When you make substantial gifts to anyone, the IRS takes interest. The good news is a gift is not considered taxable income to the person receiving the gift. However, as the gift-giver, you may have to file a gift tax return if you make gifts in excess of $14,000 to an individual during the year. If you’re married, you can opt to split your gift with your spouse, effectively increasing the exemptible gift amount to $28,000. Utilizing gift splitting generally requires filing a gift tax return to make the election, so discuss all gifts with your C.P.A. If you exceed the limits, your gift decreases your $5.34 million federal estate and gift tax exclusion.
If you’re giving this money to an 18-year-old — hoping he uses it for college — consider taking off your rose-colored glasses. Most 18-year-olds do not have the financial restraint to budget $28,000 past their freshman year. The IRS probably knows this too, which may be why taxpayers are allowed to make unlimited tax-free gifts for tuition, provided the gift is made directly to the educational institution. You can pay for tuition at Columbia University and still give the child $14,000 ($28,000 for married couples) for fees, books and living expenses, as those expenses do not qualify for the tuition exemption. To work around this, you may opt to gift a lump sum, up to $70,000 — or $140,000 for married couples — to the child’s 529 Plan and opt to spread the gift over five years.
What about young newlyweds? You and your spouse can each gift $28,000 to both the bride and groom, as the annual exemption limit applies to each donee, not the donor — $56,000 is one wedding gift they won’t return. Perhaps you don’t have $56,000 laying around; however, you do have a second home you’d like to give the newlyweds. You can gift a portion of the property each year, taking advantage of the annual gift tax exemption rules and discounts available to the fair market value for partial ownership interests. You’ll want to involve your C.P.A. with gifting transactions because it may need to be reported — even if it is under the exclusion limit — and also to start the statute of limitations.
But be aware when you gift property, as the person receiving the gift generally takes an income tax basis equal to your basis. This means when the property is sold, it would be measured from your basis, which could result in a significant taxable gain for the recipient if the property has appreciated in value.
You may also decide to sell your property to the newlyweds for less than its full value. The gift is the difference between fair market value and the selling price. If the difference is more than your annual gift tax exemption amount, you will have to file a gift tax return. Similarly, if you offer the newlyweds an interest-free loan, the IRS can determine the interest you should have charged on a loan as a gift, but it can be reported each year as a gift, with a reduction of principal.
William G. Lako Jr., CFP, is an executive in residence at Kennesaw State University’s Coles College of Business and a principal at Henssler Financial. Lako is a certified financial planner.The Marietta Daily Journal will periodically publish columns from KSU business faculty.