GIFTING

You may make gifts of up to ten thousand ($10,000) dollars per calendar year per beneficiary gift tax free. The right to make annual tax-free gifts is known as the “annual exclusion.” The tax code does not limit the number of beneficiaries to whom gifts can be made nor does it require that the recipient (“donee”) be related to the person making the gift (“donor”). Gifts may be made in cash or other property. Non-cash gifts are valued at their fair market value on the date gifted.

There is an unlimited exclusion (in addition to the $10,000 annual gift tax exclusion) for direct payment of a donee’s medical expenses or tuition. Both the medical and educational exclusions are allowed without regard to the relationship between donor and donee, meaning the recipient need not be related to you.

However, the payment must be made directly to the school, doctor or hospital that provides the service. The “unlimited marital deduction” allows unlimited gifts between spouses, as long as the donee spouse is a U.S. citizen. Unlimited gifts may be made to charities, even though there is a limit on their deductibility for income tax purposes.

If annual gifts to a single donor (other than a spouse or charity) exceed $10,000, the gift tax exclusion covers the first $10,000 and the excess is “taxable.” However, rather than having to pay tax on the excess, taxable gifts reduce your Applicable Exclusion Amount dollar for dollar.

The following example shows the effect of taxable gifts on the Applicable Exclusion Amount:

Example: Mary gifts her son, Sam, $40,000 in calendar year 2001. The portion of the gift that exceeds $10,000 ($30,000) is a taxable gift. Accordingly, Mary’s Applicable Exclusion Amount is reduced by the amount of the taxable gift, to $970,000 ($1,000,000 - $30,000). Thus, Mary may leave $970,000 free of estate tax at the time of her death.

To qualify for the annual $10,000 exclusion, a gift must be of a “present interest.” A present interest is defined as the current right of a donee to the unrestricted enjoyment of the gifted asset. For example, Mary’s $10,000 outright gift to her son Sam, described above, would qualify for the gift tax exclusion.

However, a transfer of $10,000 in trust for Sam to be distributed to Sam at a future date, would not qualify as a gift of a present interest, since Sam would have no present right to the gift. Sam would have only a future interest in the property. Sam’s gift could have been converted to a present interest had Mary’s trust contained a “crummy” provision (see “Irrevocable Trusts,” in Chapter Ten).

The Economic Growth and Tax Reconciliation Act of 2001 increased the amount of lifetime taxable gifts you may make to $1,000,000. Unlike changes in the estate tax that would increase the amount one may leave at death to $1,500,000, then $2,000,000 then $3,500,000 followed by repeal of the estate tax, the limit on taxable gifts is not scheduled to increase beyond $1,000,000.

SPECIAL NEEDS TRUSTS FOR DISABLE CHILDREN

Parents with disabled children face special estate planning challenges. The cost of supporting disabled children, especially ones with severe disabilities, is typically well beyond the financial means of most parents. They must rely on government programs to at least supplement the care they themselves are able to provide.

All but the wealthiest families must rely on government support to care for their disabled children. Supplemental Security Income (SSI), Medicaid, Medicare, and Social Security Disability Insurance (SSDI), though minimal, provide core support to disabled children. Eligibility for these programs is conditioned on both the child’s in-competency as well as financial need.

It is not advisable to leave an outright inheritance to a disabled child or grandchild since it would disqualify the child from government benefits. The child’s inheritance would have to be exhausted (to no more than $2,000 in most cases) before the child would again be eligible for government support.

The disabled child, having lost his or her inheritance, would be worse off than when his or her parents were alive, since the safety net provided by the disabled child’s parents would be gone. Only poverty level government benefits would remain.

The planning device that best addresses the needs of disabled children is known as a “special needs trust” (SNT) or “amenities trust.” These trusts make inherited assets available to a disabled child without disqualifying the child from government benefits.

Basically, a SNT directs the trustee to hold and administer trust assets to supplement, rather than replace, government benefits available to a disabled child. As a result, assets held in a properly drafted SNT are not considered part of the child’s resources for SSI purposes.

To avoid disqualification, a SNT must provide that

1. expenditures from the trust are wholly within the discretion of the trustee and the beneficiary does not have the right to demand either income or principal; and
2. the trust cannot be used to provide for basic needs such as food clothing or shelter.

SPECIAL NEEDS TRUSTS FOR ELDERLY PARENTS

Special needs trusts may also be used to provide for elderly parents. Monies left outright to aging parents will quickly disqualify them from Medicaid benefits. If you wish to provide for your parents in your estate plan, you should do so through a special needs trust. If you predecease them, your bequest will be used to supplement rather than disqualify them, from government benefits.

Example: Jim, a fifty-five year old husband and father of two pre-teen children died leaving two parents in a nursing home. He had named his parents as beneficiary on life insurance policies totaling several hundred thousand dollars, thinking that as an only child it was his responsibility to care for his parents. Unfortunately, Jim’s wife was not aware that Jim had left his life insurance to his parent. She stood by helplessly as money she could have used to raise her children was instead used to disqualify her in-laws from government benefits. Only after the life insurance proceeds were totally exhausted did the in-laws begin to receive Medicaid benefits. Had Jim used a SNT, Medicaid would have paid for his parent’s basic care (with the money in trust used for specialized medical and dental care, clothing, and other non-government provided benefits). At the death of her in-laws, Jim’s wife could have used the balance remaining in the SNT to raise her children.