Giving financial gifts to children or grandchildren can help reduce your estate taxes. However, if you are concerned about wasteful spending by the recipients, there are several options that allow you to exercise some control over how the money is used.
How Much Can You Give?
Federal law permits unlimited, tax-free annual exclusion gifts of up to $14,000 per recipient ($28,000 if married), without the donor having to file a federal gift tax return. If you make a gift to any person in excess of the annual exclusion amount, you will be required to file a federal gift tax return. However, if your gift exceeds the $14,000 annual gifting amount or $28,000 jointly (husband and wife), the excess amount will reduce your lifetime gift and estate tax exemption—currently $5.45 million per individual ($10.9 million per married couple)—and you will need to file a gift tax return (Form 709). You will not have to pay any gift tax; the gift will simply reduce the amount of your lifetime exemption amount.
Your generosity and good fortune potentially places a significant amount of money into the hands of children and grandchildren—adults as well as minors—who may be unprepared to manage a windfall. Here are some suggestions that may allay your concerns.
Lead by Example
When making gifts to adult children, discuss your feelings with them in advance. Suggest that they put the money to good use, such as paying down debt, starting a college fund for their own children, investing a portion, or donating some or all to a charity of their choice.
Avoid handing a check to an adult child who you believe may squander the money. Instead, offer to contribute to big-ticket items—such as a new car or a mortgage down payment—or require them to attend a financial education course to learn about budgeting, savings, credit scores and other topics that could help them become fiscally responsible adults.
Custodial Accounts, Trusts and 529 Plans
If the gift recipient is a young child, Uniform Transfers to Minors Act (UTMA) or Uniform Gifts to Minors Act (UGMA) custodial accounts may be appropriate choices. With UTMA/UGMA accounts, the minor owns the funds received as a gift, but the donor may serve as custodian and has complete control of the account until the minor reaches the age of majority (generally 18 or 21, depending on the state), at which point the custodian is required under the law to turn the assets over to the former minor.
For those desiring some lasting control over the gifted money, a trust may be the better choice. Unlike custodial accounts, money held in a trust is not required to be transferred to the beneficiary at a specific age. You choose the timing and distribution schedule: for example, a lump sum at age 21, or periodic payments over a set number of years.
If you prefer that the money be used to fund longer-term financial goals, offer to fund an individual retirement account or open a 529 college savings plan. Under the special five-year election rule, you can make a lump-sum contribution of $70,000 to a 529 plan in the first year of a five-year period (or $140,000 per married couple). Keep in mind that if you choose that option, you’ll have to avoid giving the recipient any additional annual exclusion gifts during the remainder of the five-year period.
These are just a few suggestions for making thoughtful, satisfying gifts to children. Contact your financial advisor for help assessing your overall estate and exploring additional gifting and financial education options. iBi
Cathy S. Butler, CFP, CRPC is a financial advisor with the Butler/Luthy Group of Morgan Stanley. For more information, visit www.morganstanleyfa.com/thebutlerluthygroup.