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Gift-giving season is approaching—not only for those who celebrate the holidays by exchanging wrapped presents but also for families wrapping up financial matters for the end of the year. If you are unsure what to get your loved ones, writing a check or buying jewelry is an option, but a well-thought-out estate plan or gifting strategy can be a gift that keeps on giving.
While the act of giving can be deeply personal, the federal government has an interest in what, when, and how much you can gift to your loved ones. This is why strategic gift planning can augment your greater estate plan. An experienced estates & trusts attorney can guide you through the available options to create a gifting strategy uniquely tailored to you and the legacy you wish to leave behind.
If you are considering gift planning this holiday season, we have seven family gifting strategies to consider which can spread joy beyond the season.
1. Make Annual Exclusion Gifts
Married couples can generally make gifts to each other as much as they like without any gift tax implications, but when making gifts to others, the IRS sets an annual gift tax exclusion amount which, if exceeded, triggers gift tax considerations. These rules do not depend on familial relationships – they apply the same to all other gifts you make, whether to other family members or to friends.
In 2022, the annual gift tax exclusion allows you to gift up to $16,000 per person without creating any gift taxes consequences. In 2023, that limit increases to $17,000 per person. This exclusion applies the value of all transfers made by you to any individual (or paid over for their benefit) over the course of the year, including cash but also other assets, such as real estate, stocks, and bonds.
If you give anyone more than this exclusion amount in a single year, you must file a gift tax return with the IRS. However, you and your spouse are also able to elect to split gifts on a gift tax return, meaning that the exclusion amount effectively doubles to $32,000 per person this year, and $34,000 per person beginning in 2023.
2. Fund a 529 Savings Plan
If you are not comfortable making these gifts directly to a beneficiary, especially if he or she is young, setting up a 529 plan is a way to use your annual exclusion gifts to set aside funds for a child’s or grandchild’s educational goals. Like most other states, Maryland offers 529 plans as a tax-free investment option for individuals to fund the cost of another person’s education, while allowing residents to recoup a portion of the gift through income tax credits.
Because gifts made to the plan count towards the annual exclusion amount, you should be careful when making other significant gifts to ensure that you do not trigger unintended gift tax consequences. However, unlike other annual exclusion gifts, if you make a gift to a Section 529 above the annual exclusion amount, you can elect to treat that single gift as being made ratably over a period of 5 years. This means that a single person can make a gift of up to $80,000 into a 529 plan this year, and a married couple can gift up to $160,000 without triggering any immediate gift tax consequences.
Because the annual exclusion amount is scheduled to increase next year, if you make such a gift to a 529 plan this year and elect to treat it as being made over a 5-year period, it is possible to make additional gifts to that child or grandchild (or their 529 plan) in 2023 without triggering any gift tax consequences.
3. Directly Pay Tuition or Medical Expenses
Direct payments to a medical provider for another’s expenses or to an educational institution to pay tuition for someone else are not limited to your annual gift tax exclusion amount. So long as the payment is made by you directly to the provider or institution (rather than you “reimbursing” the individual), your payment of someone else’s tuition or medical expenses will not count as a taxable gift.
Because these direct payments are not taxable gifts, they can be made in addition to your annual gifts, do not use any lifetime exemption, and do not need to be reported on an annual gift tax return. These exclusions for tuition and medical expenses allow you to pay as much as you would like towards medical expenses or tuition for anyone, not only your children or other close family members. The only catch is that, unless the other person is a dependent who is reported on your income tax return, you cannot claim any deduction for medical expenses or any credit for tuition payment.
4. Use Your Lifetime Exemption
Up to this point, we have focused on gifting strategies that either make use of the annual exclusion amount or are excluded from consideration altogether. However, even when your gifting exceeds the annual exclusion amount and creates a taxable gift, you will not owe any gift tax until your total, accumulated gifts exceed the lifetime gift and estate tax exemption amount.
