In cases where your estate is large enough, giving away assets over time may help diminish your tax obligations. (Of course, most people's estates are not large enough to exceed the federal estate tax exclusion amount, which is approximately $11.2 million** for an individual and $22.4 million for a married couple in 2018.)
Consider these strategies for giving while living:
Giving under the gift tax exclusion
Under IRS rules, you can give up to $15,000 per year to any person, and that amount is exempted from your lifetime gift and estate tax exclusion. For instance, you could gift $15,000 to each of your adult children, and your spouse could also gift $15,000, so each child receives $30,000 in a year without any tax implications. In fact, your gift doesn’t have to go to a relative — you can also help out a friend.
If you want to give more than $15,000 to one person in a calendar year, you should consult your accountant, since you may need to file form 709 with the IRS to report this. Money transferred between spouses is not subject to gift tax exclusions or reporting.
Contributing to a 529 plan
If you have a niece, nephew, grandchild or other relative who's planning to attend college, consider putting money into a 529 college savings account for their education. Money in a 529 can grow and can be used tax-free for eligible educational expenses including tuition, textbooks and room and board. Money used for non-eligible expenses may be subject to taxes and penalties, but if the original recipient doesn't need the money, you can change the account beneficiary without penalty.
You may be able to get a tax deduction if you invest in a 529 plan that is offered in your own state, but you can also choose out-of-state plans if you feel they might better suit your needs. Keep in mind that contributions to a 529 are not exempt from the gift tax limit, but you are allowed to make five years' worth of contributions at one time without sparking any gift taxes.***
When it comes to financial aid, be aware of a distinction between money from Mom and Dad, and money from Grandma and Grandpa. Because of how financial aid is calculated, disbursements from a grandparent-owned 529 account are considered assets in the student's name and can reduce the following year's financial aid package by 20%. To avoid this, some experts recommend having the parent open a 529, because only 5.6% of a parent-owned 529 is considered part of the expected family contribution, as noted in an article from U.S. News & World Report. Then, rather than opening their own 529 account, a grandparent can simply contribute to the parent-owned account.
Paying medical, dental and tuition expenses
With today's rising medical costs, maybe you want to help a relative whose medical bills exceed the gift tax exclusion. Or perhaps you didn't think to open a 529 account when a grandchild was younger. You can still help in both these situations if you pay tuition to the university, or medical or dental bills to the medical provider, directly.
This allows you to pay in excess of the $15,000 annual gift tax exclusion without filing the aforementioned form 709, or counting that money toward your federal estate tax exemption. But if you're paying tuition for someone who receives financial aid, first make sure this support won't jeopardize the student's aid package.
For larger estates, you may want to consider creating a trust so that funds can pass to your heirs after you die without going through probate. Trusts aren't just for the wealthy, however.
Through a trust, you can provide a monthly “allowance" to heirs while you are still alive, or give a lump sum upon your death, or when certain criteria are met. Consult an estate planning attorney if you're interested in setting up a trust, and want to understand the different options.