For some, implementing a gifting strategy is an important aspect of the estate planning process. While the costs of education seem to be continually increasing, many people are considering implementing a gifting strategy that will provide financial assistance for the education of a child or grandchild. More common ways to implement this strategy normally requires a person to choose between creating a 529 Plan or an irrevocable gifting trust.
A 529 Plan account is a college savings plan created under state law. After tax dollars are contributed to the 529 Plan account. Although there is no federal income tax deduction for these contributions, these after tax dollars contributed grow federal income tax free for the beneficiary of the account. The money must only be used for higher education tuition, fees, books, supplies, required equipment, and room and board (subject to certain rules). If the beneficiary does not use all the funds, the beneficiary can be changed to another child or grandchild. If any of the money is used from the 529 Plan account for nonqualified expenses, such funds will be subject to income tax and a 10% penalty on the earnings of the account. For this cause, it is important not to overfund the 529 Plan in the event that there is significant excess beyond that needed for qualified educational expenses held in the account which would be potentially subject to penalty.
The alternative to the 529 Plan is the creation of an irrevocable gifting trust. The gifting trust would be created by a parent or grandparent for the benefit of a child or grandchild. A trust could be funded with any form of property (i.e. cash and cash equivalents, real property, LLC membership interests, etc.). The funds in the trust do not grow federal income tax free. The trust will be required to pay income tax on its earnings to the extent income is not distributed. However, the gifting trust allows for greater flexibility in its use allowing the trustee to make discretionary distributions to the beneficiary not only for education but additionally for health, maintenance, and support or other legitimate reasons. The gifting trust could exist for a term of years, for the beneficiary’s life, or until the beneficiary finishes his or her education at which time the trustee could distribute all remaining trust property free of any penalties. Thus, a person could fund the gifting trust with more than may be necessary to assist with educational costs without fear of being subject to penalties.
If flexibility and control are more important than potential income tax benefits afforded by a 529 Plan, a gifting trust may be more appropriate.
For more information regarding gifting trust, please call our Henderson or Las Vegas office to schedule a free consultation with any of our attorneys.