As 2015 comes to a close, we remind you to consider making gifts to minimize your potential tax liability and to maximize your use of available exemptions in order to reduce your ultimate estate tax liability. As you may recall, the federal estate tax rate is 40% on the amount that your estate exceeds your available exemption amount, so it is worth taking steps to reduce your potential liability. In 2015, the estate tax and gift tax exemption amounts are $5,430,000. In addition, estates valued at more than $1 million will be subject to Massachusetts estate tax if the decedent was a resident of Massachusetts at his or her death. Massachusetts does not have a separate gift tax and therefore, lifetime gifts will reduce future Massachusetts estate tax liability.
In computing federal taxable gifts for any year, the first $14,000 of gifts (the “annual exclusion”) made to each individual donee is excluded as long as the gift is made directly to the donee or to a trust meeting certain technical requirements. These gifts must be completed (meaning checks must have cleared) by the end of the calendar year in order to qualify for that year’s annual exclusion. A married couple can exclude up to $28,000 of gifts to each donee in any year, regardless of which spouse actually makes the gift, by electing to “split” gifts on their gift tax returns. There is no limit on the number of donees for whom such annual exclusions can be claimed, nor is there any requirement that the donee be related to the donor. The annual exclusion can be a powerful tool allowing for transfers over time of substantial value at no gift tax consequence to the donor. Such annual exclusion gifts can be made directly to beneficiaries each year. For many donors who prefer the gifts to accumulate over time under the management of a trustee, however, gifts to certain kinds of qualified trusts may be a better option. If you have not already made annual exclusion gifts in 2015, now would be a good time to consider whether to do so.
Another way to reduce your estate and benefit your family is to make direct payments for tuition and medical expenses on their behalf. There is an unlimited gift tax exemption for certain payments made directly to the provider for educational expenses or medical expenses. Note, in order to qualify for this exception, educational expenses must be limited to tuition only and must be paid directly to the education provider. Similarly, medical expenses must be for certain “qualified” medical expenditures that are not reimbursed by the recipient’s medical insurance. Again, such medical expense payments must be made directly to the provider. If you take advantage of the exclusion to pay educational and medical expenses on a person’s behalf, you may still utilize the annual exclusion in favor of the same person. This allows you to give substantially larger annual gifts, free of gift tax, to individuals who also have educational or medical needs.
Lifetime gifts to charity also result in tax savings for the donor. A charitable gift made during life is not only removed from your estate for tax purposes, but it also qualifies for an immediate federal income tax deduction, subject to certain limitations, at your marginal income tax rate. You get an immediate tax break in the year of the gift and will get a second break at death because the property given away will no longer be part of your estate. It is especially tax-effective to give appreciated marketable securities to a public charity, as you will not realize capital gains on the transfer to the charity, but you must comply with certain technical rules. If you would like to give assets other than cash or marketable securities, please contact your Goodwin Procter attorney to discuss the tax implications of such a gift.
Gifts to individuals in excess of the annual exclusion also can be useful in reducing future estate tax liability. Gifts which do not exceed your remaining federal exemption amount will not result in a current federal or Massachusetts gift tax liability. Even if you previously gave away the maximum amount allowed under prior law, you may still have additional exemption to use toward lifetime gifts due to the annual adjustments for inflation. Gifts in excess of your remaining federal exemption will generate a current federal gift tax liability, but subject to certain limitations, the payment of that tax also reduces the size of your estate for estate tax purposes, potentially resulting in additional tax savings. Gifts may be made outright or to trusts for the benefit of your children and more remote descendants.
If you are interested in making gifts to your children or grandchildren (or to qualifying trusts for their benefit) and/or charitable gifts, you should do so as soon as possible and must do so by the end of 2015 if you intend to take advantage of the annual exclusion from gift tax for 2015. We are happy to assist you in determining the best method for structuring such gifts.