Should or can you undo large taxable gifts from 2010?
Last year many estate planning attorneys encouraged their clients to make taxable gifts before tax rates were expected to rise this year. The advice made sense since lifetime gifts are a key estate planning tool. They reduce tax burdens on an estate, and if the assets increase in value after being disbursed, the appreciation is tax-free.
Because both the gift tax and the estate tax were scheduled to increase to 55 percent in 2011, last year’s 35 percent gift-tax rate on gifts greater than $1 million seemed like less of a sting.
Expect the Unexpected
However, because of a sweeping tax overhaul that Pres. Obama signed Dec. 17th, the amount you can transfer tax-free during life went up from $1 million to $5 million ($10 million for married couples). As a result, many individuals are now trying to figure out how to reverse those 2010 taxable gifts.
If some of these lawyers had instead told their clients to wait until 2011 to make gifts, it might have been possible to avoid gift taxes entirely. What’s more, the tax on transfers that exceed the limit stayed at 35 percent, instead of going up to 55 percent.
The new rules don’t affect the annual exclusion. Individuals can still give as much as $13,000 per year ($26,000 for couples) to as many people as they like without it counting against the lifetime limit. However, individuals who were far more generous than that could develop a bad case of donors’ remorse on April 15th.
So Now What?
Unfortunately, fixing this problem isn’t as simple as it might seem.
The formal act of turning down a gift or inheritance is called a disclaimer. The receiver of the gift must disclaim within nine months of receiving it and may not have accepted any interest in the asset or any of its benefits.
These rules might not pose an obstacle for those who transferred shares in a family limited partnership. But if an individual transferred shares of publicly traded stock or cash and the recipient did anything to make the disclaimer invalid, or if the gift recipients sold the assets or otherwise already benefitted from them, it is a problem. Furthermore, there is no choice of a disclaimer if the recipient of a cash gift has already spent most of the money.
You Don’t Have to Re-Write History
Simply returning a gift might seem like a smooth fix. But the person returning it is, in turn, making a gift of his own, which requires using his own gift tax exemption. Plus, it does not keep an original donor from owing a gift tax on April 15th.
One possible solution being suggested is a legal doctrine called rescission. Rescission requires a showing that there was a mistake in judgment made based on what the tax rates were expected to be in 2011, rather than a mistake of material fact.
If there is no third-party record of a gift, individuals might be tempted to rewrite history, meaning that those gifts suddenly “never happened.” This is a bad idea, however, and individuals who find themselves facing this dilemma should think twice before trying to defraud the IRS.