Gifting Taxes and Trust Estate Planning

By: Elliott Stapleton

The 2020 lifetime exemption is $11.58 million per person for estate and gift tax. If you are married, that means each spouse has an $11.58 million exemption. This lifetime exemption applies to any gifts made beyond the annual exclusion amount or the amount transferred at the time of death.

For 2020, gifts of less than $15,000 per year do not require a filing of a gift tax return unless the gift is a future interest.

What is a gift?

A gift is a transfer, without consideration, that you cannot take back. Once transferred, the asset does not come back to you. You did not receive anything in return for the transfer.

There are ways to make gifts while maintaining control over the use of funds through a Trust. There is a common misunderstanding between the annual gift exclusion and Medicaid Asset Protection Planning; I’ve created an article that addresses the distinction between these two concepts.

The benefit of a gift is that you get to see how the beneficiary uses the funds and remove the assets from your taxable estate. The drawbacks of making a gift are that the funds are no longer in your control and now in the hands of the beneficiary (and their creditors). There are also tax drawbacks to making a gift rather than transferring at death.

There are qualified transfers which are not gifts, such as payment for tuition or medical care of the beneficiary. This amount is excluded from the total amount of gifts.

Payment of qualified education expenses (to the school directly – this may not include pre-school or daycare) and medical expenses (including medical insurance) can be useful planning tools. In this case, it is as if there was not a “gift” for purposes of gift taxes; thus, no gift tax return is required.

Before making a gift or creating a Trust, it is best to work with an experienced Estate Attorney. This includes evaluating the gift in the context of your Estate Plan, asset protection, and probate avoidance strategies.

Here are some of the Gifting Options, including Trust Estate Planning:

  1. Gift – Outright
  2. Uniform Transfer to Minor Act
  3. 529 Plans
  4. 2503(c) Trusts
  5. Crummey Trusts
  6. Health and Education Exclusion Trust (“HEET”)
  7. Dynasty Trust

Gift Outright

This is not advisable if the beneficiary is under age 18 (or even age 25). This type of gift means the asset is completely transferred and owned by the beneficiary. This is not a great idea for a large gift as you lose complete control of the assets and leave the asset completely exposed to the creditors of the recipient.

Uniform Transfer to Minor Act

This type of transfer is irrevocable and can hold a variety of different assets. The custodian will pay an amount the custodian considers advisable. The court, upon petition, may order payments if necessary, for the use or benefit of the minor (this includes the child upon reach age 14). This account can be delivered upon reaching age 21 – which can be extended to age 25 by providing a letter of instruction to the institution.

The donor may serve as custodian, but that would include the funds in the custodian’s estate for taxation. The beneficiary is entitled to all records, and the custodian will deliver all records on these funds. The income is reported by the minor unless funds are used for support, in which case they would be reported by the parent of the minor.

Transfers do apply to the annual exclusion and will be valued at 20% for purposes of financial aid. This type of planning device does not provide any creditor protection and is accessible by the minor’s creditors.

529 Plans

This is an investment account that can be distributed to an eligible educational institution for qualified education expenses. IRC 529. This includes tuition, fees, books, supplies, room, and board. You can now use funds for non-college tuition, up to $10,000 per year.

In addition, funds can be distributed to repay qualified education loans; but also capped at $10,000. This can also be used to pay for a sibling of a beneficiary. This is a completed gift. The donor can front load a 529 plan for five years. Non-qualified distributions are subject to a 10% penalty.

New beneficiaries can be named so long as they are a member of the family. It is possible this designation could be interpreted as a gift depending on the individual. There is no right to what information a beneficiary may have to the funds.

2503(c) Trusts

No part of a transfer to a person under 21 is a gift of future property if all of the income and principal go to the beneficiary. IRC 2503(c). There can be provisions which convert into a traditional trust if funds are not withdrawn at age 21 within 30 days. This limits compliance costs but creates the risk of termination at age 25.

Transfers prior to 21 do not require a Crummy Power. Transfers after will require a Crummy Power. Gifts prior to age 21 will be GST exempt, but not after age 21.

This Trust may contain spendthrift provisions, but that could be lost at age 21.

Crummey Trusts

This allows transfers to a Trust during the life of the minor, which the Trust cannot immediately access. To maintain a Crummey trust status, a beneficiary must have the ability to demand a portion of the funds prior to contributing. This includes a waiver by a guardian of the minor.

There cannot be a prearranged agreement not to exercise powers. The beneficiary must have actual notice and a 30-day period to withdrawal the contribution. This typically requires an irrevocable trust, annual gift tax return if the amount is in excess of the annual gift tax exclusion, the donor may not be the trustee of the Trust, and there is a duty to keep the beneficiary informed.

HEETrust

The Trust would only provide for payments to the qualifying tuition or health care amounts. There will always need to be a non-skip person in the Trust (which could include a charity for 10%) to ensure no generation skip tax under IRC 2055.

Donors cannot be trustees, change the terms, or change the trustee. It can be set up as a Grantor Trust, making the income tax paid by the donor. Assets are available to the student for financial aid.

Dynasty Trust

This type of Trust will continue for future generations using standards set by the donor. It can have a Crummy Power but is not typically used since the amounts are typically larger than the annual exclusion amount.

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