Gifting Money to Family Members: Everything You Need to Know

June 23, 2021
financial gifting

Gift money is the amount of money you can legally give to a family member or anyone else you care about without being taxed.

There are many reasons you may want to gift money to family members. When it comes to children in particular, the assets you build for them now will provide them with a major financial advantage in the future.

And with an expected annual inflation rate of 2.25% (on the low to moderate end), they might need it.

By contributing to an account early, you could be helping them fund anything from a gap year in a foreign country to their college tuition. Whatever the case may be, there are several ways to go about giving a family member money. 

We’ll walk you through how much you can give, tax considerations you should be aware of, and the best types of accounts you can use to gift money to family members who aren’t yet adults. 

How Much Money Can You Gift a Family Member in 2021?

If you want to gift money to a family member, that’s fantastic. Rather than just give the children you love a cheap toy that’ll end up at a garage sale, gifting money is a way to invest in that child’s financial future.

But you’ve got to bear in mind that the Internal Revenue Service (IRS) has rules on how much money you’re allowed to give without paying tax on that gift.

The IRS rules on gifting money are laid out in a piece of legislation called the “gift tax”. For 2021, the gift tax exclusion has been set at $15,000 per person per year for a joint filer.

For example, that means you can give up to $15,000 worth of monetary gifts to your son, up to $15,000 in gifts to your daughter, and up to $15,000 in cash to your little cousin. 

But if you gave any one child more than $15,000, any amount over the threshold eats away at your lifetime gift tax exclusion amount, which is $11,700,000 as of 2021.

Illustration of baby walking from one adult to another

If you’re joint-filing your tax return with a partner, as a couple you’re allowed to give $30,000 worth of monetary gifts to each child before it reduces your lifetime exclusion.

Gift Tax Considerations

OK, so we’ve covered the basics of the IRS gift tax. Now, let’s really break down the details of the gift tax, annual exclusion, and other taxes you’ve got to consider when gifting money to family members.

Rules on taxing gift money 

The gift tax has been around for a pretty long time. It was first introduced in 1924, and was originally designed as a new way to keep rich families from dodging estate taxes by passing down real estate.

Generally speaking, the gift tax regulates the transfer of property from one person to another person in situations where the receiver doesn’t pay full market value for that property.

Translation: when there’s an asset changing hands for free, that’s a gift. That gift can be money, stock shares, real estate, or a range of other financial assets.

The gift tax applies to both family members and non-family members. That means if you gifted money to a child that you aren’t related to, you’d still need to pay the gift tax if you gave the person any amount exceeding your exclusion threshold.

Tax limitations and exemptions

The annual exclusion threshold is currently $15,000 per person per year — and your lifetime exclusion means you can donate up to $11.7 million over the course of your lifetime tax-free. If you joint file with a spouse, you can give up to $30,000 per person per year.

Illustration showing cash stacking up to create lifetime exclusion amount.
(Image source)

There are a couple of other exemptions you can legally take advantage of to gift above this amount each year.

The first way to avoid the annual exclusion threshold is the marital deduction. 

Under gift tax rules, you’re allowed to gift as much money as you want to your legal spouse without having to pay the gift tax or an estate tax. But the marital deduction only applies if your spouse is a US citizen.

Some education or medical expenses are also exempt from the gift tax — although in the case of education, this only applies to tuition fees. Giving a child money to buy textbooks wouldn’t count. 

If you gift assets to pay for education or medical expenses, you’ve got to make the payment directly to a healthcare facility, insurance company, or school.

There are a couple other exemptions, too — but they don’t really apply to gifting money to family members. For example, most charitable donations are exempt from the gift tax.

Other types of taxes to consider

The IRS gift tax isn’t the only type of tax you’ve got to bear in mind when gifting money to family members. You may also need to be aware of the IRS estate tax, inheritance tax, and capital gains tax.

The IRS estate tax applies when a person dies and wants to pass their assets down to family members.

If you die, your assets are generally going to be subject to an estate tax, depending on where you lived and how much money your assets were worth. 

But a large proportion of taxpayers aren’t going to have to worry about the estate tax. For 2021, the estate tax only applies to the assets of an individual whose assets were worth more than their remaining lifetime exclusion amount. 

This means if you’ve never gifted more than your annual exclusion amount, your assets would have to be worth more than $11.7 million for this tax to apply.

If your assets are worth less than the exemption amount, any unused portion of your exemption amount can be passed on to your surviving spouse. You can make estate tax claims using IRS Form 706.

Screenshot of IRS Form 706.
(Image source)

Next, there’s the inheritance tax

Unlike the estate tax, an inheritance tax is applied on a state level. As a result, the rules vary from state to state. 

In some states, the spouse and children of a deceased person are exempt from an inheritance tax — in some states, the person receiving the assets must pay a tax whether they’re related or not.

Finally, there’s the capital gains tax.

You don’t have to pay capital gains on any gift with a value under the annual exclusion limit. And as the person receiving a gift, you don’t get taxed on the gift at all — unless you decide to sell the gift later.

