Before your family comes to you with hands out, think about how you might want to help a relative who is in trouble because of a job loss or general fiscal irresponsibility.
Simply doling out cash is rarely the best approach. And if you don't follow IRS gifting rules, there could be tax consequences for your generosity. (More on that later.)
Here are some options to consider.
1. Fund education accounts.
A 529 plan is probably the smartest way to save for a college education. Money contributed to a 529 account grows tax-deferred, and if used for education expenses, the earnings are tax-free.
You can make an annual gift of $13,000 directly to 529 plans. Even better, the IRS offers a special five-year deal: You may contribute $65,000 -- five years of gifts -- in one year without triggering a gift tax. Married couples can contribute $130,000 in one shot.
"In many states, a state tax deduction or credit is available for contributions to the home state's 529 plan, and in a few states, a credit for contributions to other states' 529 plans is available,'' says Sam Fawaz, a certified financial planner and CPA with YDream Financial Services in Franklin, Tenn., and Canton, Mich.
2. Pay directly for college.
If the student in your life already attends college, you can pay tuition expenses to the university. The IRS allows an unlimited exclusion for the direct payment of tuition.
"The exclusion is for tuition only, and payment must be made directly to a qualifying educational organization,'' says Frederick Schoenbrodt, an estate planning attorney with Neff Aguilar in Red Bank, N.J. "The unlimited exclusion does not apply to amounts paid for room and board, books and supplies.''
A grandparent's or other giver's payment of nontuition expenses would be treated as gifts to the student.
3. Pay medical bills.
If your adult child, a sibling or other relative has incurred significant medical bills, you can pay an unlimited amount towards those bills without a tax consequence as long as you pay directly to the medical provider. Giving the money to your adult child to pay the bills won't work and would be considered a gift.
The unlimited exclusion includes amounts paid for medical insurance for another individual, Schoenbrodt says, but it would not apply for medical care that is reimbursed by the patient's insurance.
4. Pay bills.
Helping family members in need pay their mortgages or utilities is an admirable gesture. But if you pay bills for others in excess of $13,000 per year ($26,000 for married couples) there will be gift tax consequences -- even if you pay directly to the bank or service provider.
5. Gift property.
Instead of gifting the home, consider an intra-family loan, Schoenbrodt says.
For example, a parent could loan money to a child to purchase the home in exchange for a promissory note with IRS-approved interest rates. In November 2010, the stated interest rate on a long-term note (any term over nine years) could be as low as 3.32 percent. For a mid-term loan (any term over three years but not more than nine), the rate could be as low as 1.58 percent.
"The parent could also forgive portions of the amount due,'' Schoenbrodt says. "Any such forgiveness of indebtedness would be a gift to the child. That gift could qualify for the annual gift tax exclusion.''
Another option is to use a Qualified Personal Residence Trust (QPRT). This is an estate planning strategy in which a parent or other family member establishes a trust and transfers ownership of the home to the trust. The parent retains the right to use the residence for a set time period as stated in the trust. At the end of that time period, ownership of the home would be transferred to the beneficiaries -- your children.
6. Take a family vacation.
Your adult children may not feel comfortable sharing their money troubles with you, and they may not want your charity. Instead, do something to at least temporarily alleviate some of the stress and strain of their financial problems.
Take them all on a vacation.
Some of my kids' happiest memories of their grandparents are from family vacations -- all paid for by Grandma and Grandpa. My parents took the entire family to Disney World so they could enjoy watching my kids meet Mickey Mouse for the first time. Another time they took the whole gang on a 10-day cruise.
The payment of vacation expenses would technically be a gift and count against the grandparents' annual exclusion for that beneficiary, Schoenbrodt says.
But in practice, this gift of memories isn't something the IRS is likely to tax.
A Final Word About Gifting Rules
Before you gift anything, it's important to understand the tax implications.
You have a $1 million "lifetime gift exemption,'' meaning you can give away $1 million over your lifetime without facing tax consequences.
Above that amount, gift taxes kick in. The maximum federal gift tax rate for 2010 is 35 percent. That will rise to 55 percent after Jan. 1, 2011.
Then there's the annual exclusion. In 2010, each taxpayer can gift up to $13,000 a year to as many individuals as they'd like without having to report the gift to the IRS. (Married couples can gift $26,000 to each individual.) Anything above $13,000 dips into the $1 million lifetime gift exemption.
When the giver dies, all taxable gifts (those over the $1 million lifetime exemption) are added back into the giver's estate when calculating any federal estate taxes that may be due, says Schoenbrodt.
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