In estate planning, gifting can be a powerful mechanism for removing assets from an otherwise taxable estate. Currently, each person can transfer up to $1,000,000 during life without incurring a federal gift tax and up to $2,000,000 at death (reduced by the amount of taxable gifts during life) without incurring a federal estate tax, by virtue of the federal unified credits. In addition, most gifts of up to $12,000 per person, per year, can be made without causing gift tax liability and without requiring the filing of a gift tax return. Such gifts can be made to an unlimited number of recipients, as reflected in the following story.
Arthur and Emily were in their mid-60's and had three children, all of whom were married, and six grandchildren ranging in age from 8 to 20. Their aggregate net worth exceeded $4,000,000; this value included a business worth approximately one million dollars and qualified retirement plans with an aggregate value of approximately $600,000. They lived comfortable lifestyles and had income that was more than sufficient for their needs.
They had followed their estate planning attorney's advice regarding the utilization of trusts in order to minimize estate tax liability, and had also executed wills, durable powers of attorney, health care proxies and living will equivalents. Despite this, they recognized that upon both of their deaths, the estate of the second-to-die would incur estate tax liability based upon the status of the law.
Their attorney had already advised them to establish a gifting program under which each of them would make annual gifts of $12,000 to each of their children, their children's spouses, and their grandchildren. By making annual gifts of $12,000 to three children, their spouses, and six grandchildren, Arthur and Emily could each gift $144,000 per year, for an aggregate total of $288,000 per year. Such gifts could be made without adverse tax consequences, effectively reducing their taxable estates and their estate tax liability. Each new year would bring a new opportunity to gift such limited amounts to each donee.
Arthur and Emily felt confident that they would continue to have assets well in excess of their needs during their retirement years, since they had substantial investment income. Their combined net worth was actually growing. They also liked the fact that these lifetime gifts to their children and grandchildren could pass without estate tax or gift tax consequences. They wanted to make larger gifts, but were concerned that such gifts would use up some of their federal unified credit, leaving less of the unified credit available when each of them eventually died.
Two of their grandchildren were enrolled in private colleges and the cost was significant. Their estate planning attorney told them about another type of gift. In addition to the gift tax annual exclusion, a special provision in the federal gift tax law allows anyone to make "qualified transfers" to pay certain educational expenses for another person without the payments being considered to be taxable gifts. This provision allows a grandparent (or other person) to pay the tuition of a grandchild, while continuing to make other gifts of up to $12,000 per year to or for the benefit of that grandchild.
The mechanics for payment of the "tuition gift" must be followed carefully. In particular, the tuition gift must be paid on behalf of the student directly by the donor to the qualifying educational institution, and cannot be given to the student or the student's parent.
A qualifying education institution is one that normally maintains a regular faculty and curriculum and has a regularly enrolled body of students in attendance at the place where its educational activities occur.
The special provision does not cover room, board, books, supplies or other expenses that are not direct tuition costs; it applies to direct tuition costs only.
Such gifts can actually benefit three generations. The grandchild whose tuition is paid receives the benefit of an education. The parents of the grandchild do not have to pay the tuition and thus can preserve their own assets for other needs (including the needs of their other children). And, finally, the grandparents have an additional ability to make cash gifts to their grandchildren, over and above usual $12,000 per donee annual limitation. In many cases, this allows grandparents to reduce the eventual estate tax liability upon their deaths.
As with all estate tax planning techniques, tuition gifts may or may not be appropriate in a given situation. It is wise to seek legal counsel in order to determine whether such gifts should be made and to assure that the mechanics of the gifting comply with Internal Revenue Service requirements.
Attorney Marvin S. Silver practices in the areas of estate planning and administration, tax planning, and business law, at the law firm of Seder & Chandler, LLP, which is located at 339 Main Street, Worcester, MA 01608; and 8 Lyman Street, Suite 206, Westborough, MA 01581. He is a Fellow of the American College of Trust and Estate Counsel and is listed in The Best Lawyers in America in the category of "Trusts and Estates". He can be reached at (508) 757-7721 and Mssilver@sederlaw.com.