If the asset you’ve been gifted appreciates in value and then you decide to sell that asset, you’ll likely have to pay capital gains tax. 

The exact amount you’d have to pay depends on the profit and what state you live in. But generally speaking, this shouldn’t apply to a cash gift in the same way it would apply to the gift of stock or real estate.

How to pay gift tax

If you end up gifting money that goes above and beyond the annual exclusion threshold, you’ll have to declare it when you file your annual taxes.

To do this, you’ve got to use IRS Form 709 when filing your annual tax return.

You need to complete and submit Form 709 for any year that you make a taxable gift. 

Sending in the form doesn’t necessarily mean you’ll have to pay anything on the gift — it’s just the form you’ll need to use to declare the gift.

Screenshot of IRS Form 709.
(Image source)

If the IRS lets you know that you’ve got to pay tax on your monetary gift, you’ll be given an amount and can pay in a number of ways immediately or via an agreed payment plan.

These payment methods include:

  • Pay online when you e-file your return
  • Direct pay from your checking or savings account
  • Credit or debit card online, over the phone, or via mobile
  • Pay with cash at a participating IRS retail partner
  • Pay in monthly installments online using the IRS Online Payment Agreement tool

Gifting Money to Underage Family Members

If you want to gift money to the children in your life, there are a few extra considerations you should bear in mind. The biggest issue you’ve got to think about is how you’re going to gift funds to the kids you love.

After all, there are a few different investment vehicles you can use to gift money — and each one comes with its own set of pros and cons.

Ways to legally gift money to minors

The easiest way to gift money to a minor is to give them cash. Why is it the easiest option?

Simply put, it’s convenient. All you’ve got to do is go to the ATM, take out some bills and hand them over to the kid you love. But if you press pause for a couple of seconds, you might realize that gifting cash isn’t always the best idea.

Think about it: if you just hand $500 over to a kid, there’s probably a good chance that money will end up getting spent pretty quickly on video games or pieces of the latest tech that will end up in a dumpster in a couple of years’ time.

So if you want to gift money to a child in a way that will offer them long-term benefits, there are a number of tax-beneficial investment options you may want to explore.

Custodial accounts

One of the most popular ways to gift money to a child is through a custodial account.

A custodial account is an investment vehicle that enables you to save up assets for a named beneficiary until they come of age. Whoever sets up the account acts as the custodian of the account assets and manages the funds in the account. 

Father with daughter on shoulders walking past bar chart.

But when the child reaches the age of majority in their state, the custodianship ends, and the named beneficiary gains control over what’s in the account. 

That age is either 18 or 21 in most states.

There are two types of custodial accounts: Uniform Gifts to Minors Act (UGMA) accounts and Uniform Transfers to Minors Act (UTMA) accounts. Both account types are named after the legislation that created them, and they’re pretty similar in principle.

UGMA accounts are designed to hold common financial assets like money, stock shares, mutual funds shares, or exchange-traded funds (ETFs). You can set up a UGMA custodial account in any US state.

A UTMA account is pretty much the same, apart from the fact that it can also hold less common assets like fine art or intellectual property. UTMA accounts aren’t legal in all 50 states, and the age of majority is often higher.

For those reasons, most families choose the UGMA option.

No matter which type of custodial account you go for, you’ll typically enjoy tax savings. 

Because the assets in a custodial account legally belong to the child beneficiary, unearned income generated in the account is charged at the child’s lower tax rate — although only up to a threshold of $2,200 per year. Anything above that amount will be taxed at the custodian’s tax rate.

Trust fund

A trust fund is an investment vehicle families often choose to plan estates. Setting up a trust fund establishes a legal entity that can hold assets. Trust funds appoint a neutral third party called a “trustee” to manage those assets.

Trust funds can hold assets like money, stocks, bonds, real estate, and everything in between.

There are a variety of trust fund types, including a revocable trust and an irrevocable trust.

A revocable trust lets the person whose assets are in the trust (the “grantor”) change the rules or even shut the trust down in their lifetime. 

An irrevocable trust is a type of trust in which the terms of the trust can’t be changed. As a result, it includes a major tax benefit for the gifter because property transferred to an irrevocable trust doesn’t count towards the total value of their estate.


Infographic showing three roles in a trust fund: a grantor, trustee, and beneficiary.
(Image source)

With a revocable trust, you won’t generally receive a lot of tax benefits — and they also lack asset protection. Because the assets placed in a revocable trust are still your legal property, creditors will be able to take that money if you run into financial trouble.

Conclusion

The truth is, this is just the tip of the iceberg. There are a variety of ways to gift money to family members, and there are plenty of reasons to do it.

But if you want to gift money to young family members in a tax-efficient way, one of the smartest ways to do it is through a UGMA custodial account — and if you want to supercharge the benefits of setting up a custodial account, you can’t do better than EarlyBird.

By setting up a custodial account using the EarlyBird app, family, friends, co-workers, and anybody else can gift money to a child in just a few swipes. 

You can then choose between a number of investment portfolios based on your investment style, contribute over time, and build a pretty big nest egg for a child by the time they come of age.

Download the EarlyBird app now and start gifting money to your family members.

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