You’ve worked hard your entire life and you’re hoping to pass the fruits of your labor onto your children or grandchildren and not the Internal Revenue Service. If that’s the case, you may be interested in a gift in trust, which is a legal and fiduciary vehicle that makes it easier to transfer wealth to the next generation without being subject to federal estate taxes. It’s important to understand how it works and why you may want to set one up. You can also work with a financial advisor to help you improve your overall estate plan and make sure you’re set up to pass your wealth to the next generation.
The Gift in Trust and the IRS
While you can give generously to beneficiaries without the IRS necessarily taking a cut of that money, the gift giver needs to consider the gift tax exclusion amount. If you give an amount that is less than the gift tax exclusion amount, you won’t have to pay taxes. (For 2022, the annual gift tax exemption is $16,000; for 2023 it’s $17,000.) If you give a beneficiary more than the annual gift tax exemption, you may have to pay a gift tax, which is why some people create a gift in trust, to avoid taking a hit on their taxes.
Still, the IRS’s rules on gifts and taxes can be a labyrinth of legal loopholes and there is a good chance you won’t have to pay a gift tax or need to set up a gift in trust. For instance, if you are married, two spouses are allowed to “split” a gift to a single beneficiary. So in 2022, you could give a child a gift worth up to two annual exclusions, essentially doubling your annual exclusion. In other words, any gift valued at $32,000 or under. In other to be eligible for the gift splitting, both partners will need to file federal gift tax returns, signed by each spouse.
Before making any hasty decisions, you’ll want to discuss all of this with a financial advisor or an estate attorney. While a gift in trust, incidentally, may sound like something you give to descendants after you pass on, you can give a family a gift in trust and still be very much alive.
Reasons Why You May Want to Set Up a Gift in Trust
Saving in taxes is not the primary reason that you may want to consider opening a gift in trust. Instead, there are two other important reasons to give members of your family a gift in trust in lieu of giving money directly:
- Better financial protection: If you give a family member money in the form of a check, it goes into the bank account and in theory, other family members could spend it. The family member could divorce and see very little of the money. In a gift trust, the money is only meant for that relative. So if you give your granddaughter money just meant for her, it will be for her. In a contentious divorce, the spouse won’t be able to touch it. If the granddaughter has creditors, they can’t reach the money either.
- Spending rules: If you want to set up some rules for how the money is to be spent – such as going toward a college education or buying a home, you can do that. You might also structure the gift in trust so that your beneficiary can’t withdraw money from the trust until a certain age.
There Is More to a Gift in Trust Than Money
While you’re probably envisioning a gift in trust being something for only the wealthy and involving a lot of money, the trust doesn’t have any money in it. It’s a vehicle that is accessible to the middle class, and while it could include money, it might consist of a lot of heirlooms that you want to stay in the family, like a wedding gown that has been passed down for generations. The trust might also contain property.
For instance, you might want to leave your child your home and setting it up in a trust would be a way to ensure that your child will definitely get it. After all, if the property is simply transferred to a family member who then finds himself sued by creditors or involved in a messy divorce, the child could lose the home.
A helpful way to think of a gift in trust is to think of it not really as a gift. It’s a gift, but in a sense, it is the trustee managing the trust who owns it. (The trustee can be you.) The trustee will have been instructed, however, to make the beneficiary used to the trust.
The Bottom Line
Not every family needs to create a gift in trust, even if they have a lot of wealth. But if you’re worried about your wealth being set upon by the IRS or toxic and greedy family members or you are concerned about bad monetary judgment by the beneficiary, you can give your wealth freely in the form of a gift in trust. You can also make sure the gift in trust comes with instructions on how your assets should be managed. A gift in trust, in other words, may give you peace of mind in knowing that the future looks a little more orderly. In that sense, a gift in trust is a gift for you, too.
Tips for Estate Planning
- Estate planning can be difficult because of the many tax rules on gifting or transferring property to the next generation. If you plan on moving assets to your family then you should have a good plan in place and you may not want to go through the process on your own. Instead, a financial advisor can help make sure your assets are protected and limit the tax implications. Finding one doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- You can also check out our estate planning guide for a complete walkthrough of things you may need to consider when planning out how your assets will be transferred later.
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