indirect skip trusts (IRC 2632(c)): For transfers to non-skip trusts that could benefit skip persons (sometimes called "GST trusts"), GST exemption is automatically allocated unless the taxpayer affirmatively opts out on Form 709. Opt-out elections are available under IRC 2632(c)(5) and allow the taxpayer to preserve exemption for larger future transfers rather than having it allocated automatically to a smaller current transfer.

Practitioners should not rely on deemed allocation as a substitute for affirmative planning. Automatic allocation can produce suboptimal results, particularly for trusts with both skip and non-skip beneficiaries, or where the practitioner wants to maximize the benefit of the GST exemption by timing the allocation to a transfer with a lower FMV (before expected appreciation).

Unused GST exemption at death: Form 706 Schedule R

Any GST exemption not allocated during the transferor's lifetime is available to allocate at death. The allocation is made on Form 706, Schedule R (and Schedule R-1 for direct skips from trusts). The executor is responsible for making and documenting the allocation on the estate tax return.

For a comprehensive guide to Form 706, the portability election, and Schedule R mechanics, see the AmericasTax Form 706 Estate Tax Return, Portability, and DSUE Practitioner Guide.

For lifetime GST exemption allocations, Form 709 Schedule C is the controlling return. The AmericasTax Form 709 gift tax return and GST exemption allocation guide covers Schedule C allocation procedures in detail.

Section 4: The Inclusion Ratio and Applicable Fraction (IRC 2642)

The inclusion ratio is the mechanism that determines what percentage of a trust's transfers are subject to GST tax. It is calculated per trust (or per separate share of a trust) and set at the time of the original transfer, then modified if additional transfers are made to the same trust.

Inclusion ratio formula (IRC 2642(a))

Under IRC 2642(a), the inclusion ratio for a trust is:

Inclusion Ratio = 1 minus the Applicable Fraction

An inclusion ratio of 0 means the trust is fully GST-exempt: all future distributions and terminations from the trust are free of GST tax, regardless of how much the trust appreciates. An inclusion ratio of 1 means the trust is fully subject to GST on every generation-skipping transfer. An inclusion ratio between 0 and 1 means that a proportionate share of each transfer is subject to GST.

Applicable fraction formula (IRC 2642(a)(2))

Under IRC 2642(a)(2), the applicable fraction is:

Applicable Fraction = GST Exemption Allocated to the Trust (numerator) divided by FMV of Property Transferred to the Trust (denominator)

The denominator is the FMV of the property transferred to the trust, reduced by: (a) any federal estate tax paid from the trust with respect to the transfer, and (b) any charitable deduction allowed for the transfer. (IRC 2642(a)(2).)

Worked example structure (variable names only)

Assume a taxpayer transfers an amount represented by variable X to a trust and allocates an amount of GST exemption represented by variable Y:

• Applicable fraction = Y divided by X.
• Inclusion ratio = 1 minus (Y divided by X).
• If Y equals X (full allocation): applicable fraction = 1; inclusion ratio = 0 (fully GST-exempt).
• If Y equals zero (no allocation): applicable fraction = 0; inclusion ratio = 1 (fully subject to GST).
• If Y is less than X but greater than zero: applicable fraction is between 0 and 1; the trust is partially exempt and partially subject to GST.

Importance of timing: the freeze effect

The FMV of the trust property for the applicable fraction is measured at the time of the transfer (the date of the gift or the date of death), not at a later date. This timing rule is significant: if the trust appreciates after the GST exemption is allocated, the full appreciated value is sheltered by the exemption allocated to the lower, earlier FMV. A trust funded with $X of assets and a full allocation of $X of GST exemption is fully GST-exempt in perpetuity, even if the trust grows to many multiples of X over time. This is the central economic benefit of early, full GST exemption allocation to a dynasty or skip trust.

