A friend once called me with concern over a gift his parents made to his sister. His parents had given her $150,000 worth of stock to purchase a home. She then sold the stock and bought the home. The parents didn’t see anything wrong with this. After all, it is their money and they should be able to do with it what they please, Right? What they did not understand was that they created two potential tax issues. First, when the daughter sold the stock, she created a ‘realized’ gain and owes substantial capital gains taxes. Second, the gift created potential gift taxes that would be owed by the parents. To avoid this the parents must file a gift tax return and use a portion of their Lifetime Exemption Amount. The point is that care needs to be taken when making gifts to family members. It is possible to make ‘gifts’ even when you did not intend to do so. Let’s look at some typical examples:
· You add your child’s name to your savings or checking account. This is considered a gift the moment your child makes a withdrawal. If the withdrawal exceeds the allowed Annual Gift Tax Exclusion ($13,000 for 2010) it will be considered a taxable gift.
· You want to be certain that a particular person receives a specific piece of real estate at your death. Your solution is to add their name to the deed. When the deed is executed, you have just made a gift for gift tax purposes.
· You decide to buy a security such as a stock, bond or limited partnership interest and do so in both your name and someone else’s name. As soon as you designate the joint owner, a gift is deemed to have occurred.
Under each of the preceding examples where you created a joint ownership arrangement, at your death the entire value of the property is included in your estate. This is because you provided all of the financial consideration.
· If you guarantee a loan for someone else, you could end up being deemed to have made a gift for gift tax purposes. Assume that your child wants to start a business with start up costs of $95,000. Your child has no money or collateral with which to obtain a loan from the bank. You agree to guarantee the loan at the bank. By doing so, you have created a potential gift. The Internal Revenue Service has indicated that no gift is imputed unless there is an actual default on the loan that requires you to satisfy the debt for the benefit of your child. If this occurs, you are deemed to have made a gift for the full-unpaid balance of the loan less any repayments to you by your child.
Providing loan guarantees can also create negative estate tax results. If you’re involved in this type of situation, proceed with caution and get competent legal advice.
Portions of this article were excerpted (or modified) from Mr. Welch’s book, J.K. Lasser’s New Rules for Estate and Tax Planning.