One of the design decisions you will make when drafting an irrevocable gift trust is whether the trust should be treated as a grantor trust for federal income tax purposes.
For many gift trust strategies, grantor trust status is desirable because it allows the grantor, not the trust, to pay the income tax on trust earnings. That often allows the trust to grow more efficiently and creates additional planning opportunities during the grantor's lifetime.
This article explains what each available grantor trust power does and where additional caution may be appropriate. The choice of which powers to include is left to you.
Decide What This Tab Configures
On the Grantor Trust Provisions section of the Trust Features tab, you will decide:
- Whether the trust includes grantor trust provisions at all
- Which grantor trust powers, if any, are included
- Whether optional protective language is included, such as a restriction on voting stock substitutions
Each power operates independently. You may select one, several, all, or none.
The Independent Trustee for these powers is defined separately. The Tax Reimbursement and Toggle powers below are exercised by an Independent Trustee. That role is defined separately for the grantor trust powers section rather than relying on the general Independent Trustee definition used elsewhere in the trust. This tightens the §672(c) analysis at the document level: a trustee in a defined relationship to the grantor, such as certain family members, employees, or a controlled corporation and its employees, is presumed subservient to the grantor regardless of how the document is drafted, so the separate definition is a document-level safeguard, not a substitute for careful trustee selection.
Grantor Trust Powers at a Glance
The table below summarizes what each power does and its general risk profile. Each power is explained in full below the table.
| Power | What it does | General profile |
|---|---|---|
| Swap Power | Creates grantor trust status under IRC §675(4)(C). | The most commonly used option. Also supports basis planning during life. |
| Loan Power | Creates grantor trust status under IRC §675(2). | Well established, often paired with a Swap Power. Provides grantor access to liquidity through bona fide loans. |
| Tax Reimbursement | Does not create grantor trust status. Allows an Independent Trustee to reimburse the grantor for tax paid on trust income. | Effectiveness depends on state law. |
| Toggle Power | Allows an Independent Trustee to suspend and later reinstate grantor trust status. | The most flexible option and the one carrying the most uncertainty. |
A Grantor's Swap Power
What it does
Allows the grantor, acting in a non-fiduciary capacity, to exchange trust assets for other property of equal value. This is the provision most commonly included. During life, low-basis assets can be swapped back into the grantor's estate, where they may receive a basis adjustment at death, and replaced in the trust with cash or higher-basis assets.
Things to consider
This power creates grantor trust status under IRC §675(4)(C). Revenue Ruling 2008-22 concludes that a properly drafted substitution power generally does not cause estate inclusion, provided:
- The trustee has a fiduciary duty to verify equivalent value, and
- The power cannot be exercised to shift benefits among beneficiaries.
Voting stock protection. If the trust owns voting stock of a controlled entity, allowing the grantor to reacquire that stock through the substitution power may raise estate tax concerns under IRC §2036(b). Agile EP offers an optional restriction preventing the grantor from reacquiring controlled voting stock through the substitution power. Practitioner views differ on whether §2036(b) is genuinely triggered by an unrestricted substitution power, but the carve-out removes the question at low cost.
Power to Borrow Without Security
What it does
Allows the trust to lend money to the grantor without requiring collateral, while still requiring adequate interest. This power is often paired with a Swap Power: it provides another well-established basis for grantor trust status while also giving the grantor access to liquidity through bona fide loans.
Things to consider
This power creates grantor trust status under IRC §675(2). The planning basis comes from the absence of required security, not from below-market interest. Any actual loan should be properly documented, commercially reasonable, and intended to be repaid.
Discretionary Income Tax Reimbursement
What it does
Allows an Independent Trustee to reimburse the grantor for the income tax the grantor pays on trust income. Unlike the Swap and Loan Powers, this provision does not create grantor trust status. It addresses one consequence of already being a grantor trust: reimbursement is discretionary, giving the Independent Trustee the ability, but not the obligation, to reimburse the grantor if the tax burden becomes larger than expected.
Things to consider
Revenue Ruling 2004-64 generally supports a discretionary reimbursement provision without causing estate inclusion, provided:
- There is no agreement or understanding that reimbursement will occur, and
- State law does not expose the trust to the grantor's creditors because of the reimbursement power.
Unlike Oregon and other carve-out states, Washington has no statute exempting the reimbursement power from creditor access. Washington's self-settled-trust statute, RCW 19.36.020, voids as against creditors any trust made “for the use of” the person creating it, but no Washington statute or appellate decision decides whether a purely discretionary reimbursement power triggers that rule.
If creditors of the grantor can reach the reimbursement, the IRS position under Revenue Ruling 2004-64 is that the grantor has retained the beneficial enjoyment of trust property, triggering estate inclusion under IRC §2036(a)(1). Some practitioners take the view that Washington's general trust-creditor framework, which typically follows the Restatement's cap on creditor recovery to the amount reachable by or for the settlor, would protect the reimbursement amount even without an express carve-out, but the position is not settled. Do not treat the protection as assured. Confirm the intended tax and creditor-protection treatment before relying on the provision.
Washington has no case or statute addressing a discretionary reimbursement clause directly. Van Stewart v. Townsend, 176 Wash. 311 (1934), the leading case on self-settled trusts under RCW 19.36.020, does not resolve whether such a power would expose the entire trust corpus to the grantor's creditors or only the amount the trustee could pay under it. Absent controlling Washington authority, the second requirement of Revenue Ruling 2004-64 remains an open question here.
Grantor Trust Status Toggle Power
What it does
Allows an Independent Trustee to suspend grantor trust status and later reinstate it, typically by releasing or restoring one of the grantor trust trigger powers. If paying the trust's income tax no longer fits the plan, the trustee can turn grantor trust status off, and restore it later if appropriate.
Things to consider
This option carries more uncertainty than the others:
- The estate tax analysis relies primarily on private letter rulings rather than published IRS guidance.
- Turning grantor trust status off during the grantor's lifetime may trigger income tax consequences in certain situations.
- The IRS has identified certain grantor trust toggling arrangements as abusive, so repeated or tax-motivated use warrants additional scrutiny.
The Agile EP toggle clause incorporates drafting language intended to keep the provision functioning as discretionary flexibility held by an independent third party, rather than as a tax-motivated arrangement or a fiduciary conflict with the grantor.
The trust clause includes the following concepts:
- A separately defined Independent Trustee for the grantor trust powers section, described above.
- No fiduciary duty owed by the Independent Trustee to the grantor in exercising or declining to exercise the toggle.
- An exoneration of the Independent Trustee for tax consequences to the grantor arising from the toggle, except in cases of bad faith, willful misconduct, or gross negligence.
- A recital that the toggle is to be exercised based on the interests of the beneficiaries, not as part of a pattern of repeated tax-motivated toggling.
- A rule that a power the grantor has permanently released cannot be reinstated by the Independent Trustee, separating the reversible toggle from any one-way release the grantor may make.
Drafting protections have limits. The provisions above reinforce the toggle's defensibility, but they do not cure a trustee who is not independent in operation. Under IRC §672(c), a trustee in a defined relationship to the grantor, such as certain family members, employees, or a controlled corporation and its employees, is presumed subservient to the grantor regardless of how the document is drafted. Trustee selection remains part of the strategy, not just the document language.
This article covers the grantor trust powers available in the Irrevocable Gift Trust interview. For the trust’s overall design and feature gates, see this article.