The annual gift tax exclusion has increased to $16,000 per person per year. This means you are allowed to transfer this amount to someone each year without having to report the gift to the IRS.
How gifts are made could have major impacts on heirs, especially if the recipient is a minor. There are many drawbacks to gifting outright, including limited control over gifts, exposure to creditors, divorce and litigation. Trust options are the recommended strategy, as discussed in the article “The Annual Exclusion For Gift Taxes Has Increased to $16,000—What Issues Should I Consider” from Mondaq.
When gifting directly to minors, a custodial account (UTMA) offers some structure. However, if the account terminates when the minor becomes of age, you then have a young person with no control and a lot of money. This is usually a bad combination.
For example, what if the annual exclusion gift of $16,000 is placed into a custodial account every year beginning when the heir is nine and ends when the heir celebrates their 21st birthday? Even if the account earns no interest, by the time the heir reaches age 21, they will have complete access to $192,000 with no restrictions.
If there is a change to the custodian before the minor comes of legal age, the UTMA allows a primary custodian to name a successor. However, if this does not happen, the process of naming a successor custodian is generally burdensome and expensive.
Trust options or a transfer to a 529 plan are better options offering a lot more control by a trustee. Trusts allow assets to be used for a variety of needs, while the 529 plan limits withdrawals to be used for educational needs. The trustee may also continue to manage the account long after the heir has reached legal age, which to most people makes good sense.
For more control, consider an irrevocable gift trust. The IGT can be used for the annual exclusion gift and is a smart choice for gifts greater than the annual exclusion when a Gift Tax Return is required. The person creating the irrevocable gifting trust appoints the trustees and should name alternates, if the primary trustee is unable to serve. The trustee then has discretion to manage the assets, including distributions.
Consulting with an experienced attorney will help you navigate the options of lifetime gifting and use of the annual gift tax exclusion, and is important to do before you complete the gifts.
Reference: Mondaq (March 2022) “The Annual Exclusion For Gift Taxes Has Increased to $16,000—What Issues Should I Consider”
