Most families spend years building wealth and almost no time protecting it from the federal estate tax. If your estate crosses certain thresholds, the IRS can claim up to 40% of everything above the exemption before your heirs see a single dollar.
Wealthy families have known about a specific trust structure for decades, one that splits how the IRS classifies your assets between income tax and estate tax rules. Fidelity Wealth Management recently published a detailed breakdown of how this structure works and who benefits most.
The strategy centers on what is called an intentionally defective grantor trust (IDGT), a structure that sounds broken by design but delivers a powerful and perfectly legal tax advantage. You keep paying income taxes on the trust’s earnings, but the assets themselves are removed from your taxable estate permanently.
Here is what Fidelity revealed about this trust structure, how it works in practice, and who should seriously consider using one before missing the planning window entirely.
Fidelity says an intentionally defective grantor trust creates a dual tax advantage
An IDGT is a type of irrevocable trust that creates a deliberate split in how the IRS treats your assets. For income tax purposes, the IRS considers you the owner, so you pay taxes on any income the trust generates. For estate tax purposes, the trust is a separate entity, removing assets from your taxable estate permanently, Fidelity Wealth Management reports.
“A lot of people don’t know to distinguish between general estate planning and wealth transfer planning,” wrote Jeanne Krigbaum, chief wealth planning officer for 1834, a division of Old National Bank. “For example, wills and living trusts are core estate planning documents, but when it comes to wealth transfer tax planning, you may need to look at some additional strategies.”
A standard irrevocable trust removes assets from your estate but must pay its own income taxes at compressed brackets that hit the top 37% rate at just $16,000 in 2026. The IDGT avoids that problem by using specific IRS-recognized language provisions that keep it classified as a grantor trust for income tax purposes only.
The 2026 estate tax exemption gives families a bigger planning window
The federal estate and gift tax exemption rose to $15 million per individual on Jan. 1, 2026, under the One Big Beautiful Bill Act signed on July 4, 2025. Married couples can now shield up to $30 million from federal estate taxes, the IRS confirmed. The exemption is permanent and will be indexed for inflation starting in 2027.Â
Before the OBBBA passed, the exemption was set to drop from $13.99 million per person back to roughly $7 million in 2026 under the Tax Cuts and Jobs Act’s sunset provision, which estate planning professionals described as a historic source of urgency for wealthy families, Mercer Advisors reports.
If you are an individual with a $20 million estate, $5 million is exposed to the federal estate tax at the 40% rate. Your heirs would owe $2 million in estate taxes on that amount alone, and 12 states plus the District of Columbia impose their own estate taxes at thresholds far below $15 million, Seyfarth Shaw notes.
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Two ways to move your assets into an IDGT
Here are some of the ways to move your assets into an IDGT.
1. Gifting assets directly to the trust
You can gift assets directly to the IDGT, and if the total stays below the $15 million lifetime exclusion, you will not owe gift tax. The gift reduces your remaining exemption, but all future appreciation on those assets escapes your estate entirely, Fidelity explains. Many grantors combine a partial gift with a partial sale to preserve more of their exemption.
2. Selling assets to the trust for a promissory note
The second method involves selling assets to the IDGT at fair market value in exchange for a promissory note at the IRS’s applicable federal rate. The mid-term AFR for April 2026 sits around 3.82% for annual compounding, the IRS published. If the assets grow faster than the AFR, the excess appreciation stays in the trust and passes to your beneficiaries estate-tax-free.
The sale itself does not trigger capital gains taxes because the IRS treats it as a transaction with yourself for income tax purposes. Estate planning attorneys recommend making an initial seed gift of at least 10% of the asset’s value before completing the sale to demonstrate the trust’s economic substance, RSM US LLP explains.
Hidden benefits that make an IDGT more powerful than a standard trust
Your payment of the trust’s income taxes acts as a tax-free gift to your beneficiaries under current IRS rules. Every dollar you spend covering the trust’s tax bill stays inside the trust and compounds for your heirs without counting against your lifetime gift tax exemption.
Those income tax payments also reduce your taxable estate over time, creating a compounding reduction effect that works year after year. If the IDGT generates $200,000 in annual income and you are in the 37% bracket, roughly $74,000 leaves your estate each year through tax payments alone, The Law Offices of Robert J. Mondo notes.
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The third benefit is avoiding the compressed trust income tax brackets that penalize non-grantor trusts. With the top 37% rate applying to taxable income as low as $16,000, plus the 3.8% net investment income tax on undistributed earnings, Nelson Mullins attorneys Russell Love and Jonathan Gopman indicated in their 2026 update.
These three advantages compound over time within a single trust structure, and the longer the IDGT remains in place, the greater the total tax savings. You are not just removing assets from your estate once; you are continuously shrinking it through ongoing income tax payments while the trust grows uninterrupted for your heirs.
The real risks you should weigh before creating an IDGT
An IDGT is irrevocable, so you cannot take the assets back once the trust is funded. If the trust’s assets underperform the AFR interest rate, you will have moved assets out of your estate at a higher value and received back less than you transferred, Fidelity cautions.
Key risks and limitations to evaluate
- Ongoing income tax burden: You must have sufficient liquid income outside the trust to cover the trust’s income taxes for as long as it remains a grantor trust, potentially for decades.
- Loss of stepped-up basis: Assets in an IDGT do not receive a stepped-up cost basis at your death, so your beneficiaries inherit your original basis and may face capital gains taxes when they sell, RSM notes.
- State-level complications: Some states treat grantor trusts differently for income tax purposes, and state estate tax thresholds can be set far below the federal $15 million exemption.
- Legislative risk: Congress can change grantor trust rules at any time, and previous legislative proposals have targeted these benefits directly, though none have been enacted as of 2026.
Who should consider this strategy, and what to do next
This strategy works best for individuals whose estates exceed the $15 million federal exemption and who hold assets with significant growth potential, such as closely held business interests, real estate, or concentrated stock positions.Â
If you own a private company valued at $8 million today and expect it to reach $20 million over the next decade, an IDGT can shield that $12 million in appreciation from estate taxes entirely. Single individuals can use an IDGT in the same way that married couples use spousal lifetime access trusts for estate tax benefits, Mercer Advisors explains.
Your planning checklist
- Identify which assets in your portfolio have the highest expected growth rates, because those are the best candidates for transfer into an IDGT.
- Confirm that you have enough liquid assets outside the trust to sustain your lifestyle and cover the trust’s income tax obligations for the foreseeable future.
- Check whether your state imposes its own estate or inheritance tax, because 12 states and the District of Columbia have thresholds far below the federal exemption.
- Consult an estate planning attorney who has specific experience drafting IDGTs, because the trust language must include precise provisions that trigger grantor trust status correctly.
An IDGT is not a fit for every estate, but for the right family with the right assets and the right professional guidance, it delivers one of the most effective estate tax advantages available under current law.Â
Fidelity emphasizes that this strategy should only be undertaken after a comprehensive financial analysis and with the close involvement of qualified legal counsel.
Your first step should be to consult an estate planning attorney who specializes in grantor trust structures and understands the trust laws in your state.
Related: Fidelity flags the Roth IRA loophole high earners need