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You have budgeted, saved and invested throughout your career. Now, you hope you have saved enough money to last through your retirement years. You have a will, which details who gets any assets that remain after your passing. Do you want to wait until your passing to leave an inheritance for your family? Or should you gift at least some of your money now?
You’re Gonna Miss This
Remember what you were doing raising your young family? Let me paraphrase. Those were hectic times. From baby bottles to diapers; then came school and sports activities; the teenage years and searching for colleges. Those were great times, as Trace Adkins reflects in You’re Gonna Miss This.
Let me set the stage a bit. You are in your late 30’s, 40’s and 50’s. Providing well for your family and giving them a childhood with really good memories. At the same time, you are living in the present and you are also focused on saving for their college, weddings and your retirement. Would it have been nice then to have had a few extra bucks? Would it have reduced some of the money pressures?
Now look at your children. Do they look like you did? Would it be better to give them their inheritance now and take some of the money pressures off? Some of you may answer: “They will enjoy it more if they earn it and go through the tough times like I did”. That’s one point of view. However, if you raised good, responsible kids, they’re working hard. That won’t change and they might just worry a little less and laugh a little more.
The Tax Laws: Gifts and Inheritance
As of this writing you can give $5.49 million ($10.98 million for married couples) during your life time without being required to pay federal gift tax. Each state is different and some can be costly, so before planning, take a look at your state laws for estate tax, inheritance tax and gift tax. This federal exemption also includes the value of what is left through your will at death-the lifetime exemption.
The lifetime exemption does not consider the $14,000 ($28,000 for married couples) annual gift tax exclusion. You can give this amount to as many people as you want without triggering a federal tax. You are required to file IRS Form 709 after giving more than the amount of the annual gift tax exclusion to one person.
Another special rule exists for 529 college savings plans. You can gift a lump sum in any one year up to $70,000 individually and $140,000 for joint gifts. You must make a special election which treats the gift as being made evenly over a 5 year period ($14,000 times 5 years).
Many people point to the gift tax as a reason not to give. However, the federal estate tax exemption has increased from $650,000 in 2001 to $5.49 million in 2017. Therefore, 99.8% of estates owe no tax. Only 2 out of every 1,000 people who die owe an estate tax.
Tax Down Side of Gifting Now, Compared to Inheritance Later
You may have appreciated stock or real estate (assets other than cash) you would like your family members to have. If those assets pass to a person of your choosing at your death, their tax basis in the property is the fair value at the date of your death. Therefore, if they sell the property their capital gain or loss will be calculated comparing the proceeds received on the sale to their tax basis, not your basis.
On the other hand, if you gift the same property during your lifetime, the basis you have in the property at that time of the gift will be carried over to the people you gifted to.
Therefore, the person who received an inheritance of appreciated property from you has a higher tax basis in the property than the same person who received a gift from you of the same property at the same date. If the property continued to appreciate in value, the recipient of the inheritance would have less tax to pay on the date of sale than the recipient of the gift since their gain on sale is less.
For example, let’s assume you have appreciated stock.
- Purchased by you on 1/1/2012 for $10,000.
- Sold by your son on 1/1/2017 for $30,000.
- Gifted by you to your son on 1/1/2014 when the market value was $20,000. Gift tax basis is your basis of $10,000 and therefore your son’s gain is $20,000.
- Inherited by your son from you on 1/1/2014 when the market value was $20,000. Estate tax basis is $20,000 and therefore your son’s gain is $10,000.
As you can see, in this example, gifting or leaving an inheritance of appreciated property has different tax consequences.
Can I Afford to Give Money Away?
If you have done detailed retirement planning, you have the numbers. You have determined how much retirement income will be coming in and how best to use your savings to generate additional retirement income. You have estimated your costs, including day to day living expenses, health care, long term care, travel and any other required and discretionary costs. Inflation has been incorporated in the plan and you have wisely used other conservative assumptions.
If you have not done detailed retirement planning, this is the time to begin. There will be some future posts on alternative approaches to planning, but this checklist will give you a good start.
If the numbers indicate you can afford to give money away, consider it. If it is not clear, or the numbers indicate you should not give money away, don’t do it. The worst thing that can happen is your money runs out and your children may need to support you for the rest of your life.
Gift Now or Inheritance Later. It Can be Both a Financial and an Emotional Decision.
We have done the financial analysis. My wife and I have reviewed our financial forecasts and determined how much money we will need to last us through our retirement years. We have used conservative assumptions, stress tested all the assumptions in our plan and reviewed the current tax laws. The exercise tells us we can make gifts to our children and grandchildren now. However, we hope to live together in retirement for the next 30 plus years. That is a long time, and we are still not quite sure our plans will work as intended.
Then comes the emotional analysis.
“My wish, for you, is that this life becomes all that you want it to,
Your dreams stay big, your worries stay small…”
These lyrics from the song My Wish by Rascal Flatts lays out our emotional analysis perfectly. What more can a parent want than to have their child’s life be all they want it to be? Can gifting to your children during your lifetime help them keep their worries small? For us, the economic analysis along with the emotional analysis tells us gifting to our family during our lifetime makes sense.