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Wednesday, May 1, 2024
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Case Studies |
The Annual Exclusion Gift Annuity
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Case:
Keith and Miriam Miller, ages 90 and 89 respectively, have one niece whose name is Joni. Joni has been the beneficiary of her aunt & uncle's generosity each year, receiving up to $26,000 in annual gifts. Keith and Miriam were told by their financial advisors a number of years ago that using the annual exclusion was one way to transfer a portion of their estate to others completely free of gift and estate taxes. One of the estate planning goals that they have for Joni is that she continue to receive the $26,000 annually after they pass away. They feel that she has come to financially rely on this annual gift and, therefore, desire to continue an income stream to her for the rest of her life.
Keith and Miriam have a modest estate and have been living a comfortable retirement. Most of their investments are in very conservative and safe investments such as blue chip stocks, bonds and money market accounts. They made the decision some years ago that when they pass away, they would like to transfer the majority of their estate to charity. Keith and Miriam have been philanthropists all of their lives and feel that transferring their values to Joni has been their primary goal, as opposed to transferring a great deal of wealth to her. They feel that they have accomplished this goal, as Joni has been involved in working with inner-city children ever since she graduated from college. The way their estate plan is written, Joni will receive $250,000 when they are gone, with the balance of their estate passing to their favorite charities.
This year, Miriam received a bequest of $600,000 from her brother, who recently passed away at the age of 92. Since their retirement is quite comfortable, Keith and Miriam discussed giving a major portion of this money to charity during their lifetimes, but they also felt like some of this money could be used for a dual purpose – not only for gifting purposes but also for providing a lifetime income stream of approximately $26,000 per year to Joni.
Question:
Keith and Miriam are considering the transfer of a portion of this bequest to charity but would like to provide an income stream for Joni as well. What is the best method to achieve both of these objectives?
Solution:
Keith and Miriam decided to pose this question to the Director of Gift Planning at one of their favorite charities. The Director stated that an ideal plan would be to create a gift annuity for Joni that would pay her lifetime income. Based on the American Council on Gift Annuities rates and her age of 64, Joni would be paid at a rate of 4.6%. Keith and Miriam would transfer $565,210 to charity to create the gift annuity. Based on a 4.6% payout, Joni would receive $26,000 per year. The Director also noted that Keith and Miriam would receive a current charitable income tax deduction and almost $19,000 of the amount Joni receives each year would be tax-free. However, there is one problem – a gift tax consequence.
As a result of creating the gift annuity for Joni, the present value of the annuity is $387,122. This sum represents a taxable gift for gift tax purposes and therefore would require the filing of a gift tax return Form 709. Even though no gift tax would be due, since Keith and Miriam would use a portion of their lifetime exemptions, they would still be required to file Form 709.
Keith asked the Director if there was a way to avoid reporting a taxable gift and filing a gift tax return. The Director stated that in fact there was a way to avoid filing the gift tax return. Keith and Miriam can keep the right, in the gift annuity contract, exercisable only by will, to revoke Joni's gift annuity payments within the gift annuity contract. The right to revoke will render the gift incomplete as to the present value of Joni's annuity. The only completed gifts that occur will be the annuity payments each year which will be sheltered by the annual exclusion.
The only problem with using the revocation power is that there will be estate tax consequences. Assuming that Miriam creates the gift annuity for Joni with what is assumed to be her separate property (she alone inherited these funds from her brother), the value of Joni's annuity at Miriam's death is includible in Miriam's estate under Sec. 2038. However, this does not present any estate tax problems, because the value of both Keith and Miriam estate is less than the estate tax exemption amount.
Keith and Miriam are very pleased with this arrangement and decide to fund the gift annuity for Joni. They make a substantial gift to charity, provide Joni with lifetime income and do not need to file a gift tax return!
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