Avoid Gifting Mistakes in Financial Planning

Financial Planning and Gifting - Boomfish Wealth Group, LLCI’ve talked before about how estate tax rules will be changing in the coming year. Currently, a taxpayer can gift $5.2 million to others tax-free. For couples, that number is $10.4 million. Gifts above those amounts are taxed at a rate of 35%.

This rule is set to expire in January of 2013, making way for a much less generous rule of $1 million per person, with a tax rate of 55% for amounts above that.

It’s possible that Congress will address the issue and make changes before the expiration date, but few experts expect this to happen; it is more likely that the gift-tax exemption will be kept as is, to expire in January.

Because of the upcoming change, many are scrambling to take advantage of the 2012 rule and tax break. In their haste, however, these people could be making the kind of mistakes that they’ll later regret.

A recent Wall Street Journal article outlines several of these common mistakes as well as how to avoid them:

Going to Extremes: Some are letting fear drive their financial and estate planning, which is never a good idea. Giving big gifts may not be the right path if it would jeopardizes your family’s standard of living. A couple worth $15 million that gives away $10 million to their children to avoid the tax could be giving away too much, to solve a tax problem that might not occur. After all, it’s still possible that Congress changes the estate tax and gift-tax exemption.

Selling High-Value Real Estate: You may not want to gift your house if it’s worth several times what you paid for it. If the home that you bought for $200,000 is now worth $1 million, the recipient of the gift will owe capital gains taxes on the $800,000 difference. If the intended recipient inherits it in your estate, however, they would not owe these taxes. The kind of property that you should gift is property that hasn’t appreciated much or property that your family will definitely keep.

Depending on your specific situation, you may want to gift property that has appreciated greatly to offset the possible increase in estate taxes. Federal estate tax is set to rise to 55%, while the capital gains tax is still set to 20%.

Creating mirror trusts: Couples concerned about needing assets in the future, especially after the death of their spouse, often make mistakes when setting up trusts. Setting up “mirror trusts,” or trusts that resemble each other extremely closely, could be disqualified as gifts by the IRS. The IRS could decide that you really set up a trust for yourselves. To avoid this, couples should consider setting up trusts with dissimilar terms.

Gifting Family Businesses: Take care when gifting a company, whether property, partnership, or limited liability, that has debt. If you gift a company whose loans are higher than what you’ve invested, you would have to report the difference in amounts as a gain. You would have to pay taxes on the difference, which may mitigate what you gain by gifting the company.

When taking advantage of 2012’s estate tax rules and tax breaks, be sure to tread carefully and consult with a financial planner to avoid creating regrets with your wealth.

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