Trending
Parents know that there are significant financial commitments involved in raising even just one child. By some estimates, it costs about $332,000 to raise a child from birth to 18 years old and that doesn’t include college, which could easily run well into six figures.
None of that includes the financial support some parents and grandparents provide to adult children/grandchildren. Point is having kids will result in mom and dad extending a variety of financial “lifelines,” many of which take the forms of gifts and so-called loans.
What many folks don’t realize is that there are tax implications regarding both ways of helping family members out, meaning advisors can help clients navigate the process. But let’s first answer one of the most frequently asked questions. No, cash gifts and the like extended to family members are NOT tax deductible. The IRS confirms as much.
“Making a gift or leaving your estate to your heirs does not ordinarily affect your federal income tax. You cannot deduct the value of gifts you make (other than gifts that are deductible charitable contributions),” according to the agency.
Tax Implications for Gifts
Family members can gift an individual relative up to $18,000 annually, but once the gift exceeds that amount, the “giver” must file a Form 709 with the IRS. That doesn’t guarantee there are tax consequences to that form of financial support.
“You won't necessarily owe taxes on bigger gifts, assuming you haven't exhausted the lifetime gift tax exemption of $13.61 million per individual ($27.22 million for a married couple), which is the total amount you can give away tax-free during your life,” according to Charles Schwab. “Be aware, though, that the exemption will be cut in half at the end of 2025 unless Congress extends this provision.”
Put simply, even if the Tax Cuts and Jobs Act (TCJA) isn’t renewed next year, clients will still enjoy significant latitude when it comes to tax-free gifting over their lifetimes, but advisors should ensure they are not exceeding the $18,000 annual per relative limit because that when the tax man could cometh.
Loans Are a Different Ballgame
There’s an old theory that intrafamily loans ultimately end up to be gifts because the recipient doesn’t pay the full amount back to the lending relative, if they pay anything back at all. Plus, a loan implies there is interest being charged and that there are clearly defined repayment terms.
Short of getting a lawyer to draw up a contract, which would likely be off-putting to the recipient, it’s hard for the family member extending the loan to charge and receive interest and enforce repayment. But let’s say all of that materializes. It opens the door to variety of issues that could garner unwanted attention from the IRS.
“Should you fail to charge an adequate interest rate, the IRS could treat the interest you failed to collect as a gift. What's more, if the loan exceeds $10,000 or the recipient of the loan uses the money to produce income (such as using it to invest in stocks or bonds), you'll need to report the interest income on your taxes,” adds Schwab. “There's also the question of delinquency to consider. When a family member can't repay a loan, the lender rarely reports it to a credit bureau, never mind a collection agency. However, should the lender want to deduct a bad loan on their taxes, the IRS requires proof of an attempt to collect the delinquent funds.”