In this article I’m going to discuss gifting money to children.
You might ask: can I give my family a wad of cash and call it good?
If only it was that simple!
If gifting to your children, family, friends, or charity has been on your mind, this was written for you…
And assuming you would like to stay out of the IRS’s purview, included are some rules for gifting money to children and best practices to follow.
Gifting, or the act of transferring something of value to another person, has a whole lot of facets to examine.
So, grab a chair and read on for some insights into gifting in retirement.
Introduction: What Should I Know About Gifting Money to Children and Grandchildren and Why Should I do it?
Are you secure in your retirement plan? Do you, have “enough,” however you define the term?
Do you want your hard earned fortune to benefit your family during your lifetime?
If so, you may be thinking about gifting a portion of your wealth to your children or grandchildren, rather than waiting until after you’ve passed.
Lifetime gifting can benefit everyone involved. Your recipients can use the proceeds to enhance their current and future well-being.
The exchange can become a joyful event to share between you.
And, depending on the circumstances, you may be able to transfer your wealth more tax-efficiently by distributing some of it sooner than later.
Especially in retirement, what are the rules for gifting money to my children? And do I have to pay taxes on a gift?
That said, the IRS has rules for gifting money to children, grandchildren, and other loved ones. Based on the questions we receive, most retirees already suspect as much. But the details are elusive, especially when the tax-code landscape seems to be forever shifting under our feet.
“Do I have to pay taxes on a gift?”
Today, let’s cover everything retirement savers need or ought to know about gifting to loved ones.
Gifting and Taxes: Frequently Asked Questions
“How much can we give without incurring taxes?”
“What if we want to give more anyway?”
“When should we give, and how?”
These are just a few of the frequently asked questions we hear about gifting in retirement. Since few gifting conversations are complete without considering the tax ramifications involved, we’ll start there. (Of course, over time, specific rules can evolve; check in with your financial, tax-planning, and estate planning professionals before acting on the information here.)
How Much Can I Gift Without involving the IRS?
Assuming we want everything to stay above board! Here are some points to consider
What’s the largest gift I can make without having to report it?
For most gift-giving, the magic numbers were $15,000 in 2021, and an inflation-adjusted $16,000 in 2022. Each figure represents the exclusion amount under IRS rules, before you exceed your annual tax-free gift limit.
However, these figures are per donor and recipient. In other words, you and your spouse could go on an annual giving spree in 2022, with each of you giving $16,000 each ($32,000 total) to every man, woman, and child you’re fond of without encountering tax ramifications.
What gifts are not subject to gift taxes?
Beyond the $16,000 exclusion rates, the sky’s the limit on some specific types of gift-giving. For example:
|Spouses||Married couples can give as much as they please to each other (provided your spouse is a U.S. citizen).|
|Medical expenses||You can give freely to cover someone else’s qualifying medical costs. Note: this must be paid directly to the medical provider.|
|Education||You can also pay for other people’s qualified educational costs (such as tuition, but not books) … with a caveat: If your recipient is receiving financial aid, make sure your gift won’t cause more harm than good to their bottom line. Note: this must be paid directly to the educational institution.|
|Charity and political contributions||Giving to qualified charities and political campaigns is not subject to gift taxes, although each has its own, separate set of rules to track.|
What Are the Rules if I Want To Gift More Than That?
To you, a gift may be a gift.
For better or worse, the government may beg to differ, and has done so in the form of extensive IRS gift tax rules.
What do I need to know about gift taxes?
The main aim for gift tax rules is to allow for most gift-giving to simply happen, without any reporting required or cash gift taxes due.
But for families passing on multimillions in wealth, the IRS also wants the tax ramifications to end up approximately the same, whether the transfer is made through lifetime gifting or inheritance after death.
This involves tracking two thresholds to determine when you might be subject to gift taxes when gifting money to children and others:
|Threshold in 2022||Annual or Lifetime Exclusion?||Next Steps|
|Less then $16,000 per donor per recipient||Your annual gifting exclusion amount||You can give annually as described above with no gift tax or reporting required|
|More then $16,000 per donor per recipient||Your lifetime gifting exclusion amount||Any gifts you make beyond your annual tax-free gift tax limit may still be tax-free, as long as you don’t also exceed your lifetime gift exclusion (which is the same figure at which estate taxes kick in as well)|
Even if no taxes are due, you may still need to report your activities on U.S. Gift Tax Form 709, the tax form when gifting money to children and others.
|If you …||Pay a Gift Tax?||File Form 709?|
|Remain within your annual per-gift exclusion …||No||No*|
|Exceed your annual per-gift exclusion, but remain within your lifetime gift exclusion …||No||Yes|
|Exceed your annual and lifetime gift tax exclusions …||Yes||Yes|
In 2021, the estate and lifetime gift tax exclusion was $11.7 million (or $23.4 million if you and your spouse are both making gifts). In 2022, it increased to an inflation-adjusted $12.06 million each (or $24.12 million per couple).
