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3 welcome, and tax-advantaged, holiday gifts

Woman handing over a present candy cane wrapping_kira-auf-der-heide-IPx7J1n_xUc-unsplash
No need to wrap cash holiday gifts. Here are three that also have some tax benefits. (Photo by Kira auf der Heide on Unsplash)

Still shopping for the perfect gift? Lots of folks who get stuck turn to cash.

As the old saying (OK, cliché) goes, any amount is the perfect size and green looks good on everyone.

Many people, though, find giving cash too crass.

There are, however, ways around this that are a bit more subtle, and which can financially help others in a tax-favored way.

Here are three.

1. Open a Roth IRA for a young worker. This is a great way to help out a young relative or friend's child whom you consider family. The young person already is showing financial initiative by getting a job. Here you can help them save tax-free for retirement decades away so that they still have access to all their earnings.

There are three important things to note here.

First, while holiday gifts usually are surprises, in this case you need to talk with the youngster's parents. A Roth IRA needs to be started and managed by a parent or other adult as a custodial account. It probably would be better if you worked with the child's parents to establish the account.

Reminders two and three are the same ones that apply to all IRA accounts.

Second, the child must have earned income in order for money to go into an individual retirement arrangement (that's the official name, although most of us use account for the acronym's A). This is money earned from a job where a W-2 is issued, or from self-employment such as baby-sitting or dog walking or tutoring.

Third, contributions are limited by (a) the annually adjusted contribution amounts, and (b) how much the child earns during the tax year.

For 2023, the Internal Revenue Service says that the most that can go into an IRA, Roth or traditional, is $6,500. It goes to $7,000 in 2024.

But if the young worker made only $5,000 this year, that's the maximum that can go into the IRA. Workers of any age can contribution the maximum annual limit or their earned income amount if those earnings are less than the limit.

2. Pay a student's tuition: When you make a direct tuition payment to an accredited educational institution, you can avoid the gift tax even if the amount is more than the annual exclusion amount.

The exclusion is how much you can give without having to file a gift tax report. The limit for 2023 is $17,000. It goes to $18,000 in 2024.

You can make the unlimited tuition gift to anyone, not just a family member. But if you're a grandparent, there's another tax bonus. These tuition payments are not subject to generation-skipping tax (GST) limitations.

The key here is making the gift directly to the school. Don't give it to the young person or their family to then use to pay.

Also, that the gift tax exclusion for educational payments applies only to qualified tuition costs, not for books, supplies, dormitory fees, or similar college expenses.

And as with the retirement account gift, talk with the student's family first. It could affect any need-based financial aid the student and family might be considering. The last thing you want is for a gift to create unintended problems.

3. Pay someone's medical expenses. Unexpected large medical expenses are a major financial problem that many of us face at some time in our lives.

Gifts on someone else's behalf to help cover their medical costs also are exempt from the gift tax exclusion. Again, that's $17,000 this year, and $18,000 in 2024.

Specifically and technically, the tax code says you can pay for anyone's medical costs related to diagnosis, mitigation, treatment, or prevention of a disease. Realistically, this means deductible medical costs. That includes payments for medical insurance, prescription drugs, or payments directly to a provider for medical care.

As with the education costs, you must pay the medical provider directly.

Final gifting tax details: If you're in a position to hand out five-figure financial gifts exceeding the annual gift tax exclusion, go for it!

Remember, too, that this is a per person amount. That means that each spouse of a jointly filing married couple this holiday season can give more than the $17,000 gift exclusion amount.

The two exceptions to that amount mean that the direct tuition payments to educational institutions and/or to cover medical expenses don't count toward the giver's individual $12.92 million in 2023 ($13.61 million in 2024) lifetime gift tax exemption.

And that's why the $17,000 limit that can be busted under these circumstances earns this weekend's By the Numbers honor.

Such gifts also no doubt will earn you, the generous giver, much gratitude from your lucky financial present recipients.

And while you can make these tax-advantaged gifts any time of year, they definitely are a great way to make sure everyone has a happy holiday!

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