Contributed by: Nick Defenthaler, CFP®, RICP®
Giving is top of mind for many now that we are officially in the thick of the holiday season. Whether you’re shopping online or fighting crowds at the mall, there are other forms of gifting to consider – ones that would arguably have a much larger impact on your loved one's life.
Gift Tax Exclusion Refresher
The annual gift tax exclusion for 2020 is $15,000. This means you can give anyone a gift for up to $15,000 and avoid the hassle of filing a gift tax return. The gift, if made to a person and not a charitable organization, is not tax-deductible to the donor nor is it considered taxable income to the recipient of the gift. If you are single and wish to gift funds to your daughter and son-in-law, you can give up to $30,000, assuming the check issued is made out to both of them. Remember, the $15,000 limit is per person, not per household. For higher net worth clients looking to reduce their estate during their lifetime given estate tax rules, annual gifting to charity, friends, and family members can be a fantastic strategy. So what are some ways can this $15,000/person gift function? Does it have to be a gift of cash to a loved one’s checking or savings account? Absolutely not! Let’s look at the many options you have and should consider:
1. Roth IRA funding
If a loved one has enough earned income for the year, he or she could be eligible to fund a Roth IRA. What better gift to give someone than the gift of tax-free growth?! We help dozens of clients each year with gifting funds from their investment accounts to a child or grandchild’s Roth IRA up to the maximum contribution level of $6,000 ($7,000 if over the age of 50). Learn more about the power of a Roth IRA and why it could be such a beneficial retirement tool for younger folks.
2. 529 Plan funding
529 plans, also known as “education IRAs” are typically used to fund higher education costs. These accounts grow tax-deferred and if funds are used for qualified expenses, distributions are completely tax-free. Many states (including Michigan) offer a state tax deduction for funds contributed to the plan, however, there is no federal tax deduction on 529 contributions. Learn more about education planning and 529 accounts.
3. Gifting securities (individual stock, mutual funds, exchange-traded funds, etc.)
Gifting shares of a stock to a loved one is another popular gifting strategy. In some cases, a client may gift a position to a child who is in a lower tax bracket than them. If the child turns around and sells the stock, he or she could avoid paying capital gains tax altogether. As always, be sure to discuss creative strategies like this with your tax professional to ensure this is a good move for both you and the recipient of the gift.
4. Direct payment for tuition or health care expenses
Direct payments for certain medical and educational expenses are exempt from the $15,000 gift tax exclusion amount. For example, if a grandmother wishes to pay for her granddaughter’s college tuition bill of $10,000 but also wants to gift her $15,000 as a graduation gift to be used for the down payment of a home, she can pay the $10,000 tuition bill directly to the school and still preserve the $15,000 gift exclusion amount. This same rule applies to many medical costs.
For those who are charitably inclined, gifting highly appreciated stock or securities directly to a 501(c)(3) or Donor Advised Fund is a great strategy to fulfill philanthropy goals in a very tax-efficient manner. For those over 70 ½, gifting funds through a Qualified Charitable Distribution (QCD) could also be a great fit. Gifting funds directly from one’s IRA can reduce taxable income flowing through to your return which will not only reduce your current year’s tax bill but could also lower help lower your Medicare Part B & D premiums, which are determined by your income each year.
As you can see, there are numerous ways to gift funds to individuals and charitable organizations. There is no “one size fits all” strategy when it comes to giving – the proposed solution will have everything to do with your goals and the need of the person or organization receiving the gift. On behalf of the entire Center family, we wish you a very happy holiday season, please reach out to us if we can be of help in crafting your gifting plan for 2020!
Nick Defenthaler, CFP®, RICP®, is a Partner and CERTIFIED FINANCIAL PLANNER™ professional at Center for Financial Planning, Inc.® Nick specializes in tax-efficient retirement income and distribution planning for clients and serves as a trusted source for local and national media publications, including WXYZ, PBS, CNBC, MSN Money, Financial Planning Magazine and OnWallStreet.com.
This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. Any opinions are those of Nick Defenthaler and not necessarily those of Raymond James. Investing involves risk and you may incur a profit or loss regardless of strategy selected. Please note, changes in tax laws may occur at any time and could have a substantial impact upon each person's situation. While we are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional. Roth IRA owners must be 59½ or older and have held the IRA for five years before tax-free withdrawals of earnings are permitted. Earnings withdrawn prior to 59 1/2 would be subject to income taxes and penalties. Contribution amounts are always distributed tax free and penalty free. As with other investments, there are generally fees and expenses associated with participation in a 529 plan. There is also a risk that these plans may lose money or not perform well enough to cover educational costs as anticipated. Most states offer their own 529 programs, which may provide advantages and benefits exclusively for their residents. The tax implications can vary significantly from state to state. Donors are urged to consult their attorneys, accountants or tax advisors with respect to questions relating to the deductibility of various types of contributions to a Donor-Advised Fund for federal and state tax purposes. To learn more about the potential risks and benefits of Donor Advised Funds, please contact us.