With the 2017 Tax Cuts and Jobs Act (TCJA), estate tax and lifetime exclusion rates jumped from $5 million to $10 million, adjusted annually for inflation.
By default, they’re set to return to the lower, pre-TCJA levels after 2025—and there’s been talk of lowering them sooner.
The IRS has confirmed, if/when rates drop, taxpayers should NOT be “adversely impacted” for having taken advantage of higher exclusion rates while they’re available.
The takeaway: If you’re planning to make significant gifts during your lifetime, now may be a favorable time to do so.
A caveat for ALL gift-givers about the Medicaid look-back period
Even if your gifting won’t ever generate gift taxes, be careful about making gifts of any size if you expect to apply for Medicaid within the next several years.
As the American Council on Aging explains, “Medicaid’s look-back period is meant to prevent Medicaid applicants from giving away assets or selling them under fair market value in an attempt to meet Medicaid’s asset limit.”
In other words, don’t try to gift away your wealth just to qualify for Medicaid.
Most states (including Washington) impose a 5-year look-back period from the time you apply. The state will review any asset transfers you’ve made during that period, and if they determine you’ve violated the rule, they can delay your eligibility according to a state-specific formula.
What if I do have to pay taxes on a gift?
If you are subject to gift taxes, you’ll pay at a marginal tax rate (which is similar to how ordinary income is taxed).
But you’re only taxed on the amount that exceeds your annual exclusion (i.e., more than $15,000 per gift in 2021/$16,000 per gift in 2022).
As of 2022, marginal gift tax rates range from as low as 18% (for gifts that exceed your annual exclusion by up to $10,000), to as high as 40% (for gifts exceeding your annual exclusion by more than $1 million).
To illustrate: Suppose you’ve already given away $11.7 million in previous years. Then, in 2022, your son and daughter-in-law welcome little Grace into the world—your first grandchild! To celebrate, you gift her $100,000. To calculate the gift tax, you’d first deduct your $16,000 annual exclusion. You’d then owe taxes on the remaining $85,000 at a marginal tax rate of 28% in 2021.
To minimize taxes owed, you could instead give $16,000 each to your son and daughter-in-law, and the remaining $70,000 to Grace. After subtracting the $16,000 exclusion for Grace’s gift, you’d owe taxes on $55,000 at a 24% marginal rate.
In addition to potential gift taxes, high-net-worth families also need to keep an eye on generation-skipping transfer taxes (GSTTs) when gifting directly to someone who is at least 37.5 years younger than you (such as grandchildren). We’ll cover that here. [See our section on GSTT below!]
How do I report gifts?
Again, all the Federal reporting action happens on IRS Form 709, aka the “United States Gift (and Generation-Skipping Transfer) Tax Return.”
Some states also have gift tax returns to file, although Washington state as of 2021 does not. However, in Washington if you pass away and your gift was in the last 3 years the gift would be added back to your estate and reported there.
As mentioned above, Form 709 ensures similar taxes are incurred on significant wealth transfer—regardless of whether the transfer happens through lifetime gifting or inheritance. It also helps you and the government track your “progress” toward exceeding your lifetime gifting exclusion.
Being careful with joint accounts and titling accounts
While we’re on the subject of tracking your gift-giving, it’s important to be careful about gifting and reporting gifts out of joint accounts, as well as how to title any accounts into which your gifts are being directed. This is important for accurately tracking sources and recipients for both gift tax and GSTT reporting.
Are There Tax Advantages To Gifting?
Yes…. But it depends!
In most cases there are immediate tangible tax advantages with gifting to qualified charities. However, the tax benefits of gifting to other recipients may or may not show up as clearly on your tax return.
(And, as described in our piece on Donor-Advised Funds it’s also become more difficult to file for charitable deductions post-TCJA.)
