What you need to know before making financial gifts

Whether you’re giving cash or investments, be aware of the logistics and tax implications

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If you have gifting to loved ones on your mind, here are some considerations related to taxes and logistics.

Gifting logistics

Unless you’re writing a check from your bank account, the logistics of gifting funds can get a bit complicated.

If you want to gift from your IRA, your only option is to sell a chunk of it, then pay any taxes due, then write a check. That’s not terrible, so long as you understand the tax implications. IRA withdrawals are typically subject to ordinary income tax, along with penalties if you’re not yet 59½. You could also trigger some knock-on tax effects like the income-related monthly adjustment amount. In other words, gifting from your IRA isn’t as seamless as making a qualified charitable distribution from your IRA or naming someone as a beneficiary of your IRA.

Things can also get tricky if you want your financial gift to go toward an investment account for someone else. It’s straightforward if you’re giving a gift to an adult with an eye toward setting them on an investing path: The recipient will have to set up the account, whether an IRA or a taxable brokerage account, and you can then write a check or transfer funds directly to the financial institution.

If you’re giving an investment gift to a child, you have options.

1. 529: Best if you know the money will be for college. It will compound tax-free and skirt taxes upon withdrawal for qualified higher-education expenses. Plus you’ll typically get a state tax break on a contribution to your home state’s plan.

2. UGMA/UTMA (Uniform Gifts/Transfers to Minors Act): This is an open-ended way to save for minor children. There are no strictures on how the money is ultimately used, and the assets can be invested in almost anything. Note that UGMA/UTMA assets may reduce a student’s eligibility for financial aid.

3. IRA (if the child has earned income): Funding an IRA can ensure that a young adult fully benefits from compounding for retirement, and the IRA wrapper offers tax benefits. But the young person needs to have earned enough compensation (from work) in a given year to cover the amount of the IRA contribution you’re making on their behalf, though the contribution doesn’t have to come directly from the young adult’s own coffers.

Gift tax: a nonissue for most

If you give $19,000 or less to any one individual in a single year, there are no reporting or tax requirements. Married couples can give twice that amount with no tax or reporting requirements.

Even if you give more than $19,000 to an individual in a single year, it’s not automatically subject to gift tax. Rather, anyone exceeding the gift-tax threshold in a single year must file the gift tax return form, and that excess amount counts against their lifetime exclusion amount. Only when those excess amounts (combined with the value of the individual’s estate) exceed the lifetime exclusion amount—currently nearly $14 million—does anyone actually owe taxes on those gifts. So that’s not a barrier for most people.

Tax benefits are limited

Because the lifetime gift/estate tax exclusion amount is currently so high, avoiding estate tax shouldn’t be a major motivation for most people to gift assets to individuals during their lifetimes—at least for now. The estate tax exclusion has been much lower in the past and could go lower again: It was $2 million as recently as 2008, for example. Moreover, some states levy their own estate taxes, and in most cases, they’re lower than the federal threshold.

In contrast with making gifts to qualified charities, you won’t be able to earn a tax deduction on your gift to an individual. The exception is a contribution to a 529 college savings plan; you may be eligible for a state tax deduction or credit.

In a similar vein, gifting appreciated assets is unlikely to remove the taxes due on the gains, though it will shift the tax burden to the recipient.

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This article was provided to The Associated Press by Morningstar. For more personal finance content, go to https://www.morningstar.com/personal-finance.

Christine Benz is director of personal finance and retirement planning for Morningstar.