• Annual Exclusion Goes Up Next Year While Charitable Contributions Get A Boost This Year
  • October 6, 2005 | Author: Ronald D. Aucutt
  • Law Firm: McGuireWoods LLP - McLean Office
  • Although the Internal Revenue Service will probably not officially publish it until mid-November, it is now apparent that the "annual exclusion" for gift tax purposes will increase from $11,000 to $12,000 in 2006. Beginning in 1999, the then $10,000 annual exclusion has been increased for inflation, in $1,000 increments, by reference to the consumer price index for the twelve-month period ending August 31. By August 2001, the cumulative CPI increase had reached 10%, and the exclusion was increased to $11,000 for 2002. Now the cumulative CPI increase has reached 20%, and the second inflation-based increase will take effect.

    The annual exclusion is the amount that everyone is permitted to transfer by gift to anyone else each year without tax consequences and generally without a requirement to report the gift on a gift tax return. This exclusion is available only for gifts of "present interests." The simplest examples are outright gifts and gifts to custodians under the Uniform Transfers to Minors Act. Gifts in trust may qualify in special circumstances, but generally do not qualify. Examples of trusts, gifts to which may qualify in whole or in part as present interests, are trusts in which beneficiaries have certain withdrawal powers when gifts are made (often called "Crummey powers" after an early court case that considered their tax effect), certain trusts for minors until they are 21, and trusts that give a beneficiary an immediate income interest. Gifts of interests in closely held entities can present special issues.

    With an annual exclusion of $12,000, a husband and wife together can give $24,000 each year to each recipient, but if either the husband's gifts or the wife's gifts alone exceed $12,000, it will be necessary to file a gift tax return to "split" the gifts -- that is, to treat all gifts that year as made half by the husband and half by the wife.

    The increase to $12,000 will not take effect until January 1, 2006. For gifts made in 2005, the limit is still $11,000.

    Big Incentive for Charitable Contributions Before the End of 2005

    For the rest of 2005, however, Congress has provided some interesting and valuable opportunities in the Katrina Emergency Tax Relief Act of 2005, which President Bush signed on September 23. For hurricane victims, the Act relaxes the rules affecting forgiveness of debt, deductibility of casualty losses, and withdrawals from pension plans and IRAs. For employers, the Act provides various incentives to hire and retain workers in the Gulf Coast area. But perhaps the most important provision of general application in the Act is a provision suspending limitations on income tax deductions for many charitable contributions.

    The contributions favored by the Act are cash contributions before the end of 2005 to most "public charities" (including churches, schools, and medical facilities, but not including "donor advised funds," "supporting organizations," and "conduit organizations") and private operating foundations. Individual donors may deduct such contributions without regard to the usual limitation of such contributions to 50 percent of adjusted gross income and without reduction by 3 percent of the amount adjusted gross income exceeds $145,950. Individuals will receive this benefit for cash contributions, whether or not the contributions are actually used for hurricane relief (although a similar benefit for corporations is available only for contributions for Katrina relief efforts).

    Charitably inclined individuals with a substantial amount of cash or assets that can be converted into cash may find this temporary relief provision very beneficial. Again, to receive this benefit, contributions must be made in cash to certain charities and must be made before the end of 2005. All qualified cash contributions after August 27 and before the end of the year may receive this favorable treatment at the contributor's election.

    Any member of the McGuireWoods Private Wealth Services Group will be happy to help with such contributions, including determining whether any proposed recipient organization qualifies under the statute.

    Estate Tax Legislation On Hold

    Meanwhile, Hurricanes Katrina and Rita have proven to be setbacks to the legislation that had been scheduled for early September to substantially reduce federal estate tax rates. While supporters still speak of action in October or early November, enactment of what appear to be large tax cuts for a few people when so many in the Gulf states have lost everything may be viewed for the time being as too insensitive. Chances of legislation that appeared to be about 50-50 in August have declined since Katrina and Rita.