However, there are tax-planning levers you and your advisory team can deploy as you make your gifting plans.
To determine the impact of gifting and tax advantages. Your team should at a minimum be asking the following questions:
- How much of the estate would be subject to Federal estate taxes?
- Who will receive the gift? Are they a qualified charity? A family member or friend in a different tax bracket?
- What will they receive? Appreciated stock? Cash? Property?
- What State does the gift giver live in? Does the state of residence have a different estate tax threshold then the Federal level?
Continue reading on for additional perspective on those questions
Can I reduce my Federal estate taxes through gifting?
Does the value of your estate hover around the levels beyond which Federal estate taxes apply?
Again, these levels are the same figures at which your lifetime gift tax exclusion kicks in … so currently, $11.7 million, but potentially much lower in the years ahead.
By gifting away your wealth within your annual exclusion limits (while also avoiding the Medicaid look-back period described above), you can reduce your estate value dollar for dollar.
That’s not necessarily the case on gifts that exceed your annual gifting exclusions. Even if you incur no gift taxes at the time, you must report these excess amounts on Form 709, and they reduce your Federal estate tax and lifetime giving exclusion dollar for dollar.
This means, when the time comes to settle your estate and pay any estate taxes due, any excess gifting you’ve done during your lifetime lowers the point at which estate taxes start to apply.
To illustrate: Suppose that $100,000 gift you made to granddaughter Grace was the first significant gift you’d ever made. If you’d not yet touched your $12.06 million lifetime gifting exclusion, you’d owe no gift taxes, even though you exceeded your $16,000 annual gifting exclusion by $85,000. But you would still file a Form 709 to report the excess $85,000, which would lower your estate tax and lifetime gift exclusions by the same amount. The outcome: The point at which your estate becomes taxable is now lowered to $11,975,000 ($12.06 million – $85,000).
Even if you gift beyond your tax-free gift limits and pay gift taxes on the excess amounts, you may still be able to ultimately pay taxes at lower rates than the typical 40% estate tax rate currently in place. Plus, that’s before we figure in any potential savings at the Washington state level, where there are no gift taxes, but there are Washington estate taxes.
What if my beneficiary is in the same tax bracket I am?
To be clear, you as the donor pay gift taxes—not your recipient. So, you might assume it doesn’t matter what tax bracket your children or grandchildren are in.
But if we view gifting as a way to reduce overall taxes on a multigenerational wealth transfer, there may be benefits to reap (as we described in our post, Washington State Capital Gains Tax: The 7 Things You Need To Know).
Gifting stock: For example, what if you gift a highly appreciated asset to your children? When you directly gift assets such as stocks or real estate, their original basis remains intact. If your child then sells these assets, they’ll pay taxes on the resulting gains. But if they are in a lower tax bracket than you are, their taxes will be lower than yours would have been.
Inheriting stock: Currently, if your heirs instead inherit the same asset instead of receiving it as a gift, there’s a step-up in basis upon inheritance, thus entirely eliminating the gains you made during your lifetime. That’s good to know. But since there’s been talk of eliminating that step-up in basis, it’s also good to be aware of whether that rule changes.
Generation-skipping transfers: Who is the ultimate beneficiary?
As mentioned above, there’s one more catch to be aware of as you plan your gifting strategies: the generation-skipping transfer tax (GSTT).
In addition to tracking general gifting, the IRS doesn’t love it if you skip passing significant wealth to your children, in favor of grandchildren, great-grandchildren, or similar younger heirs.
From their perspective, they’re losing out on generations’ worth of potential wealth transfer taxes.
The GSTT is their way of recovering that missed opportunity. It’s subject to the same annual and lifetime exclusions as your general gifting, so as long as you remain within those thresholds, neither tax should apply to you. However, once you do move past these exclusion rates, you may incur gift taxes on the entire excess gifting amount, plus GSTTs on the excess amounts going to grandchildren, great-grandchildren, or others who are at least 37.5 years younger than you.
There are ways to manage the impact of the GSTT, such as through gifting to 529 college education plans, [We discuss 529 in more detail below] or establishing and maintaining dynasty trusts that remain relevant as tax codes may evolve. To get you started, here’s a Fidelity piece, “Generation-skipping transfer tips.”
What Is the Best Way to Give to Your Children and Grandchildren?
When you give a substantial gift to a loved one, what form will it take? Beyond the many tax ramifications, it’s also worth asking yourself why you’re making the gift, and what you hope the results to be.
