We have discussed the 2012 tax-saving opportunity quite a bit here lately. You can read previous posts here and here. This article continues our conversation by providing our clients and readers a number of factors to consider when deciding whether to gift or not to gift.
For those who are just “tuning in” to the discussion, the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 (“the Act”), significantly alters the federal estate and gift tax system, which impacts estate planning for many individuals and presents excellent estate planning opportunities. Namely, an individual can give away more than $5,000,000 of their assets now and remove those assets and any appreciation in their value from their future taxable estate. For married couples, this amount jumps to more than $10,000,000.
Needless to say, the Act has sparked quite a few questions for our clients. We are hearing questions like, “Even though I can give that much away, should I?” and “What sorts of risks go along with making large gifts?” Ponder these factors to help with your decision making process:
How much should I gift? This seemingly simple question is a great place to start. Warren Buffett advises, “Leave your children enough money so they can do anything, but not enough that they don’t have to do anything.” Mr. Buffett did not leave his children the bulk of his fortune, but he did provide $1,000,000,000 for each of them to give to charity(ies) of their choosing. This answer depends on you. What is your asset portfolio like? Do you have significant cash flow from certain assets so that parting with others will not affect your standard of living? Is there one asset or a few assets, perhaps a bustling family business, that should be gifted now to avoid appreciation being taxed in your estate?
Do you want strings attached to your gift? You need to consider how much control you desire to exercise over the gift. Gifts can take several forms. The gift could be outright or in a trust. Who will serve as the trustee? Does that individual have asset protection concerns of their own that might affect their ability to properly act as trustee? How long should the trust last? What about the distributions – what will they look like? Who are your beneficiaries?
Once it’s gone, it’s gone for good. When you give a gift, you cannot take it back. This issue is less about control and more about risk. What if the individual you give the gift to divorces, becomes disenfranchised from the family or faces creditor issues? Let’s say you gift your child a minority percentage of the stock in your family business and the child’s spouse later files for divorce. Will there be a forced, hostile valuation of the stock in which there are competing appraisals (i.e., the child seeks a low appraisal while the child’s spouse is motivated to seek a high appraisal for distribution purposes)? Will income from the gift be taken into account for alimony and child support determinations? What if phantom income is part of the equation? Litigation is very likely to ensue.
Have you considered “discounting” your gift? Your gift may be eligible for certain discounts, such as a minority or marketability discount for business interests. This type of leveraging effectively increases the value of your gift by twenty percent or more. You may also want to think about funding an irrevocable trust. Your trustee could use the funds to make annual life insurance premium payments, so there may be greater additions to the trust through leverage than through traditional means.
Maximize your gift by gift splitting. For married individuals, the tax laws allow one spouse to make a gift and the other spouse to consent to that gift. The effect of this election is to double the amount that can be gifted. This technique is especially useful in second-marriage situations or where one spouse has accumulated much more wealth. Extra care should be taken to protect the smaller of the two estates, especially where a prenuptial or postnuptial agreement is in place. If you are the spouse with the smaller estate, you must be advised of the effect that will be had if the exemption decreases, as it is set to in 2013; it could mean more taxes.
Gift more than the exemption and pay tax? Although it sounds counterintuitive, you may be wise to gift in excess of the $5,000,000 (or $10,000,000 for couples) exemption and pay 35 percent gift tax. This is the lowest we have seen the estate and gift tax rate in nearly 100 years. The difference in a tax exclusive gift and a tax inclusive bequest can make a significant difference at high dollar levels, especially if there is potential for appreciation in the assets to be gifted.
The tax changes are simply enormous this year, but there are risks to consider as well. Let the attorneys at The Coleman Law Firm, PLLC guide you through the benefits and risks of a personalized gifting plan. With the end of the 2012 year upon us, now is the time to seek professional advice for any lingering questions and to implement your gifting plan.
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