Wealth Management

For 2022, the unified gift and estate tax exemption is set at $12.06 million, adjusted for inflation, up from $11.7 million for 2021. For many families, this means estate tax liability won’t be a concern. However, others may still benefit from using the annual gift tax exclusion as an estate planning strategy, especially since future tax law changes may lower the gift and estate tax exemption. 

For this reason, a Crummey trust can still serve as an important part of your estate planning strategy.

Limitations on the annual gift tax exclusion

For 2022, the annual gift tax exclusion allows you to give gifts valued up to $16,000 per recipient without incurring any gift tax. This $16,000 amount is indexed for inflation, but only in $1,000 increments.

For instance, this means that if you have four adult children and six grandchildren, you can gift each of them $16,000 this year (for a total of $160,000) without paying any gift tax. Since this exclusion is per donor, the amount is doubled for married couples.

However, when giving outright gifts, there is always the risk that the money or property could be wasted, especially if you’re giving to a recipient who may be young or irresponsible. 

As an alternative, you can transfer assets to a trust that names your child (or another recipient) as a beneficiary. This setup allows your designated trustee to manage the assets until the recipient reaches a specified age.

But this strategy comes with a catch, because gifts must be a transfer of a “present interest” to qualify for the annual exclusion. In this context, a “present interest” means the recipient has an unrestricted right to the immediate use, possession, or enjoyment of the income or property included in the gift. 

Because of this, a gift made to a trust won’t qualify as a gift of a present interest unless certain provisions are made in the trust language. Instead, it will be considered a gift of a “future interest” and won’t be eligible for the annual gift tax exclusion.

How a Crummey trust can help

A Crummey trust can offer a solution here. Crummey trusts satisfy the rules for gifts of a present interest but don’t require the trustee to distribute the assets to the beneficiary.

In a Crummey trust, periodic contributions of assets can be coordinated with an immediate power that gives the beneficiary the right to withdraw the contribution for a limited time. The expectation of the donor, however, is that the power won’t be exercised. (This cannot be expressly provided for in the trust document.)

These gifts will not be treated as a gift of a present interest due to the beneficiary’s limited withdrawal right, allowing gifts to the trust to qualify for the annual gift tax exclusion. Note that the tax outcome is determined by the existence of the legal power and not the exercise of it.

Additional requirements

To ensure your Crummey trust will hold up under IRS scrutiny, you must give the beneficiary actual notice of the withdrawal right, as well as a reasonable period (typically at least 30 days) to exercise it. 

If you have further questions regarding the use of a Crummey trust, contact us.

© 2022

For 2022, U.S. taxpayers may transfer up to $12.06 million by gift or bequest without triggering federal transfer taxes, thanks to the highest gift and estate tax exemption in history. 

However, this historically high exemption may not last forever. Unless Congress chooses to pass further legislation, the exemption amount is currently scheduled to drop to $5 million, adjusted for inflation, in 2026. 

If you’re like many taxpayers, you may be thinking about making a substantial gift to take advantage of the current exemption before it expires. However, many commonly gifted assets like family limited partnerships (FLPs) and closely held businesses can be risky because they are difficult to value. 

To avoid unexpected tax liabilities, you may want to consider a defined-value gift.

Defined-value gifts

To put it simply, a defined-value gift consists of assets that are valued at a specific dollar amount (as opposed to a specified percentage of a business entity, FLP units, or a certain number of stock shares).

Properly structured defined-value gifts are useful because they don’t run the risk of triggering an assessment of gift taxes. In order to properly implement this strategy, the defined-value language in the transfer document must be drafted as a “formula” clause and not as a “savings” clause.

While a savings clause provides for a portion of the gift to be returned to the donor if it is ultimately found to be taxable, a formula clause will transfer a fixed dollar amount that is subject to adjustment in the number of units or shares necessary to equal that dollar amount. This adjustment will be based on the final value determined for those units or shares for federal gift and estate tax purposes.

Using the right language

It’s vitally important to use certain specific, precise language in the transfer documents for defined-value gifts. Otherwise, the gift may be rejected as a defined-value gift by the U.S. Tax Court. 

Take, for example, a recent court case involving an intended defined-value gift of FLP interests. In this case, the Tax court decided to uphold the IRS’s assessment of gift taxes based on percentage interests, despite the donor’s intent to structure the gift as defined-value. 

The Court’s reasoning? The transfer documents had called for the FLP interests to be transferred with a defined fair market value “as determined by a qualified appraiser.” However, the documents made no provision to adjust the number of FLP units if their value was “finally determined for federal gift tax purposes to exceed the amount described.” 

As a result, the court ruled that a defined-value gift had not been achieved.

We can help you make a defined-value gift

As you can see, an effective defined-value gift requires carefully and precisely worded transfer documents. If you plan to make a substantial gift of hard-to-value assets, contact us for assistance. We can work with you to help you avoid unexpected tax consequences from your gift.