In 2022, the lifetime exemption is $12.06 million, and this is scheduled to increase to $12.92 million in 2023 as a result of inflation adjustments. Again, these lifetime exemptions are effectively doubled for married couples. However, the federal lifetime gift and estate tax exemption amount is subject to change as Congress changes. In fact, even without legislative change, the current exemptions are scheduled to end or “sunset” after December 31, 2025, and the lifetime exemption will be approximately half of its current amount, subject to additional inflation adjustments.
If you have already used a significant portion of your lifetime exemption, have assets which are expected to appreciate significantly in the near future, or if you simply want to retain as much of your lifetime exemption for as long as possible, there are additional strategies available that will minimize the value of a taxable gift while shifting assets and their future appreciation out of your taxable estate.
An experienced estate planning attorney can help you navigate your choices to find the best path forward if you are considering gifts that will use your lifetime exemption while minimizing the amount used.
5. Transfer a Minority Interest in the Family Business
If you have a family business you wish to pass down to the next generation, transferring a portion of the business can offer several benefits, whether the transfer is made to them outright or through a trust. For gift tax purposes, transferring a minority interest in a family business allows you to reduce the total taxable gift reported by taking certain valuation discounts.
Because gifts are reported at a “fair market value” on the gift tax return, the value is based on what an unrelated person would pay, not necessarily what the asset is actually worth or what a related person would pay. When small business interests are valued, there are two discounts considered: (1) “lack of marketability” when the interest is less liquid and harder to sell, and (2) “lack of control” when the interest transferred is less than 50%. These discounts reduce the value of the taxable gift because, if the interest were sold, a buyer would likely negotiate for a lower selling price due to these considerations.
6. Transfer a Home Into a Qualified Personal Residence Trust
A Qualified Personal Residence Trust (or “QPRT”) is an excellent option for gifting family homes or vacation properties to your loved ones for future generations while removing significant value from your estate.
This type of irrevocable trust transfers interest in real estate into a trust where you, as the Grantor, keep a “retained interest” which allows you to continue using and enjoying the property, for a set period of time. Much like a Grantor Retained Annuity Trust (or “GRAT”), the current value of the property transferred in the trust is reduced by your retained interest – however, in a QPRT, the interest retained is not a stream of payments but instead your right to continue using the property without paying rent or other consideration. Essentially, you reduce the value of the property gifted and remove its future appreciation out of your taxable estate, while you continue to use and enjoy the property for a period of time.
7. Create a Split-Interest Charitable Trust
If you and your family are charitably inclined, you may also want to discuss creating either a Charitable Remainder Trust (“CRT”) or Charitable Lead Trust (“CLT”) which can help you meet your charitable planning goals while reducing estate or gift taxes where assets are transferred to loved ones.
These trusts are sometimes referred to as “split-interest trusts” because two separate interests are created – (1) a stream of payments for the trust term and (2) the right to the remaining assets once that trust term is completed – are split between individuals (or trusts for their benefit) and charitable organizations. As their names suggest, a CRT creates a remainder interest for the charitable organization after payments are made to one or more individuals, whereas a CLT creates a stream of payments to charitable interests for a period of time and leaves the remainder interest to individuals (or their trusts). Gifts made through these charitable split-interest trusts can benefit and support your family, while the value of that gift is reduced by the interest which is created for charity.
Contact our office today for more information on strategic gift planning, estate plans, year-end planning or considerations, contributions, and annual maintenance. If you need to create an estate plan, would like to implement changes to an existing plan, or are seeking guidance on strategies which supplement your foundational estate plan, we would be honored to help you meet your goals. Contact us at (443) 589-5600 or get started with your free estate planning checkup here.
At Sessa & Dorsey, we consider the bigger picture at hand and advise our clients on the best estates and trusts for their specific needs and desires. If you have questions, please contact us at (443) 589-5600.
Related blog posts:
End-of-Year Financial Considerations
Charitable Planning with Retirement Accounts
How to Have a Conversation With Your Family About Your Wishes for After You Pass
Considerations for Changing Your Residence or Domicile
How to Manage a New or Future Inheritance