IN SUMMARY
Gifting Stock to Children, Freezing Out Taxes
Passage of the 2010 Tax Relief Act makes giving stocks that have appreciated in
value to children and grandchildren in lower tax brackets more attractive. Here’s
a great benefit: through 2014, long-term capital gains are subject to a 15%
maximum rate for individuals in the top four income tax brackets; investors in
the 10% or 15% income tax brackets will pay zero tax on long-term gains. For
families, the savings may be helpful in meeting major goals, such as funding a
college education.
For illustrative purposes, let’s take a look at a hypothetical example. Suppose
Maria and Tom have owned 200 shares of stock in company XYZ for 15 years.
Its current fair market value (FMV) is $20,000, and their basis is $2,000. Their
daughter, Sophia, is 19-years-old and about to begin her first year of college.
Maria and Tom, who are in the 28% Federal income tax bracket, would like to
use this stock to help pay her tuition. If they sell the stock at its current FMV,
they will owe $2,700 in capital gains taxes ($18,000 x 15%). However, if they
give the stock to their daughter, who is in a 10% Federal income tax bracket,
and she sells it, there will be zero tax on the gain because she is in the lowest
tax bracket.
When gifts of stock are made to individuals, the recipient’s basis is the same as
the donor’s. Furthermore, the recipient also keeps the donor’s holding period.
So in this case, even if Sophia sells the stock one month after receiving the
gift, she would still qualify for the long-term capital gains rate, since her holding
period would include the length of time that her parents held the stock. This is
beneficial because short-term capital gains (investments held less than one
year) are taxed at the investor’s generally higher marginal rate.
A couple can give away as much as $28,000 in 2014 ($14,000 for individuals) in
appreciated stock to each of their children or grandchildren, every year, without
incurring gift taxes. Donors, however, should weigh any disadvantages that
could be caused by the kiddie tax that applies to children 18 years of age and
younger. Under the kiddie tax, a child’s unearned income over $2,000 is taxable at the parent’s tax rate.
As you develop your strategies, it is important to remember that gifts
are irrevocable and that you relinquish control of assets. However, with
proper planning, you may be able to significantly reduce your
family’s tax bill.
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What is “Basis”?
Basis is the starting point for determining gain upon the disposition
of any asset. In its simplest form,
basis is an owner’s investment in
the asset. For purchased property,
starting basis is the original price
paid. Basis can be increased (e.g.,
by making improvements to real
property) or decreased (e.g., after
a casualty loss reduces the value
of an asset), and can change
according to how it was acquired
and the nature of the eventual
disposition. For example, suppose
you make a gift of some appreciated
stock to your child. Your child will
assume your original basis in the
stock. On the other hand, let’s say
your child receives the same appreciated stock as part of his or her
inheritance. In this case, the basis
is adjusted to the fair market value
of the stock at the time of your
death. This is commonly referred
to as a “step-up” in basis.