The most stubborn myths usually start with a kernel of truth, which is then taken out of context.
For instance, this is true: “You can give up to $15,000 away each year, tax-free”.
But from that true statement, a number of untrue conclusions have risen up.
To start with, this is a true fact only if you’re looking at the federal estate and gift tax. Gifts of up to $15,000 each year don’t count. By the way, this is not $15,000 total from one person; it’s $15,000 from any one person to any one other person. Since I have three daughters, I can give each of them $15,000 this year, for a total of $45,000. And since I’m married, my wife and I can each give that amount, so the total would be $90,000. If we want to include sons-in-law… well, you get the picture.
(In the unlikely event any of my daughters are reading this, don’t get excited. It’s just a hypothetical. Ya ain’t gettin’ nothin’).
This is an estate and gift tax rule. This isn’t an income tax rule. Gifts are not income for tax purposes. But there would be taxable income to me if I pulled that money out of an IRA or 401(k) account. Or if I sold an asset that had gone up in value to make the gift, in which case I would have to pay capital gains tax. So while there might not be taxes as a result of the gift itself, there might be taxes because of what I did to free up the money to make the gift.
But the biggest misconception from the underlying true statement is that, for the vast majority of people, there wouldn’t be any estate or gift tax, even if they gave much more than that. All that happens when you go over whatever multiples of $15,000 you have available, is that it whittles out a little piece of your lifetime estate and gift tax exclusion.
You see, there is this annual $15,000 amount. Then there is the lifetime exclusion. Anything over $15,000 counts against the lifetime exclusion from estate and gift tax.
The lifetime exclusion amount is presently $11.8 million. That’s easily doubled for a married couple, so we’re talking almost $24 million for a couple. Unless you’re somewhere in that stratosphere, you aren’t going to pay estate or gift tax anyway.
Incidentally, less than 0.1% of the people who die each year have more than the lifetime exclusion amount. Based on that, I will assume that most of my Senior Voice readers are likewise safely below the exclusion.
So, let’s say I am a single guy, and I give one daughter a gift of $16,000 this year. That is $1,000 over the annual exclusion amount. That means that I only have $11,799,000 left in my lifetime exclusion amount. Heavens, what shall I do?
Misunderstanding this isn’t a harmless mistake; I see people regularly who are way under the lifetime exclusion amount, but are giving money away because they think it’s the only way to avoid a heavy tax on the inheritance. That can leave them cash-strapped in their retirement years, without actually giving them any tax benefit at all. Sometimes they are even selling assets which have gone up in value, and paying capital gains taxes as a result (which could have been avoided), in order to make the payment.
There is an even more dangerous misconception about these $15,000 gifts: that it helps with Medicaid. The annual exclusion is strictly a federal tax law; Medicaid is a completely different set of laws. If you apply for Medicaid within five years after making that $15,000 gift (usually because you need help paying for nursing home care), they will penalize you for making that gift. It doesn’t matter that the gift was within the annual tax exclusion amount, because there is no exclusion amount for Medicaid.
The annual gifting strategy is something that very wealthy people should consider, after consulting with their accountant, financial advisor, and estate planner. It is not a useful strategy for normal folks with “only” a few million. Unless your net worth is way, way up there, it is a potentially dangerous strategy.
Kenneth Kirk is an Anchorage estate planning lawyer. Nothing in this article should be taken as legal advice for a specific situation; for specific advice you should consult a professional who can take all the facts into account. They will probably charge you far less than $15,000. At least I hope so.
