Gift Tax Planning
The gift tax laws allow you to gift $14,000 per year to as many people as you would like without reporting these gifts to the Internal Revenue Service (IRS). If you have five children, you can gift them $70,000 per year. If you are married, each of you and your spouse can gift $70,000 to your children, thereby allowing the two of you to transfer $140,000 to your children each year without reporting the transfers to the IRS.
Annual gifting offers one of the easiest methods of reducing your estate, and the advantages are easily understood. The estate tax laws allow you to leave only a specified amount to your family free of federal estate tax. When annual gifts are made, each dollar given away is removed from your estate and, generally, will not be subject to estate taxes when you die.
In addition to the annual exclusion gifts, there are two other ways to transfer assets during your lifetime without paying gift taxes. Neither of these methods has a limit on how much you can transfer per year.
- Transfers to your spouse, who is a United States citizen; and
- Payment of educational and medical expenses of another person, provided the monies are paid directly to the school, college or university, or to the hospital or doctor providing health care services.
In addition to the gifts discussed above, you may give away up to $5.25 Million (as of 2013) in gifts during your lifetime without paying a gift tax. Lifetime gifts in excess of that amount require payment of gift taxes, which may be worthwhile in terms of the overall estate and gift tax planning you are doing.
This $5.34 Million is known as the gift tax exemption amount (GTEA). This gift can be split over several beneficiaries, but it is not $5.34 Million per beneficiary. The GTEA will increase each year to the cost-of-living index.
If you have an asset that you expect to grow in value, gifting the asset while using your GTEA will allow you to keep all the future appreciation out of your estate for estate tax purposes. For example, if you own $100,000 of stock in a company and the value of this stock is expected to be $1 Million in two years, gifting the stock today to your children can allow you to exclude the $900,000 increase in value from any transfer taxes (whether gift taxes or estate taxes).
If you want to make gifts to children, but do not want your children to have control of the money (e.g., they are minors or financially irresponsible), you can set up a trust to be the recipient of the annual gifts on behalf of your children and have a trustee control the distribution of income to your children.
The major disadvantages of annual gifting are that the gifted asset is no longer available for your needs, and you lose control over the asset and its value. Within these parameters, though, annual giving (coupled with the unlimited exclusions from gift tax for medical and educational expenses) represents a simple and flexible planning technique available to nearly every person with a taxable estate.
In order to minimize the amount of a gift for transfer tax purposes, the gift could be made through a limited liability company or a family limited partnership. Making a gift through one of these entities allows us to “discount” the value of the gift.
For gift tax purposes, when you make a gift, the value is what someone would pay you for the item being gifted. If you gift a building worth $1 Million, the gift tax value is $1 Million. But if you only transfer 50% of the building, then the value would be less than $500,000 because a person buying half a building would not pay full price for that half because they do not control the property and there will be limitations on transfers; this difference is the discounted value. If a person would only pay you $400,000 for half of a $1 Million building, that would amount to a 20% discount (i.e., $500,000 – $400,000 = $100,000, and $100,000 is 20% of $500,000).
In addition, if you put the building into a limited liability company (LLC) or a family limited partnership (FLP) and then transfer a 50% interest in the LLC or the FLP, you should be able to get a larger discount.