Supporting our families is an important value, but sometimes, doing so fiscally can have tax implications. The IRS imposes an annual exclusion limit for making gifts to individuals. Going above this exclusion will potentially create gift tax consequences and count against your lifetime exemption. We’ll walk you through creative solutions for giving to the next generation so you can keep supporting your family and not create a huge tax burden in doing so.
Annual Gift Exclusion
On an annual basis, for 2021 an individual can give away up to $15,000 directly to another individual free of gift tax consequences. If you are married and filing jointly, you can give away up to $30,000 to any individual as a gift deemed from you and your spouse. In this instance, an individual is a living person.
Many people think you can only give to family members but this limit is for gifting to anyone, it could be a friend, coworker, or someone from church. This annual gift exclusion is per person (i.e. the gift giver) and per recipient of the gift. For example, if you are a married couple and want to gift the maximum annual exclusion limit to a married son and daughter-in-law, you could gift a total of $60,000 to them free of any gift taxes. $15,000 from each of you to each of them.
The IRS classifies those gifts to individuals with some guidelines: To qualify as a gift eligible for the annual exclusion, they must be “of present interest” – i.e. not for a later use, not with conditions or strings attached, etc. It must be an outright gift.
Many of us want to support specific needs of the next generation, such as paying for education, helping with medical costs, or assisting with expensive needs. Those dollars can be rapidly used up to pay for expensive costs such as helping with the down payment on a house or major mechanical needs at a home of a loved one.
If you gift an amount over the annual exclusion limit in a calendar year, it will begin to use up your lifetime gift and estate tax exemption. As of the writing of this article, the gift and estate tax exemption is a combined $11,700,000 per person. There is talk in Congress of dramatically decreasing this exemption amount by potentially half. If an individual were to go over this gift or estate tax exemption amount, the gift will be deemed taxable at a maximum federal rate of 40 percent on dollars gifted above the exemption limit.
However, there are two qualified ways to avoid the tax implications of gifting above the annual exclusion amount while also not counting against your gift or estate tax exemption.
One way to still support family or loved ones in important ways, often having a life-changing affect, is to pay for educational costs.
The IRS allows any payment directly made to an educational institution to be a “qualified tuition exemption” from the annual gift exclusion. This means private schools, colleges, and technical school tuition costs can all be contributed to directly. You cannot write a check to an individual family member or friend to do so, however, you can pay the amount directly to the institution with no affect on your annual gift exclusion or lifetime exemption. Note that this applies to tuition only, not to the additional expenses often paired with pursuing education such as books, additional experience fees, or room and board.
Qualified Medical Expenses
Another method to continue to support important needs of loved ones is by helping defray medical costs.
The costs can vary from all types of providers: dental, orthodontia, mental health, medical specialties, and rehabilitation needs would all qualify.
Similar to the tuition, all payments must be made directly to the medical provider or organization, and not to the individual you are helping to foot the bill.
Large or Small
These techniques don’t have to be used only for major dollar amounts, either. Even small needs can be met with this direct-payment method without affecting your annual exclusion.
Supporting our families is such a strong value for many of us. Knowing how to keep that help going in key ways while still minimizing the taxable effect can make a difference. If you have questions on how you can maximize your legacy, we’re always happy to start a conversation. Get in touch with one of our team members, or call us at 855-855-5455, or you can email [email protected].