Gifts of Long Term Capital Gains

Assuming that you have some appreciated assets (capital gains) that would be subject to a maximum federal tax rate of 15%, you might be able to reduce the tax rate to 5% of the gain by making a gift of the asset to your children or to parents for whom you provide financial support. 

The recipient of a gift “steps into the shoes” of the donor with respect to the tax treatment of the property. There is a transfer of the tax cost and the holding period of the asset to the recipient. For example, if you have property with a cost of $1,000 that now has a value of $11,000, and you have owned the property for more than a year, you can either pay a 15% tax on the $10,000 gain, or you can give the asset to a relative in the 15% (or lower) income tax bracket and they would pay a 5% tax on the same long term capital gain. 

The taxable income of a single taxpayer (for 2002) is 15% (or less) on the first $27,950 of taxable income.  Beyond that level, the tax rate ranges from 27% to 38.6%.  For any single taxpayer with less than $27,950 of taxable income, a long term capital gain will be taxed at a maximum rate of 5%.  (A long term gain is a gain on an asset that has been held more than a year.)

For dependents, the standard deduction is limited to $750 of unearned income - regardless of the age of the dependent. Any dependents over the age of 13 are entitled to the full standard deduction for a single taxpayer, which is $4,700 for 2002 plus the personal exemption of $3,000. (But you will loose the personal exemption deduction for them.) In addition, they can realize up to $27,950 of capital gains at a 5% tax rate. 

If you are helping to support your parents, but their retirement income makes them ineligible to be treated as your dependents, you can still reduce the tax on your capital gains by gifting the appreciated property to your parents instead of just making gifts of cash on their behalf.

Income diversion that involves the transfer of assets also offers estate tax benefits for those who are concerned about estate conservation.  The income or assets that you divert to your parents will keep that money out of your estate. If they need your financial help, it's unlikely that they will have an estate tax problem. Any funds that they have left over when they die could be left to your children and thereby skip over your estate.

For example, assume that you decide to make a gift of $100,000 worth of appreciated assets to your parents. By selling the assets over a period of three or four years, they can keep the tax rate down to 5% of the gain. The expected earnings on the $95,000 might be about $5,000 a year.  Assuming they had no other income (and that their social security benefits would not become taxable), they will owe no income taxes on the annual $5,000 of investment income.  If you did not make the gift, you could have owed about $2,000 a year in federal and state income taxes on that income (assuming you are in the top bracket.).

Elder Tax Index

Copyright, 2003, Vernon K. Jacobs

Vernon Jacobs is the Editor/Publisher of The International Wealth Protection Reports, which are a collection of research reports on legal methods of asset protection and tax avoidance. Further information on this subject is available at http://www.offshorepress.com/  Jacobs is a CPA who has worked as a free lance tax and financial author/editor since 1977. Details about his credentials and experience are online at http://www.offshorepress.com/vkjcpa/