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Lifetime Gifts: A Wonderful Idea in the Right Circumstances

Gifting assets during life rather than retaining assets for transfer at death can be advantageous in the right situation.  But lifetime gifts can also be a bad idea in the wrong situation.

The most common gifts are “annual exclusion” gifts.  Annual exclusion gifts are gifts that have no consequence for federal gift tax purposes.

Under federal gift tax law, gifts made to an individual in an amount or amounts that collectively do not exceed $14,000 in value (for gifts made in 2013) cause no federal gift tax consequence whatsoever.  Such annual exclusion gifts may be made by a single donor to an unlimited number of individuals so long as the annual exclusion gifts to any one individual for the calendar year do not exceed the annual exclusion amount.

Many are under the impression that a donor is not permitted to make gifts in excess of the annual exclusion.  This is not true.

A gift in excess of the annual exclusion amount is a “taxable gift” for federal gift tax purposes.  As an example, if a parent makes a gift of $30,000 to a child in 2013, the first $14,000 of the gift is the annual exclusion gift for 2013, and the remaining $17,000 of the gift is a “taxable gift”.

A taxable gift is not necessarily a problem because each United States citizen may make taxable gifts during lifetime totaling up to $5,250,000 without incurring any liability for federal gift tax.  Taxable gifts do require the filing of a gift tax return by the donor so the IRS can maintain a record of the donor’s total lifetime taxable gifts, and so that the IRS has the opportunity to view the valuation of the assets gifted.  Each dollar of such lifetime taxable gifts reduces the donor’s remaining exemption against the federal estate tax at death by the same one dollar.

So in 2014, a parent could gift $5,264,000 (assuming no prior taxable gifts had been by the parent) without causing any gift tax liability to the parent and without causing any tax liability to the child.  The parent would have no remaining exemption against the federal estate tax available at the parent’s death. In this way, the lifetime exemption for federal taxable gifts and the lifetime exemption for the federal estate tax are “unified”, meaning that it can be used during life or at death, or a combination of both.

The ability to make large gifts can be quite useful to a donor in minimizing the federal estate tax payable at the donor’s death by making lifetime gifts that shift to children and/or grandchildren future appreciation in value of the gifted assets.  Leveraging techniques can also enhance the amount of value shifted to children and grandchildren.  Generation skipping gifts can also be made to avoid taxation in one or more future generations.

Substantial lifetime gifts can also be useful to permit children and grandchildren to enjoy assets during the life of the donor rather than only after the donor’s death.

However, substantial gifting should be undertaken only after consultation by the potential donor with the potential donor’s tax advisor and attorney.  This is true because there are consequences of gifting that must be managed and taken into account other than gift and estate tax planning.  These other consequences include selecting assets to gift that do not cause adverse income tax consequences, consequences to the donor’s ability to continue to finance retirement and the long-term care expenses, as well as maintain eligibility for long-term care, and consequences to the potential donee that might need to be avoided by, for example, making the gift in trust for the benefit of the donee, rather than outright to the donee.  Lifetime gifts require planning and proper execution.