Enhanced Giving Opportunities in a Challenging Market
Dec. 15, 2008
By: Joy L. Dixon
Although it is hard to ignore the negative effects of the current economy, there is the proverbial silver lining in the cloud. The drop in stock prices has created a "Giver's Market" that is the perfect forum for individuals to essentially "give more for less" in end-of-year gifts. Lower stock prices mean that more shares can be gifted, and thus more potential appreciation can be passed on, for the same gift.
Many individuals systematically take advantage of their federal annual gift tax exclusion by making annual gifts to children and grandchildren. For 2008, the federal annual gift tax exclusion is $12,000 per donee. In 2009, this exclusion increases to $13,000 per donee.
Below we have outlined several strategies to consider in order to take advantage of the current Giver's Market.
Outright gifts. The simplest method of gifting is to make a direct gift of property (shares of stock, interest in an entity), by transferring title and ownership, to the donee in an amount that does not exceed the annual gift tax exclusion. In order to make certain that the donor does not exceed the annual gift tax exclusion for a given donee, the donor must take into account all gifts made by the donor to the donee for the current year.
Section 529 Gifts. A Section 529 Plan - sometimes called a "College Savings Plan" - is a savings account that allows an individual to invest funds for qualified education expenses. One of the greatest tax advantages of the Section 529 Plan is that funds placed into the account grow tax-free as long as the funds are kept in the program. Moreover, when the funds are withdrawn for qualified educational purposes, neither the principal nor the earnings are subject to federal taxes. An additional advantage of the Section 529 Plan is its ability to accept accelerated annual gifts. A donor can make 5-years worth of annual exclusion gifts to a Section 529 Plan on behalf of a donee in a single year without triggering federal gift tax.
UTMA Gifts. The Uniform Transfers to Minors Act (UTMA) permits a donor to make gifts to a custodian who has the responsibility of investing and applying the funds when needed for the support and education of the minor beneficiary. UTMA gifts are often simpler and less expensive than trusts. UTMA accounts generally terminate when the beneficiary reaches age 21 and any funds that remain in the UTMA account are distributed outright to the beneficiary at that time.
Section 2503(c) Trust Gifts. A Section 2503(c) Trust or "2503(c) Minor's Trust" is established to hold gifts in trust for a minor until that minor reaches the age of 21. Normally, in order to qualify for the annual gift tax exclusion, the gift must be of a present interest in that the donee must be able to use the gift immediately. However, the advantage of the 2503(c) Minor's Trust is that the trust is specifically designed to permit the gift of a future interest (i.e. the right to access the funds when the minor turns 21) to qualify for the annual gift tax exclusion. The transferred assets and income of the trust may be used by or for the benefit of the minor before the minor has reached the age of 21. When the beneficiary turns 21, the trust terminates and the assets are distributed outright to the beneficiary.
GRAT. A Grantor Retained Annuity Trust (GRAT) is a split-interest trust in which the grantor retains the right to receive a stated sum annually during the term of the trust (i.e. a "fixed annuity interest"), and at the end of the term, the remainder of the trust passes to noncharitable beneficiaries, such as the grantor's children. The annual annuity payment to the grantor is ignored for gift tax purposes, while the gift of the remainder interest is a taxable gift, valued using the §7520 rate (currently 3.4%). When the return on the assets contributed to the GRAT exceeds the §7520 rate, the grantor essentially passes wealth tax-free to beneficiaries of the trust.
CLAT. A Charitable Lead Annuity Trust (CLAT) is a trust in which a charitable beneficiary receives a fixed annual payment for a specified number of years, at the end of which the remaining assets are distributed to noncharitable beneficiaries such as the children of the individual establishing the trust, called the CLAT "settlor". Because the settlor generally receives a charitable deduction for the value of the income interest paid to the charity, only the value of the remainder interest that passes to the noncharitable beneficiaries is taxable for gift tax purposes.
Intra-family Loans. Intra-family loans can be made at rates that are often lower than applicable commercial rates. This can provide a modest wealth transfer offset that is heightened in times of low interest rates. Moreover, parents can establish repayment terms that account for the particular needs and circumstances of the debtor child. Parents making an intra-family loan to a child can entirely avoid gift tax consequences, as long as the parent charges an interest rate that at least equals the "applicable federal rate (AFR)" published monthly by the IRS. For December 2008, the AFR for short-term loans (3 years or less) is 1.36% compounding annually; the AFR for mid-term loans (more than 3 years but not more than 9 years) is 2.85% compounding annually; and the AFR for long-term loans (more than 9 years) is 4.45% compounding annually.