Taking Care of Mom and Dad: It's Better to Give
The term "gifting" has the irritating ring of bureaucratic double-speak. The term comes up frequently in financial planning -- and with good reason. It's a useful tool.
Gifting refers to working around the federal gift tax, which applies to the transfer -- for no compensation -- of any property. Your parents can make a gift to you if they give you property (including money) -- or the use of or income from property -- without expecting to receive something of at least equal value in return. If they sell family members something at less than its full value or if they make an interest-free or reduced interest loan, they may be gifting.
A separate annual exclusion applies to each person to whom your parents make a gift. So, they can give up to $11,000 each year to each of any number of people -- and none of the gifts will be taxable.
If your parents are married (to each other), each of them can give up to $11,000 to the same person each year without making a taxable gift. And, since they can give each other a limitless amount of money without paying tax, they have double gifting capacity.
In fact, they don't have to play gifting games between each other if they're married. If your mom or dad makes a gift to a third party, the gift can be automatically considered made half by your mom and half by your dad. This is known as gift splitting.
If a gift is split, a gift tax return must be filed to show that both spouses agreed to the gift; and a return must be filed even if half of the split gift is less than $11,000.
Generally, a gift tax return must be filed on IRS Form 709 if:
- more than $11,000 (the annual exclusion) is given during the year to someone other than a spouse;
- your parents are splitting a gift;
- a gift was given to someone other than a spouse and it can't be "possessed, enjoyed or received income from" until sometime in the future (this covers some trusts); or
- a gift was given to someone other than a spouse and it can't be "possessed, enjoyed or received income from" until sometime in the future (this covers some trusts); or
If the only reason your parents must file a gift tax return is because they are splitting a gift, they may use IRS Form 709-A, which is a shorter and simpler version of Form 709.
It's best to keep gifts during any calendar year under the tax-free limit. If your parents go over this amount, they either have to pay some money to the Feds or use up some of their unified credit. That's why gifting takes discipline and an early start; it works best when money is moved gradually to family members over an extended period of time.
For example: In 2003, your dad gives you a cash gift of $8,000. He also pays the $11,000 college tuition of a friend's granddaughter Goneril, who's gone back to school after a bad divorce. He gives your 25-year-old daughter Regan $25,000; he also gives your 27-year-old daughter Cordelia $25,000.
Your dad has never given taxable gifts before, so he's doing a lot of paperwork for the first time. He probably applies the exceptions to the gift tax and the unified credit as follows:
- under the educational exclusion, the gift of tuition to Goneril is not taxable at all;
- under the annual exclusion, the entire $8,000 gift to you, the first $11,000 of his gift to Regan and the first $11,000 of his gift to Cordelia are not taxable;
- he's left with taxable gifts of $28,000 ($14,000 over the annual limit on his gift to Regan plus $14,000 over the annual limit to Cordelia); at the standard gift tax of 20 percent, he owes the Feds $5,600;
- after all those gifts, he doesn't want to pay the IRS another $5,600, so he subtracts the $5,600 from his unified credit for 2003. The amount of unified credit that he can use against the gift or estate taxes in later years is reduced by $5,600
- you dad would have to file a Form 709. Now, if your dad and mom were making these gifts, the gifts could be split -- reducing the amount they'd have to subtract from their unified credit.
