In addition to the usual gifts given during the holiday season, the end of the year is a time when many people make monetary gifts to family members and to charity.  Gift giving makes the giver and the recipient feel good.  From an estate planning and tax planning perspective, gifts are generally a good idea as well.  Here are five things you should know about gift giving:

1. Gift Tax Rules on Gifts. When making gifts, you must keep the federal gift tax rules in mind (there is no Massachusetts gift tax).   An important concept is the “annual exclusion,” which is the amount a person may gift to another person in a calendar year without gift or other tax consequences.  In 2014, the annual exclusion amount was $14,000 and this will not change in 2015, although the annual exclusion is indexed for inflation and periodically changes in January when appropriate.

Gifts of more than the annual exclusion amount in a calendar year result in no income tax implications to the gift recipient.  However, such a gift is considered a “taxable gift” by the gift giver, who must file a federal gift tax return reporting the gift made.  Under current gift and estate tax rules, a gift giver may give up to $5.43 million (in 2015) of taxable gifts during her lifetime without paying a gift tax; however gift tax returns must be filed to allow the IRS to keep track of the taxable gifts made over the gift giver’s lifetime.  At the gift giver’s death, taxable gifts made during her lifetime must be reflected on the federal estate tax return filed by her estate, if one is required to be filed.  The value of each taxable gift at the time the gift was made is part of the federal estate tax computation done to determine the amount of federal estate tax payable at the gift giver’s death.  For Massachusetts estate tax purposes, taxable gifts are taken into account when determining if an estate tax return must be filed, but no estate tax is paid on the gifted assets.

Keep in mind that if the gift giver gives a gift of a capital asset, such as real estate or stock, the gift recipient’s basis in the gifted asset for capital gain tax purposes is equal to the gift giver’s basis.  If the gift recipient sells the gifted asset after receiving the gift, he will pay capital gain tax on the difference between his basis and the sale price.  Therefore, before making a gift of highly appreciated property, consider and analyze the gift, estate, and capital gain tax implications.

2. Medicaid Rules on Gifts. If a gift giver is at an age, or has health issues, that could potentially require nursing home care in the next five years, any consideration of gift giving must take into account the Medicaid transfer of asset rules.  Although these rules are often confused with the gift tax rules discussed above, they have nothing to do with each other.  Gifts of any size given within five years of applying for Medicaid benefits to pay for nursing home care will disqualify the gift giver from receiving those benefits for a period of time.  Under the Medicaid regulations, gifts given for a purpose other than to qualify for Medicaid benefits should not disqualify the giver.  In practice, it can be difficult to prove to Medicaid’s satisfaction that the gift was not made with the intent of qualifying for Medicaid benefits.  For this reason, gifts of any size made by a person who is likely to require Medicaid benefits within the five-year period after making a gift should be given with caution.  The average cost of nursing home care in Massachusetts is about $132,000 per year, or $11,000 per month.  Unless a gift giver has sufficient means to pay for the cost of her care from her income or assets, or has long-term care insurance to pay for or supplement other sources of payment for her care, consideration must be given to qualification for Medicaid benefits if gifts are to be made.

3. Tax and Estate Planning Reasons to Make Gifts. Besides giving the gift giver a warm feeling and making the recipient happy, there are other reasons to make gifts.  From an income tax perspective, transferring income-producing property, like stock, reduces the gift giver’s taxable income (i.e. dividends on the gifted stock) and shifts that income to the gift recipient.  If the recipient is in a lower tax bracket than the giver, the income tax payable on that income is reduced.  Making gifts also reduces the value of the gift giver’s overall estate for estate tax purposes.  If the gift giver’s estate is “taxable” (i.e. over $1 million for Massachusetts estate tax purposes, or over $5.43 million for federal estate tax purposes), giving gifts during her lifetime will reduce the estate tax payable by her estate at her death.  For Massachusetts estate tax purposes, the assets on which estate tax is calculated at your death are reduced by making gifts, thereby saving estate taxes for your heirs.  For federal and Massachusetts estate tax purposes, if the gifted asset appreciates in value after the gift is made, that appreciation in value will escape estate tax at the gift giver’s death.

4. Reasons Not to Make Gifts.  Before making a gift, the gift giver should carefully consider whether she can afford it.  The gift giver should not give away assets that she believes she will need in the future to support herself or provide needed care.  Once a gift is made, the gifted assets are out of the giver’s control, and the gift recipient is free to spend, transfer, or sell the gifted assets.  The gift recipient may promise to hold those assets and return them to the giver or pay for the giver’s care with those assets if necessary.  However, the gift recipient may not be able to follow through on those promises, intentionally or unintentionally, due to, for example, divorce, bankruptcy, or creditor issues. This situation can put the gift giver in a difficult situation if care is needed and the giver’s assets or other resources are not sufficient to pay for the care required.  As discussed above, a gift giver should also not make a gift if by doing so she will disqualify herself from receiving Medicaid benefits she may need in the future.  Every family dynamic is different, and some family members who may not have sufficient assets or income to support their own lifestyles perceive others as a resource that can be tapped to support themselves.  Giving assets to others without regard to the gift giver’s future needs is not wise, regardless of the pressure the giver may feel to help loved ones.

5. Charitable Gifts. Charitable gifts have added tax benefits.  Charitable gifts made during the gift giver’s lifetime, in addition to reducing the giver’s taxable estate, will also reduce the giver’s income taxes because amounts given to charity are deductible for income tax purposes.  If charitable gifts are made at death, they will reduce the estate tax payable at death.   When giving gifts to charity, confirm that the charity is legitimate, and understand how much of the gift will be used for charitable purposes rather than the charity’s administrative costs. Consult guidestar.org, www.charitynavigator.org, or www.charitywatch.org for information about charities and how funds are used.

Gifts can be smart for estate and tax planning reasons and are always welcome by the gift recipient.  Be thoughtful about the gifts you make and understand the tax and other implications before you decide to make a gift.  If you are at all uncomfortable about making a gift, take a step back and reassess the situation. If you have questions or are uncertain of the implications of a particular gift be sure to obtain advice from your accountant or estate planning attorney.

January 2015

Attorney Maria C. Baler is an estate planning and elder law attorney and a partner with the Dedham law firm of Samuel, Sayward & Baler LLC.  This article is not intended to provide legal advice or create or imply an attorney-client relationship. No information contained herein is a substitute for a personal consultation with an attorney. For more information, visit www.ssbllc.com or call (781) 461-1020.