Lend a Hand or Give a Gift? - Part Two


In the first installment of this two part series, "Lend a Hand or Give a Gift? - Part One," I discussed some of the pitfalls of lending money to friends and family and ways to mitigate some of those risks and preserve your relationship with the borrower. 

So what about gifting money (or other assets)? 

To reiterate from my previous article, gifts can be a blessing to both giver and receiver. In 2014, the government allows each person to give up to $14,000 a year to as many individuals as they like, exempt from gift-taxes - it's called the annual exclusion.  For married couples, you can double this amount to $28,000.  Any gift above this amount counts against your exclusion from gift or estate tax, which this year is $5.34 million. This allows you to pass assets to children or other relatives without taxes – these can include securities that have potential to grow in value.

Here are a few less thought about rules that you should be aware of.

When does a loan become a gift?

It is important to remember that a loan becomes a gift if it is forgiven.  Therefore, the portion of a loan above the $14,000 annual exclusion is theoretically taxable. If there is a promissory note drawn up, you can have up to the annual gift exclusion repay the debt, but keep a record of it and inform a tax professional of your intention to do so.  This will be important if you are asked about your gifting throughout the year.

Can I gift more in a 529 Plan?

Yes, you can make a contribution of between $14,000 and $70,000 to a 529 savings plan for a beneficiary if you elect to treat the contribution as made over a five calendar-year period for gift-tax purposes -- often referred to as five-year gifting election. This allows you to utilize as much as $70,000 in annual exclusions to shelter a larger contribution.

As a result, the money (and the growth of your account) gets out of your estate faster than if you made contributions each year.  And the best news is that the asset leaves your estate, but doesn't leave your control since you can own the 529 plan and make the recipient the beneficiary.  This is not the case for regular gifts under the annual exclusion amount.

What is not considered a gift?

There are three transfers that are not considered gifts. 

1) Gifts/transfers between spouses

Gifts between spouses who are U.S. citizens are not considered gifts and are exempt from federal gift-tax. However there are special rules that may apply when making gifts to spouses who are not U.S. citizens.

2) Education payments made directly to a qualified institution

Tuition payments made directly to a qualified educational institution on behalf of a student do not count against the annual exclusion amount.  This means you can pay someone’s college tuition and also gift them an additional $14,000 in the same year without incurring any federal gift-tax. 

The following rules must be strictly adhered to in order for payments for educational expenses to be non-taxable gifts:

  • The payment must be made directly to the institution providing the education, not to the individual receiving the education.

  • The payment must be made for tuition only.

3) Payments for medical expenses paid directly to the service provider

Payments that qualify for the medical exclusion are payments made directly to an institution that provides medical care to an individual or to a company that provides medical insurance to an individual, and expenses for medical care are the same as those deductible for income tax purposes. This means you can pay for your someone’s emergency surgery in the amount of $20,000 and also give them an additional $14,000 in the same year without incurring any federal gift-tax.

The important part is that payment must be made directly to the institution providing the medical care or to the company providing the medical insurance, not to the individual receiving the medical care or insurance benefit; otherwise the payment will be considered a taxable gift if it exceeds $14,000.

Cris Cabanillas is a partner at Monterey Private Wealth located in Monterey, CA. He is an Accredited Investment Fiduciary and CERTIFIED FINANCIAL PLANNER practitioner.  As fee-only investment advisors, Monterey Private Wealth serves the communities of Monterey, Carmel, Big Sur, Salinas, Santa, Cruz, Gilroy, San Jose, and surrounding areas.