With federal gift tax rates at historically low levels, this year may provide a unique opportunity to transfer wealth efficiently through gifts that generate gift tax (taxable gifts). These are gifts that exceed the usual lifetime gift tax exemption of $1 million and the annual exclusion ($13,000 per donee). Under current law, for 2010 only, the top federal gift tax rate is 35 percent—the lowest it has been in over 60 years. Unless Congress changes the rules, beginning in 2011, the estate tax will be reinstated, the top federal gift and estate tax rates will be 55 percent, and there will be $1 million gift and estate tax exemptions and a roughly $1.34 million generation-skipping transfer tax (GST Tax) exemption.

Gifting at Any Time Usually Provides Tax Benefits

As a general matter, it is usually cheaper to pay gift tax rather than estate tax. The principal reason for this is that the gift tax is calculated only on the value of the property transferred, while the estate tax is calculated on the value of the property transferred, plus the estate tax itself.

Possible Bonus for Gifting in 2010

Because of this year’s low federal gift tax brackets, there is even a greater saving for taxable gifts made in 2010. For example, assume Tom, who has a current net worth of $30 million and has made prior gifts of $5 million, makes a taxable gift of $1 million to his children in 2010. Under current law, if Tom lives for three years after the date of the gift, his $1 million gift in 2010 will create a federal transfer tax savings of about $393,000 (or 39.3 percent of the gift), compared to if Tom had died without having made the gift. The same gift made in 2011 would create a lesser saving (about $303,000 or 30.3 percent of the gift), compared to a transfer at death. Thus, the 2010 bonus in this example is about 9 percent.

Each individual’s situation is different, and the extent of the saving created by a 2010 taxable gift will depend on a variety of factors, including the size of the gift and the amount of a taxpayer’s previous gifts. The benefit also will increase if assets given away appreciate in value.

Possible Unique Opportunity for Gifts to Grandchildren in 2010

Taxable gifts to grandchildren may be particularly compelling this year. If Tom makes a gift of $1 million to his grandchildren in 2010 and lives for three years after the date of the gift, he will first achieve the same tax savings of $393,000 (when compared to making a gift to them at death). In addition, he also may save GST Tax. This is because the GST Tax is suspended this year and is scheduled to return in 2011 at a top rate of 55 percent over an exemption of roughly $1.34 million. However, it is not clear that 2010 gifts in trust for grandchildren will obtain this GST Tax benefit.

IMPORTANT CAVEAT

In the next several weeks, Congress may change the transfer tax laws (either prospectively and/or retroactively to January 1, 2010) or conceivably extend the estate tax and GST Tax suspension for another year. Any such changes would affect the above analysis. For this and other reasons, we do not advise making any taxable gifts without talking to your advisor.

2010 Gifts to Trusts or Custodianships for Grandchildren or More Remote Descendants

Moreover, for different (but equally complex) reasons, we do not advise making any gifts, including non-taxable gifts, to a trust or custodianship for grandchildren or more remote descendants without talking to your advisor.

If a gift covered by this Alert is of interest to you, please call us to discuss the general strategy of such gifts and how it relates to your specific situation.

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Grantor Retained Annuity Trusts

The tax benefits of grantor retained annuity trusts (GRATs) may be greatly reduced if certain legislation is passed by Congress. If you are contemplating creating a new GRAT, you should contact us as soon as possible.


IRS “Circular 230” Disclaimer Note: Under certain circumstances, a taxpayer may avoid certain penalties under the Internal Revenue Code by relying on a formal opinion of counsel that meets specific IRS regulations. Any tax advice in this communication does not constitute a formal opinion that meets the requirements of those regulations. Accordingly, the IRS regulations require us to advise you that any tax advice in this communication is not intended or written to be used, and cannot be used by you, to avoid penalties that the IRS might attempt to impose on you.


Copyright © 2011 by Ballard Spahr LLP.
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This alert is a periodic publication of Ballard Spahr LLP and is intended to notify recipients of new developments in the law. It should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult your own attorney concerning your situation and specific legal questions you have.