Separate share rule (IRC 2654(b))

When a trust has both skip and non-skip beneficiaries, IRC 2654(b) provides that the trust is treated as divided into separate shares for GST purposes. The inclusion ratio is computed separately for each share. This rule prevents a single blended inclusion ratio from producing unintended GST results when portions of the trust are allocated to different generations. Practitioners drafting trust documents with mixed beneficiary classes should consider the separate share rule in the trust's structure and GST exemption allocation plan.

The GST tax rate (IRC 2641)

The "applicable rate" of GST tax under IRC 2641 is the product of the inclusion ratio and the maximum federal estate tax rate in effect at the time of the GST transfer. The maximum federal estate tax rate is the highest marginal rate of the estate tax in effect on the date of the transfer. Because both the inclusion ratio (which varies by trust and allocation) and the maximum estate tax rate (which is subject to legislative change) can vary, the effective GST rate is not a single universal figure. Confirm the current maximum estate tax rate and effective GST rate at IRS.gov before any client engagement or planning projection.

Section 5: The ETIP Trap -- GRATs, QTIPs, and QPRTs (IRC 2642(f))

What the ETIP rule provides (IRC 2642(f))

IRC 2642(f) establishes the estate tax inclusion period (ETIP) rule: if property transferred to a trust is includible in the estate of the transferor or the transferor's spouse for estate tax purposes, no GST exemption allocation to that trust becomes effective until the ETIP closes. The ETIP period is the period during which the property would be included in the gross estate of the transferor or the transferor's spouse if either died. The GST exemption allocation is then effective as of the close of the ETIP, and the FMV for computing the applicable fraction is the FMV at the close of the ETIP.

GRATs: the most common ETIP context

A grantor retained annuity trust (GRAT) under IRC 2702 is one of the most commonly used estate freeze techniques. The grantor transfers property to the trust, retains an annuity for a fixed term of years, and the remainder passes to beneficiaries (often children or grandchildren) at the end of the term. If the grantor dies during the annuity term, the GRAT value is included in the grantor's estate under IRC 2036.

As a result of this estate inclusion risk, an ETIP exists for the entire annuity period of a GRAT. Any GST exemption allocated to the GRAT during the annuity term is not effective until the annuity term ends. Practitioners cannot effectively allocate GST exemption to a GRAT in advance of the annuity term's expiration. The practical consequence: a GRAT is generally not an efficient vehicle for GST exemption allocation if the goal is to benefit grandchildren.

Practical approach: Wait until the annuity term expires. At that point, the GRAT remainder passes to (or remains in) a remainder trust. The practitioner should then allocate GST exemption to the remainder trust, using the FMV of the trust assets at the close of the ETIP (the end of the annuity term) as the denominator for the applicable fraction. This is the earliest point at which the allocation becomes effective and the inclusion ratio can be set to zero. Hedge ETIP-specific planning mechanics to IRC 2642(f) and current Treasury regulations.

QTIP trusts: ETIP lasts until the surviving spouse's death

A qualified terminable interest property (QTIP) trust is established for the benefit of a surviving spouse and qualifies for the marital deduction. Because the QTIP trust property is includible in the surviving spouse's estate at the surviving spouse's death (IRC 2044), an ETIP exists for the life of the surviving spouse. Any GST exemption allocation to the QTIP trust is not effective until the surviving spouse dies and the ETIP closes.

At the surviving spouse's death, the QTIP property is included in the surviving spouse's gross estate, and the executor may then allocate GST exemption on Form 706, Schedule R. The FMV for the applicable fraction is the FMV of the QTIP property at the surviving spouse's date of death. Because this FMV may be substantially higher than the original transfer value (after years of trust appreciation), practitioners must ensure that sufficient GST exemption remains available at the surviving spouse's death to achieve the desired inclusion ratio.

QPRTs: ETIP during the trust term

A qualified personal residence trust (QPRT) transfers the grantor's personal residence to a trust, with the grantor retaining the right to live in the residence for a fixed term of years. If the grantor dies during the trust term, the residence is included in the grantor's estate (IRC 2036). The ETIP therefore exists for the entire trust term. GST exemption allocation to a QPRT is not effective until the trust term ends and the ETIP closes. The applicable fraction for the remainder trust is computed based on the FMV of the residence at the close of the ETIP.

