Cash Gifts May Not Be Taxable, but Neither Are They Deductible
Q: We gave our granddaughter $10,000 from my wife’s Keogh this year. We had already started taking annual distributions from the account, although for a smaller amount. Our income tax preparer said the gift is not deductible. Our son, who is very knowledgeable about income taxes, says this is a one-time gift to a relative and is deductible. Who is right?
A: Well, not your smarty-pants son, that’s for sure. Gifts to individuals are never tax-deductible, one time or any time. This makes me wonder what other nonsense he’s been feeding you that could be injurious to your financial health.
If he were really smart about taxes, he would have warned you not to take the money from the Keogh. Keoghs are tax-deferred retirement savings accounts for the self-employed. That means you have to pay taxes, at your regular income tax rate, on every dollar you withdraw. And any withdrawn dollars are thus no longer earning tax-deferred returns. So in one fell swoop you’ve added hundreds of dollars to your tax bill while giving up hundreds or even thousands of dollars in tax-deferred future earnings.
Generally speaking, you should delay tapping your retirement funds for as long as possible to prolong the time you have to earn tax-deferred returns. Any gifts should be made from money that’s already been taxed.
I’m guessing your son confused the gift-tax rules with rules about deductibility. Gifts of $10,000 or less aren’t subject to gift-tax reporting rules, and financial planners often recommend such gifts as a way of reducing the size of your estate and thus any future estate taxes. This only becomes an issue when your estate is worth more than the exemption amount, which is currently $650,000. (And it may not be an issue at all if you don’t care how big a bite Uncle Sam gets after you’re gone.)
Next time, consult your tax advisor before you make a gift or take any other action involving a retirement fund. You’ll save yourself some grief at tax time.
Reopening Another Gift Discussion
Q: You recently answered a woman whose husband was resisting her efforts to give their children money by suggesting that he had a control problem. In fact, there are excellent philosophical reasons for not giving money to adult children. Just to name one: Making one’s own way in life is more fun, rewarding and fulfilling than just having the way paved. Thus, if parents give kids money, they may well destroy the kids’ initiative and self-reliance, which in my mind is a terrible thing to do. When thinking about estate planning, tax reduction is not the first thing to consider--the most important thing is family success.
A: Yours is an interesting point. I assumed that both parents had agreed on the basic philosophy that they wanted to help their children financially; the husband was, in fact, doling out money to the kids in small amounts but not enough to help them buy a house or start a business, which was the wife’s goal.
I also assumed that adult children would be that--adults, with personalities and money styles pretty well set.
Someone who is chronically in debt probably won’t be helped much by a financial gift; the relief will be temporary and last only until he or she racks up more credit card charges. Someone who handles money well, on the other hand, probably won’t be corrupted into a directionless loser by a cash infusion. Those are broad assumptions, of course, and might not always be true, but I think that for every trust fund delinquent there are many more hard-working people grateful for parental help in getting an education, buying a home or starting a business. What might actually be more destructive is the habit of turning to Mom and Dad for every small financial crisis. I do agree that as adults we have a responsibility to pay for the necessities and to save for the inevitable rainy days on our own.
In previous columns, I discussed how different families have different money philosophies. Some feel nothing short of an obligation to share the wealth with the next generation, while others have your sink-or-swim attitude. Many are somewhere in between, trying to decide when to give, how to give and on what basis (financial need, equal shares, etc.). What’s right for one family might not be right for another. Parents are under no obligation to help their adult children, but many choose to do so, and the results are as varied as the families themselves.
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Liz Pulliam is a personal finance writer for The Times and a graduate of the certified financial planner training program at UC Irvine. She will answer questions submitted--or inspired--by readers on a variety of financial issues in this column. She regrets that she cannot respond personally to queries. Questions can be sent to her at liz.pulliam@latimes.com or mailed to her in care of Money Talk, Business Section, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053. For past Money Talk questions and answers, visit The Times’ Web site at https://www.latimes.com/moneytalk.
