The Four Levels of Gifting
Over the past several months we’ve experienced both legislative and financial market turmoil. On the legislative front after many late-night negotiations the House narrowly passed the “One Big Beautiful Bill” making much of the 2017 Tax Cut and Jobs Act tax legislation permanent.
Like many, I closely monitored the portion of the bill dealing with the current high estate tax exemption – wondering will it sunset as planned or will there be a provision to end “death taxes” as Republican’s have consistently proposed for the past 20-years. While we are still waiting for the Senate revisions and vote, it appears that we might have some estate tax planning certainty.
At the same time the on again off again proposed tariffs has put the financial markets in a tizzy. Financial advisors know that market downturns can be transformed from periods of panic to financial planning opportunities. Financial advisors often see market downturns as opportunities to help investors to convert pre-tax qualified money to a Roth IRA or for investors to harvest securities that have tax losses.
Another often-overlooked planning opportunity during down markets is to make gifts of assets with depressed value. The hoped for result is the assets will recover providing gift tax leverage. While transfers of marketable securities might seem like the most logical assets to gift, life insurance may provide more after-tax leverage. Following is a brief discussion on the different levels of gift transfers:
Level #1: Transfers Not Subject to Tax
There are several transfers that fall outside federal gift taxation. You can make the following transfers without facing a gift tax:
- Anything given to a U.S. citizen spouse as long as the transfer qualifies under the marital deduction
- Donations to qualified charitable organizations made in a manner qualifying for the charitable deduction
- Political donations
- Tuition payments made directly to an educational institution for someone else
- Funds paid directly to a medical institution or health insurance provider on behalf of another
Level #2: Annual Exclusion Gifts
Under the annual exclusion an individual can make so called “present interest” gifts of up to $19,000 to an unlimited number of recipients per year without needing to file or report the gifted amount. A couple can give up to $38,000 per beneficiary per year. Consequently, a significant amount can be given away over a number of years where there are multiple beneficiaries.
Level #3: Gifts Sheltered by Exemption
In addition to annual exclusion gifts, an individual can make lifetime gifts with cumulative total up to the exemption amount without paying tax but will need to file a gift tax return. For 2025 the exemption is $13.99 million. However, the current exemption is scheduled to expire on January 1, 2026 decreasing to $5 million per person (indexed) and may expire sooner if President Biden is able to achieve his campaign proposal. Fortunately, gifts today that are greater than the exemption amount available at death are grandfathered. Thus, wealth individuals should give serious consideration to making large exemption gifts.
Level #4: Gifts Subject to Tax
Once an individual’s cumulative lifetime gifts exceed the exemption amount federal gift tax will be due. Gift and estate tax rates are the same, but gifts will often result in heirs receiving a larger inheritance because a gift transfer:
- Removes both the appreciation and income from being subject to federal and state estate tax
- Eliminates property from being subject to state death tax, where applicable, without subjecting the property to a state level gift tax
- Is subject to less tax because property used to pay the tax is not subject to gift tax, while property used to pay estate tax is subject to estate tax
When the Market Gives You Lemons . . .
During bouts of market volatility, many investors feel the urge to act in ways that can hurt them financially. Taking this time to make gifts may be a path to turn market challenges into strategic opportunities.