Section 6: Dynasty Trusts and Perpetual GST Exemption Planning

A dynasty trust, also called a perpetual trust, is a trust designed to hold and grow assets across multiple generations without incurring GST tax at each generational transfer. The goal is to fund the trust with sufficient GST exemption at the outset to achieve an inclusion ratio of zero, then allow the trust to compound over decades or generations, with all future distributions and terminations fully GST-exempt.

Federal law permits indefinite trusts; state law governs duration

Federal law does not impose a maximum duration on trusts for GST purposes. However, state law -- specifically, each state's rule against perpetuities or equivalent statute -- determines how long a trust can legally exist. The traditional common-law rule against perpetuities limits trusts to a life in being at the time of the transfer plus 21 years (the "lives-in-being-plus-21" rule), which effectively caps the trust's duration at roughly 90 to 100 years in most cases.

Several states -- including South Dakota, Delaware, and Nevada, among others -- have abolished or significantly extended their perpetuities rules, permitting trusts to last indefinitely (in perpetuity). A trust governed by such a state's law can, in theory, pass wealth to an unlimited number of future generations without triggering GST tax at each generational transfer, provided the trust has an inclusion ratio of zero. The availability and mechanics of perpetual trusts vary by state. Practitioners must confirm the applicable state law for the trust's chosen situs, and this analysis requires consultation with a trust and estate attorney admitted in the selected situs state. Do not assume any particular state's perpetuities rules are uniform or static; state law is subject to change.

Situs selection: a significant planning consideration

The choice of the trust's governing state law (its situs) is one of the most consequential decisions in dynasty trust planning. Factors to consider include: (a) whether the state permits perpetual trusts; (b) state income tax treatment of undistributed trust income; (c) state fiduciary duty and trustee rules; (d) asset protection law (spendthrift and domestic asset protection trust statutes); and (e) decanting and modification statutes. Practitioners should engage trust and estate counsel in the proposed situs state before drafting and funding a dynasty trust intended to operate under that state's law.

GST exemption and dynasty trusts: early, full allocation is critical

If a dynasty trust is funded with full GST exemption allocation at the outset, achieving an inclusion ratio of zero, all future GST transfers from that trust are free of GST tax regardless of how much the trust appreciates. Because the applicable fraction denominator is the FMV of property transferred at the time of the original transfer, a full allocation at an early date when the trust assets have a lower FMV protects a larger future value. The exemption, in effect, "freezes" the GST exposure at the original transfer value while the trust's appreciation grows exempt.

This dynamic makes the OBBBA's permanent increase in the GST exemption particularly valuable for dynasty trust planning: individuals now have a larger permanent exemption to allocate at the outset to a perpetual trust, creating a larger base of fully GST-exempt wealth for future generations. Confirm the exact 2026 exemption amount at IRS.gov and Form 709 instructions before advising clients on dynasty trust funding.

Frequently Asked Questions

Related Practitioner Guides

GST tax planning intersects directly with estate tax return filing, special use valuation, and gift tax return mechanics. The following AmericasTax guides cover closely related topics.

Disclaimer: This guide is published by Americas Tax Organization for informational purposes only and does not constitute legal, tax, or financial advice. Federal tax law, including the Internal Revenue Code provisions and Treasury regulations cited herein, is subject to change by legislation, regulation, and IRS guidance. All dollar amounts, thresholds, rates, and filing deadlines cited in this guide must be verified at IRS.gov and in current IRS publications and form instructions before use in any client engagement. OBBBA is recently enacted legislation subject to ongoing regulatory interpretation; practitioners should monitor IRS guidance and Treasury regulations for implementation details. Americas Tax Organization makes no warranty as to the accuracy or completeness of this guide, and readers should consult qualified legal and tax counsel for advice specific to their circumstances.