With the holiday season upon us and tidings of good cheer in the air, our collective instincts for generosity often peak. It’s worth considering perhaps a better way to give this year if you happen to have some appreciated stock positions in your portfolio.
What kind of gifting? A person can gift appreciated securities to organizations like charities and receive a charitable deduction for the full fair market value of the asset transferred. But, a person can also gift appreciated securities to individuals like family members or friends, which is the key concept this article explores.
What’s the tax ramification to the recipient (non-charity)? The recipient has no immediate tax ramification but instead maintains the donor’s tax basis and holding period (for purposes of determining long and short-term capital gains). So, if dad transfers appreciated ABC stock that he owned for over a year with a tax basis of $15 per share to son and son then sells the stock for $75 per share, son will recognize a $60 per share long term capital gain which will be taxed at his federal long term capital gains tax rate.
Why stocks? Really, we can use any appreciated asset. It just happens to be super convenient to utilize marketable securities and stock/bond funds as the asset value is readily ascertainable on the open market. Other assets (like appreciated real estate) are more difficult to value and require a qualified appraisal (which both takes time and costs money).
Can a person gift from a retirement account? No. This only works with non-qualified (non-retirement) assets.
Is there a tax benefit? There is potential for the donor (call him “Dad”) to both transfer the tax obligation and mitigate or eliminate the tax liability for the family. For example, assume Dad is a high-earner and transfers $15k worth of stock to son. As a reminder, an individual can gift up to $15,000 per year to another person without any need to account for the gift and no need to file a gift tax return. A married couple can give double that amount. Assuming that the tax basis on the stock gifted is zero, if Dad kept the stock and sold it, he might have incurred taxes as high as 23.8% ($3,570 in tax). Then, Dad could have gifted the resulting cash (after payment of taxes) to son in the amount of $11,430. How about instead he gifts the same stock to his son? Here we look to the son’s income tax bracket to determine if there is a net gain to the family. If son has lower income, he can potentially pay less in tax. And, if he has really low income, he can pay as little as 0% tax (the 2021 tax rate for individuals with under $40,400 of taxable income is 0%).
Does gift to family jeopardize any benefits? Maybe. In the example above, the sale of the stock would raise the son’s taxable income. This might jeopardize benefits the son receives through programs like the Affordable Care Act (Obamacare) or financial aid for college. So, any donor should consider the effects of the recipient recognizing more income. Certainly, if the son would lose a valuable benefit based on the higher reported income as a result of the gift, the donor should consider gifting cash instead of appreciated securities as a gift of cash is not reported as income to the recipient.
Give me an example of where this strategy might work. Assume son just finished college or a professional degree and son is starting his first job late in the calendar year or early next year. Let’s assume that first job also provides health insurance coverage. Dad can then consider making a gift to son of appreciated stock late in this calendar year. The son’s income for this calendar year would be low (only working for a month or two in the calendar year) and son no longer needs to qualify for financial aid for school, and son’s health care is already covered. This might be a great situation to consider gifting some appreciated stock to the son to allow him to capture the lower capital gains rate (maybe as low as zero) on his tax return.
Or we can change the facts slightly to yield a more common scenario. Assume son is working for $60k a year and is married to a spouse that stays home with the kids. For a married couple filing jointly, the long-term capital gains rates stays at zero until the couple reports over $80,800. So, Dad can gift up to 20,800 of appreciated stock–representing the amount to get the son’s income up to $80,800, but not above. Then, son (and his spouse) can sell and pay zero associated capital gains.
As always, work with a qualified advisor to find opportunities to give and maybe mitigate some tax liability at the same time.
* Licensed, not practicing.
The opinions voiced in this material are for general information only and not intended to provide specific advice or recommendations for any individual or entity. This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.
This material was created for educational and informational purposes only and is not intended as tax, legal or investment advice.
Securities offered through LPL Financial, Member FINRA/SIPC. Investment Advice offered through Cornerstone Wealth Strategies, Inc., a registered investment advisor and separate entity from LPL Financial.