Purdue expert advises 'give while you live'WEST LAFAYETTE, Ind. -- An old adage states there are two things you can't escape: death and taxes. While you won't live forever, maybe you can do something about those taxes.
"As people start to look at the end of their lives, they get the feeling that they want to have made some impact in living," says John Hatcher, Purdue University assistant professor of management. "My advice to them is: 'Give while you live.'"
That's good advice, because the sting of death can also carry a nasty tax bite. "While you may want to leave a substantial inheritance for loved ones, remember -- the government may get a nice chunk too, if you don't plan carefully," he says. Hatcher, a certified public accountant, says that although heirs do not have to pay income tax on assets that they inherit, the government does impose inheritance taxes that start at 37 percent of the taxable estate and can rise to as much as 55 percent.
While after-death giving is good, Hatcher says those persons with large estates may find it advantageous to start giving away assets before they die.
Presently, each person, over the course of a lifetime, is allowed to make up to $625,000 of taxable transfers without anyone having to pay gift or estate taxes. Not all gifts apply toward the limit. For example, donations to charities and nonprofit institutions are not taxed and are not limited. And personal, yearly gifts of up to $10,000 to children, grandchildren and other individuals are also tax-free and don't count toward the limit.
So in most cases, the rule means that the first $625,000 of an estate is not subject to inheritance tax. That amount will slowly increase over the next few years so that by the year 2006, lifetime gifts of up to $1 million will be exempt.
For a couple, each spouse can give away $625,000 during his or her lifetime. "If a married couple has assets of more than $1.25 million, then the first thing they need to do is divide the estate," Hatcher suggests. Dividing the estate simply means putting a portion of the assets in one spouse's name and the rest in the other's name.
If one dies, his or her assets can go into a trust with lifetime income going to the surviving spouse. There are no tax consequences of this transfer. Those assets under the survivor's name go untouched. If both die, each estate will be handled as a separate inheritance, and thus more of the assets will be preserved from inheritance taxes.
"When you think about impact, you really need to decide whose pocket you want your assets to eventually go into," Hatcher says. He suggests that sometimes, the best way to protect your lifetime earnings is to give them away.
"You don't want to give away assets you need to live on, but when you give away assets before you die, you can gain some attractive tax advantages," he points out. For example, charitable donations are not only exempt from gift taxes, they also are deductible on income taxes. Each year you can deduct charitable gifts of up to 50 percent of your adjusted gross income. If you give away more than that in one year, you can write off the additional amount against future years' taxes.
Assets that would be subject to a capital gains tax, if sold, usually can be given to a nonprofit entity without the giver or the beneficiary having to pay that tax, because charities don't have to pay capital-gains taxes. "Otherwise, stocks or real estate could be subject to up to a 20 percent capital gains tax on the profit," Hatcher says.
To see how giving assets away can affect taxes, Hatcher uses the example of a widow who has an estate of $3 million and gives away $100,000 in stocks to a charitable organization. By giving before she dies, she can give away that entire amount, reduce her income taxes by up to $39,600, avoid paying any capital gains tax on the increased value of the stock from the time of purchase, and decrease potential after-death estate taxes by $55,000.
"If you add in the savings on capital gains, the widow in essence has not reduced her estate at all," Hatcher says.
If the assets were given to charity after her death, the estate would not benefit from an income tax deduction. And, if the stocks went to an heir rather than a charity, their value would be reduced by inheritance taxes.
Hatcher says there are ways to give away assets and still retain their use. Various trusts can be established where ownership of an asset is turned over to the trust. The owner designates a beneficiary to eventually receive the property, and a trustee manages the trust according to the guidelines established. If income-producing assets are put in a trust, the owner can receive annual payments from the trust during the remainder of his or her lifetime. At death, a trust is not subject to probate, but it may be subject to estate taxes.
As to the best vehicle for giving, Hatcher says the options are many and complex. "In planning your estate, it's best to consult a tax accountant, an attorney and other professionals knowledgeable in estates and charitable giving," he says. Nonprofit organizations often have accountants and estate planners available to give advice.
Source: Jack Hatcher, (765) 494-4478; e-mail, email@example.com
Writer: Beth Forbes, (765) 494-9723; e-mail, firstname.lastname@example.org
Purdue News Service: (765) 494-2096; e-mail, email@example.com