Using stocks, bonds, or cash for sound investing lessons
How do you gift money to a child? If you decide to gift stocks, bonds, or similar investment vehicles, you can potentially use them to teach a young heir about the sound principles of wealth accumulation—including the value of embracing a long-term buy and hold strategy, as well as the immense value compounding can add to a portfolio with decades of growth potential ahead.
You could also keep it simple by making cash gifts, and then guiding your recipient on how to use the assets to establish their own portfolio, and select appropriate holdings in which to invest.
Gifts for funding education for your children and grandchildren
Gifting to 529 college savings plans are among our favorite forms of gifting to grandchildren or great-grandchildren. As described in this Fidelity piece, 529 plans “offer an appealing combination of tax advantages, control, flexibility, and minimal impact on student aid.”
Currently, you can even “front-load” up to five years of annual tax-free giving into a single year. For example, you could give a recipient $16,000 x 5 = $80,000 in 2022, without incurring gift taxes or reducing your lifetime exclusion amount (and then forgo any additional gifts to the recipient through 2025).
That said, there are caveats to watch for related to the recipient’s student aid (at least during the next several years), as well as how the gifts could impact your own ability to qualify for Medicaid.
Gifts for having fun with your children and grandchildren
Why wait until you’re no longer around to engage in gift-giving?
You can make gifts today that your children or grandchildren will find meaningful, fun, or both—and in which you can personally participate.
For example, you may help them purchase their first home or upgrade to a larger one; pay for a family reunion in a splashy destination; or facilitate any number of other wants or needs.
Should I make Gifts sooner or Later?
One often-overlooked aspect of gifting money to children or grandchildren is the emotional impact it can have on you and the recipient.
When parents gift money to their children, it can elevate everyone’s life.
But gifts given at the wrong time or for the wrong reasons can backfire on everyone’s best interests.
The downsides of giving too much, too soon
Most importantly, even if you long to give generously to your loved ones, please don’t risk putting your own financial well-being in jeopardy!
By first ensuring your financial needs are well-covered, you’ll give yourself and your heirs a greater gift.
Remember, even if your children and grandchildren have been struggling to keep up with their financial goals at this time, they have more time and options than you do to get on top of them.
Your children have a longer timeframe then you do and more time to made adjustments. They could potentially work longer before retirement or pursue higher-paying or extra jobs. Additionally they could invest more aggressively over their longer timeframe. They also have longer to modify there spending behaviors and more time to benefit from multiple income streams.
In contrast, once you’re in retirement, you are likely to have fewer opportunities and less time to right your financial ship should things go wrong.
The last thing anyone wants is for you to be unable to live as independently as possible, for as long as possible.
The downsides of giving too little, too late
On the other hand, if you wish to make gifts, and you can afford to do so, there may be few greater joys than sharing your abundant wealth with loved ones.
Excessive frugality can also have financial impacts. This is especially the case right now, while gift tax and GSST exclusion rates are historically high, tax rates are historically low, and there’s a hard, TCJA-mandated date (after 2025) by which these favorable conditions are set to disappear—if they don’t dissipate even sooner.
Also, as mentioned earlier. There are various lookbacks for gifting in the period immediately preceding your death. Therefore, consider the timing of your gifting strategy.
Every child is different
Beyond whether you are willing and able to give, consider how each recipient may benefit from—or be harmed by—any gifts you have in mind.
Each of us is unique. A gift to one person may enhance their ability to build a better life for themselves; the same gift to another could enable bad habits and unhappy choices. If you’re unsure how a substantial gift may be received, it might be wise to start with smaller, annual gifts, so you can see how the money impacts your recipients’ well-being.
Gifting To Last a Lifetime
There is always more to know about the practical and emotional ramifications of your gift-giving, especially where gift tax and estate planning intersect. But as we wrap this piece, you should now be aware of the essentials.
Clearly, the best gift-giving strategy for you and your loved ones depends on you and your circumstances.
We recommend you work with a qualified well rounded wealth advisory team to ensure your wishes are met!
At Jarvis Financial, we specialize in serving diligent savers who are in or near retirement. We help them consider their gift-giving and estate-planning options amidst ever-evolving regulations, while also avoiding common retirement mistakes. We also connect our clients with tax- and estate-planning professionals as needed to complete their well-rounded wealth advisory team. Something we hope your team is doing for you already!
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