Year-End Tax Planning Advice to Avoid

This article by Bernie Kent was originally published on Forbes.com.

Toward the end of every year, many publications provide a list of year end tax planning ideas. These articles often suffer from not discussing the exceptions to the advice given. It is difficult to give advice that will apply to most taxpayers in a limited amount of space.

In a Barron’s Special Report included in The Wall Street Journal on December 6, 2018, Jill Schlesinger recommends the following:

“Use your gift-tax exclusion. You can give up to $15,000 ($30,000 with a spouse) to as many people as you wish in 2018, free of gift or estate tax.”

There is nothing untrue contained in this statement. However, 99.9% of the people in this country will not receive any tax benefit from using their annual gift tax exclusion. Gift or estate tax is only applied to gifts or estates greater than $11.2 million per individual ($22.4 million for a married couple). This exemption is scheduled to be reduced in half in 2026. At that time her advice would not be useful to 99.8% of the country. Of course, Congress could change the law to reduce the lifetime estate and gift tax exclusion. If that happened, maybe two or three percent of the taxpayers would benefit from making annual exclusion gifts before the end of the year. The only income tax benefit from making gifts to family or friends is if the donee is in a lower income tax bracket than the donor. If the gift were appreciated stock, the capital gains on the sale may be lower and as well as the tax on the future earnings (if any) on the gift.

The next recommendation in The Wall Street Journal article is as follows:

“Fully fund college-savings 529 plans. You can invest up to $15,000 in 2018, tax-free, without incurring a federal gift tax…”

Funding a Section 529 college savings plan may be a good idea for taxpayers who wish to prefund the cost of a college education for their children, grandchildren or other relatives. The Section 529 college savings plans have many attractive features. For example, the funds will grow free of federal income tax and can be withdrawn tax-free to the extent of college expenses. Another important benefit is that funder can be the owner of the Section 529 plan so that if the beneficiary does not go to college, the owner can decide whether to change the beneficiary to another relative or take back the funds. Even though you may remain the owner, the 529 plan is not included in your estate (if you are one of the relatively few people who will have to pay estate tax). A Section 529 plan is one of the only ways to get assets out of your taxable estate yet still have complete control of the funds.

What is wrong with the quote from the article is that the advice is misleading and confusing. “Fully funding a college-savings 529 plan” is not done with $15,000. Each state’s section 529 college savings plan sets a maximum account limit (generally in the $300,000 to $500,000 range). When that limit is reached, no further contributions are permitted to that account. Funding a section 529 plan as fast as possible is desirable in order to maximize the time for tax-free growth of the account. While it is true that “you can invest up to $15,000 in 2018, tax free, without incurring a federal gift tax,” you most likely can give away $11 million without paying a gift tax. The $15,000 refers to annual gift tax exemption ($30,000 for married couples who gift split). Gifts above that level are not subject to a gift tax unless you have already given away more that $11.2 million as an individual ($22.4 million as a married couple).  Gifts in excess of the annual exclusion almost never create a gift tax, they merely require the filing of Form 709 to keep track of the excess. One more benefit of a section 529 plan is that you can prefund 5 years of annual exclusion in one year without exceeding the annual exclusion. This allows parents or grandparents to put up to $75,000 (or $150,000 per couple) into a 529 plan for the benefit of an individual and treat the gift as being made over five years.