The Annual Gift Tax Exclusion: Getting The Edge

By: Glenn Dahlke  

Whether helping the kids with a down payment on their first home, paying the premiums on a life insurance policy in an irrevocable trust, or moving appreciated assets to a younger generation, annual gifting will touch the lives of millions of Americans. But before the transfer is made, an investor should spend some time looking at the investment and the tax ramifications of the property to be passed.

Much of the gifting itself will be done under the Annual Gift Tax Exclusion, a method that alleviates both a gift tax and the need to report the transfer. This exclusion applies to gifts only between individuals. Gifts made to charities and other organizations fall under a completely different set of rules.

The transfer is not deductible by the donor nor is it taxable to the recipient. Currently (in calendar year 2005), the annual exclusion is set at $11,000. In the future, this can be adjusted for inflation, but only in $1,000 increments. Spouses can increase their gifts to others to a maximum of $22,000 and, finally, gifts between spouses, like love, knows no limits.

Most transfers are done for one of two reasons. In the past, passing along property to diminish the value of an estate and, therefore, estate taxes was a major consideration in estate planning. This is still used extensively for larger estates but, under current law, fewer estates are subject to the tax. If the estate has no tax exposure (and if nursing care is taken care of), many advisors recommend not to gift at all but, instead, toallow the assets to receive a “stepped up” tax basis upon death.

Gifting to allow for current use of assets has been and continues to be popular. Often a parent wants to see a child use the gift immediately in order to enjoy an extended vacation or to make a major purchase. Here, it is expected that any gift of securities will be converted into cash with the appropriate tax paid.

Both donors and recipients should be aware that various gifts for educational or medical purposes may not reduce the annual exclusion. You should check with your tax advisor to determine whether this applies to a your specific situation.

Certain kinds of property (real estate, art, collectibles, closely held business interests, etc) should be appraised before a transfer is made. Consulting an expert in the particular field is usually a good idea to calculate the fair market value of the property.

Another circumstance requiring professional help is when “spending down” an estate for Medicaid purposes. An elder law attorney should be consulted for help in this area.

The actual gift of marketable securities or cash is fairly straightforward. Giving a check to someone or journaling over securities is enough to complete the gift. However, before making the gift, you should understand some of the potential tax considerations.

Let's first look at stock that has appreciated in value. Remember, whatever tax basis the donor in the gifted property will become the recipient's tax basis. If the donor is in a higher tax bracket than the recipient, it is often wise to gift the stock to the recipient and let the recipient sell the stock at his or her lower tax bracket.

If the fair market value of the stock is below the donor's original cost, then the donee must use the fair market value of the property as of the date of the gift in determining his or her tax basis. If you find yourself in this situation, the donor should consider selling the asset and then gifting the cash proceeds to the recipient.

Obviously, there will be times when a gift needs to be made regardless of the consequences; but, when time allows, you should do your homework to see what works to your best advantage.

Glenn (“Chip”) Dahlke, a senior contributor to the Living Trust Network, has 28 years in the investment business. He is a Registered Representative of Linsco/Private Ledger and a principal with Dahlke Financial Group. He is licensed to transact securities with persons who are residents of the following states: CA. CT, FL, GA, IL. MA, MD. ME, MI. NC, NH, NJ, NY.OR, PA, RI, VA, VT, WY.

If you have any questions or comments, Chip would love to hear from you. You may contact him by email at dahlkefinancial@sbcglobal.net. You may also contact him at the Living Trust Network's web site at http://www.livingtrustnetwork.com

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