Is it possible to reduce federal income taxes through gift-giving to family members?

When a taxpayer gifts income producing property to family members it switches the tax liability to the receiver of the gift.  That can result in an overall reduction in tax if the receiver’s marginal tax rate is lower than the taxpayer’s.   However, these days this is of limited value.  With the introduction of the “Kiddie Tax” Congress basically stopped any real viability of a parent transferring income property to a minor child, in order to reduce tax.

The “Kiddie Tax” is a taxing method where minor children’s marginal tax brackets are the same as the parent’s tax brackets, if they have investment income in excess of $2,100 for 2016 and 2017 and they are under age 19 (or under age 24 if a student). Beginning 2018 and ending 2025, the child’s tax rate is not based on his or her parent’s tax brackets; rather, the net unearned income of the child’s investments is taxed at the rates used for trusts and estates.

It is also important to note that gifting can result in gift tax or gift tax reporting which also needs to be factored into any decision regarding gifting property to family members.  Therefore overall, gifting income producing property in order to attempt to reduce tax is of very marginal benefit to most taxpayers.

Case Studies: Reducing Federal Income Taxes Through Gift-Giving

Case Study 1: The Johnson Family

In this case, Mr. Johnson, a high-income earner, considers gifting income-producing property to his adult son in an attempt to reduce his federal income taxes. However, due to the “Kiddie Tax” regulations, the tax liability is switched to the receiver of the gift. As a result, the tax reduction strategy provides only marginal benefits, as the son’s tax rate may not be significantly lower than Mr. Johnson’s.

Case Study 2: The Davis Family

Mrs. Davis, a taxpayer in the highest tax bracket, contemplates transferring income property to her minor child to minimize her federal income taxes. Unfortunately, the introduction of the “Kiddie Tax” by Congress limits the effectiveness of this strategy. Under the new rules, the child’s tax rate aligns with trust and estate rates, rather than the parent’s tax brackets.

Case Study 3: The Thompson Family

In this case, Mr. Thompson plans to gift income-producing property to his adult daughter, hoping to reduce his federal income taxes. However, it is crucial to consider the potential gift tax or gift tax reporting implications. These additional factors may reduce the overall benefit of gifting income property to family members as a tax reduction strategy.