Posted by Karly Laughlin, CPA
As the holidays quickly approach, consider the following tips to make the most of your gifts this year.
The 2015 and 2016 annual gift exclusion amounts remain at $14,000 per person. This means that you may gift up to $14,000 per person and have no gift tax filing requirement. However, once you exceed this allotted annual exclusion to any one person, then you will be required to file a gift tax return with the IRS. There are four major exceptions to that rule though. All transfers of assets between spouses (as long as they are both US citizens) and donations to charitable organizations are considered unlimited tax-free gifts. Also, any direct payments on behalf of others to medical institutions and educational organizations are not considered gifts so they may provide a way to transfer additional funds to family and friends without using your annual or lifetime gift tax exclusion.
A common misconception is that filing a gift tax return will require you to pay tax on that gift. This is not necessarily the case. The American Tax Relief Act of 2012 gave taxpayers united lifetime gift and estate exclusion. This exclusion is $5,430,000 per person for 2015 and will be adjusted for inflation every year. Therefore, you will not have to pay gift tax until you have gifted away the maximum exclusion amount of taxable gifts during your lifetime (e.g. $5,430,000 in 2015).
All noncash gifts are valued at their fair market value at the time of the gift. The donee’s basis in noncash gifts is generally equal to the donor’s basis in the asset prior to the gift.
Congress gives preferential treatment to any gifts made to the educational savings plans titled under Section 529(b) by allowing taxpayers to elect to treat contributions to these plans as if they were made ratably over a 5 year period. However, you must file a gift tax return in the year of contribution to make this election.
On the contrary, Congress is stricter when it comes to any future interest gifts because annual exclusions cannot be used to offset them. An example of a future interest gift would be a parent funding an irrevocable trust for the benefit of their children but their children do not have rights to draw from the trust until a future date. However, one way to avoid having this type of gift be considered a future interest is to issue Crummey letters to all of the trust beneficiaries each year. The Crummy letters notify the beneficiaries of their right to withdraw the gifted amount during a window of time, typically thirty days.
Married couples have the option to split their gifts in order to take advantage of each person’s $14,000 annual exclusion. There are no joint gift tax returns so each person has to file their own. One item to note is that you cannot pick and choose which gifts you want to split between you and your spouse. Gifts made during the calendar year by married couples must either all be split between them or none at all.
What makes the best gifts for estate planning purposes? It depends. If you anticipate having a taxable estate, generally assets that you believe will appreciate in the future will make the best types of gifts. You will use less of your lifetime exclusion when you gift the asset at a lower fair market value than if you wait until it appreciates to a higher fair market value. However, be aware that you will lose out on the fair market value step-up in basis that you would have received had you transferred the asset at death.
Is gifting strategies only for the wealthy? No way. There are many reasons you may want to consider annual gifts even if you do not expect them to ever exceed the 5.43 million lifetime gift and estate limitation. One consideration would be for estate taxes on the state level. Many states do not follow the Federal lifetime exclusion, and therefore there may be a potential state estate tax liability which could be reduced by gifting. Another consideration would be for Medicaid eligibility planning. Medicaid requires individuals to first use a majority of their own personal assets to cover expenses before the program will begin to payout. Therefore, the fewer assets in the individuals name who is applying, the better. However, all gifts made in the most recent 5 years will be included in the applicant’s total assets for Medicaid purposes.
If I sell an asset for a steep discount, could it be considered a gift? Any sale of assets which the selling price falls below fair market value will be considered a partial gift.
Gifting strategies are unique for every individual. Please feel free to reach out to our Estate & Trust team if you wish to review your own personal estate planning.