GIVE A GIFT WITH MEANING AND WORTH

Key Points

• A Gift for Children, a Tax Break for You
• Benefits of UGMA/UTMA Accounts
• Gifts for Adults
• Other Gift Options
• Know the Liabilities Before You Give
• A Few Considerations
• Points to Remember

A special child in your life is about to reach a milestone: 13 years of age. You have no idea what's in these days for kids in that age group. The latest computer simulation game? A hot-selling compact disc? Well, maybe, but which one?

In addition to the birthday dilemma, your friends are getting married soon, and you don't have much time to shop for a gift. A check or cash can seem so impersonal; you'd rather give them something with meaning. What can you do?

Consider a gift offering years of potential: investments or assets that may increase in value over time. In 2002 the IRS allows you to give up to $11,000 annually (or $22,000 if you give jointly with your spouse) to as many people as you like in cash, investments, and/or property without triggering gift taxes. This limit may be adjusted for inflation in some years. Couple that with a bit of creativity and you have gifts that can potentially benefit you as well as the recipients.

A Gift for Children, a Tax Break for You

Along with The Uniform Gifts to Minors Act or The Uniform Transfers to Minors Act (UGMA/UTMA — depending on your state), the tax break associated with gifts of up to $11,000 annually can help benefit parents and grandparents, as well as children, by diminishing the overall contribution to Uncle Sam’s wallet. This can be especially beneficial for adults looking to minimize their estate taxes.

An UGMA/UTMA account allows you to establish a savings or investment account in a child’s name, with one adult named as custodian. Each parent can contribute up to $11,000 annually without triggering a gift tax, and these funds can be used to secure the child’s future — whether they are for college, marriage, buying a house, or other financial challenges looming in the future. Options can include savings accounts; Series EE U.S. Savings Bonds; individual securities such as stocks, Treasury bills, and zero-coupon bonds; and mutual funds.

Eleven thousand dollars, however, may seem like a lot to bestow in one year's time. Although most mutual funds have initial investments of $1,000 to $2,500, many lower those requirements on custodial accounts.

Consider the value that even smaller gifts can provide over time. For example, a $250 investment made in Standard & Poor’s Composite Index of 500 Stocks (S&P 500) on January 1, 1992, would have grown to $844 by the end of 2001 if left untouched.* And continuing to make contributions over that 10-year period would have put an 18-year-old entering his or her freshman year a bit further ahead in meeting the college-funding challenge.

Through UGMA/UTMA, the first $750 per year of unearned (investment) income is tax-free. For children under 14, and anything above that up to $1,500 is taxed at the child's rate. Beyond $1,500 for children under 14, the income is taxed at the higher of the parent's or child's rate. For children over age 14, all income is taxed at the child's rate.

Benefits of UGMA/UTMA Accounts

• The IRS allows tax-free gifts of $11,000 per child, per year; this limit was raised in 2002 and may be again adjusted for inflation in future years.
• Some mutual funds allow small initial investments.
• Earnings carry tax benefits, depending on amount and child's age.  

Gifts for Adults

Remember that asset gifts are not limited to children. You can also give adults up to $11,000 a year as well (to as many people as you like) — and it can be in cash, investments, or property such as land or a piece of artwork. Keep in mind, however, that the IRS considers the value of the gift — its cost basis for purposes of computing gift tax — to be its value at the time that it's given, not when you originally purchased or invested in it.

Other Gift Options

If you don't feel comfortable with giving substantial gifts directly to your recipients, the IRS allows you to pay for someone's college tuition or medical expenses — tax exempt — as long as you write the check directly to the institution. Known as a qualified transfer, this option has no limits for amounts contributed.

Know the Liabilities Before You Give

• Children have 100% access to UGMA/UTMA accounts at age of majority.
• Giving money for college savings can diminish the amount of financial aid your recipient will be eligible for.
• Adults who sell/redeem gifts for profit must pay capital gains taxes.  

A Few Considerations

Although UGMA/UTMA accounts can be especially good vehicles for college savings, gift givers should bear in mind an important fact: Because students are generally expected to contribute a greater percentage of savings to their education than parents, any assets held in their names can reduce the amount of financial aid they will receive.

And a word of caution: Although UGMA/UTMA accounts are administered by custodian adults while the children are children, when they reach the age of majority — 18 in most states — the money belongs to them, free and clear. They can do whatever they want with it (regardless of your initial intentions and wishes) and are also fully responsible for paying taxes on all earnings. For these and other reasons, it's wise to give a child the gift of financial education and responsibility along with the account. Some mutual fund companies offer funds especially for children, providing such marketing tools as newsletters, coloring books, and other fun items designed to help educate this age group about the benefits of investing.

When giving investment gifts to adults, you might want to warn your recipients that, should they decide to sell or redeem your gifts, they will be responsible for any taxes on the capital gains.

The next time you find yourself searching for the perfect gift with a bit of special meaning behind it, consider giving assets that will likely appreciate over time. Offering potential benefits to both you and your recipients, such gifts can mean — and actually be worth — much more in the years to come.

*Source: Standard & Poor's. The S&P 500 is an unmanaged index of common stocks generally considered representative of the U.S. stock market. Past performance does not guarantee future results, and individuals cannot invest directly in any index.

Points to Remember

1. Gifts of cash, investments, and other assets can offer benefits to you as well as your recipients.
2. The IRS allows you and your spouse to each give up to $11,000 per year to as many people as you like without triggering gift taxes. This limit may be adjusted for inflation in the future, rising by $1,000 for every 10% increase in inflation.
3. This can be especially beneficial for people looking to minimize their estate taxes.
4. The Uniform Gifts to Minors Act or Uniform Transfers to Minors Act (UGMA/UTMA) allows you to set up an investment account in a child's name with an adult named as a beneficiary.
5. Although many mutual funds require initial investments of at least $1,000, many lower their requirements for a custodial account.
6. Through UGMA/UTMA, $750 to $1,500 per year of unearned (investment) income is taxed at the child's rate for children under 14; anything above that is taxed at the higher of the parent's or children's rate. Children over 14 pay taxes at their rate.
7. Because students are expected to contribute a greater percentage of savings to their education than their parents, any assets held in their name can reduce the amount of financial aid they will receive.
8. When children reach the age of majority, all assets in their UGMA/UTMA accounts are theirs.
9. You can give gifts of up to $11,000 a year in cash, investments, or property to adults, as well.
10. If your adult recipient decides to sell or redeem your gift, he or she will be responsible for any capital gains tax.