3 Smart Ways Retirees Can Avoid the Gift Tax

‘Tis the season for giving! 

Being generous with your wealth is an impactful way to support what matters most. But you don’t want your generosity to spur a considerable tax bill. Gift giving can be unexpectedly complex, with several essential rules you’ll want to know before buying that next “big” present. 

Let’s break down what the gift tax is and how retirees can avoid it!

What is the Gift Tax, And Why Do I Want To Avoid It?

In a nutshell, the gift tax is a way for the IRS to track the dollar amount of “gifts” you’ve given throughout your lifetime. 

And these gifts aren’t limited to just money. Property or other large assets can also trigger a gift tax. But don’t worry, the IRS won’t likely come after your holiday shopping list!

If you give over $16,000 in 2022, you must report the excess to the IRS via form 709 when you file your annual tax return. That number cuts into the amount your estate can be worth without incurring federal estate taxes, also known as the lifetime exemption. 

Let’s dive into what these terms mean and how to navigate them. 

Three Ways to Avoid the Gift Tax

Now that you understand the general idea behind the gift tax, here are three easy ways to avoid paying it altogether.

#1 Stay Within the Gift Tax Annual Exclusion Limits

It’s important to know that most people won’t have to worry about being taxed on gifts due to the lifetime gift tax exclusion. 

The 2022 gift tax exclusion is $16,000 ($32,000 for those married filing jointly). This means you can give up to $16,000 worth of cash or assets before you trigger the gift tax. For example, you can gift your child, friend, or parent $16,000 without the IRS batting an eye. But once you surpass this number, you’ll have to fill out gift tax forms. 

If you have to give over the annual limit, say to gift your grandchild a new car, that doesn’t necessarily mean you’ll be charged tax. You can alternatively split this sum over a few years (so you aren’t gifting more than the annual limit), or you can start chipping away at your lifetime exemption instead. 

The 2022 lifetime exemption is $12.06 million ($24.12 for married couples). Just as the name suggests, this exemption lasts your entire life and never resets. The IRS keeps track of your lifetime exemption by having you fill out Form 709 every year that you surpass the annual exclusion along with your other usual tax return paperwork. 

For example, if you gift your grandchild $26,000 one year, you exceed the annual limit by $10,000. The IRS will include that extra $10,000 towards your lifetime exemption limit of $12.06 million. 

#2 Gift Throughout Your Lifetime

Segmenting your estate into gifts throughout your lifetime is a great way to save money and ultimately streamline the wealth transfer process. 

It also helps shave off value from your estate. With the top federal estate tax rate at 40%, avoiding those limits can help maximize what you can give to your loved ones. 

Rather than saving all of the gifting and inheritance for/within the estate plan, gift throughout your lifetime (within the annual limit) so you can still give without worrying about taxes. 

Breaking your gift-giving down throughout your lifetime can help you avoid higher tax rates later on. 

#3 Make Tax-Free Gifts

Some gifts are never taxed—no matter their dollar amount. 

Here are some tax-savvy ways to give outside the gift-tax parameters. 

Donating Directly to Charity

Since giving to nonprofits is considered a charitable donation, not a gift, you can be as generous as you want! 

Even if you give over the annual limit, you won’t need to disclose the contribution on your next gift tax return if the gift is going straight to a registered charity.

Even better, if you donate long-term appreciated assets like stocks or bonds to charity, neither you nor the charity has to pay capital gains taxes. Plus, you can take an income tax deduction for the total fair market value, up to 30% of your adjusted gross income.

There are some other fantastic ways retirees can give to charity, including:

  • Qualified charitable distribution (QCD). Once you turn 70 ½, you can donate up to $100,000 directly from an IRA to a qualified charity. Many retirees find it beneficial to donate all or a portion of their required minimum distributions (RMDs) to better control their annual taxable income. 
  • Donor-advised funds (DAFs). DAFs enable you to donate assets to a separate account, take an immediate tax deduction, allow the funds to grow tax-free, and give you the flexibility to donate to qualified charities over time. 
  • Bunching strategies. You’ll likely need to itemize to get a tax deduction for charitable giving (an exception is a QCD). But with a high standard deduction, itemizing every year might not be feasible. Instead, you can “bunch” multiple years’ worth of gifts together to cross the threshold.  

Making Educational or Medical Payments Directly to an Institution

Hospital and medical fees can pose significant burdens on families. Whether you want to help pay for your daughter’s surgery or your grandson’s college, you can avoid the gift tax by paying the institution directly.

Front Loading a 529 Plan

A 529 Plan is an investment account that provides tax benefits when used for education expenses. 

529 Plans don’t have contribution limits, and you have the added option to super-fund. Super-funding, or 5-year gift-tax averaging, allows you to front-load large contributions to a 529 plan without reporting gift taxes. This method also protects your lifetime gift and estate tax exemption. 

Don’t Let the Gift Tax Sneak Up On You

Gift giving is a meaningful way to celebrate the holiday season. But the yearly exclusions and other gift tax rules can quickly become confusing and overwhelming. 

Before making any significant gifts, it’s always a good idea to reach out to an expert. Our experienced financial advisors at Goepper Burkhardt Wealth Management can help you give responsibly to maximize each gift to your loved ones. 

Don’t hesitate to reach out to us to get started.

financial planning, gift tax, retirement
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