Fed Tax--IBD: "Changes In Capital-Gains Rates Right Around Corner"
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Friday, November 17, 2000
Changes In Capital-Gains Rates Right Around Corner
New Brackets, Holding Periods Yield Tax-Planning Opportunity
By Grace W. Weinstein
Investor's Business Daily
The Taxpayer Relief Act of 1997 provided for changes in capital-gains taxes that will take effect Jan. 1.
On that date, taxpayers in the 15% bracket will see their federal capital-gains tax rate on assets held more than five years drop to 8% from 10%. For taxpayers in all other brackets, the rate drops to 18% from 20% on assets acquired after Dec. 31, 2000, and held more than five years.
Capital gains on assets held at least 12 months but less than five years will continue to be taxed at the current 20% rate. For taxpayers in the 15% bracket, the current 10% rate will remain in effect.
Note the subtle difference in the five-year requirement. For people who will owe capital gains tax at the 8% rate, the assets must have been held for five years, but can be sold as early as Jan. 2, 2001.
Planning Opportunity
Anyone else seeking this lower rate, the assets must be acquired after Dec. 31 and held five years before they are sold.
Laurence Foster, a certified public accountant and personal financial specialist with Richard A. Eisner & Co. in New York, suggests the difference creates a tax-planning opportunity.
Rather than sell appreciated securities, a parent or grandparent might make a gift of the securities to a child age 14 or over. That child can then turn around and sell the stock, producing a capital gains tax of 8% instead of 20%. The 12% spread would save $2,400 in tax on a gift of $20,000 in appreciated securities.
This tactic won’t work with youngsters under age 14. They are subject to federal income tax at their parents’ tax rate.
Don’t Give Too Much
And you don’t want to give more than $10,000 of securities (or $20,000 as a joint gift with your spouse) to your kids for two reasons.
First, gifts of up to $10,000 per person are not subject to federal gift tax. Larger gifts are counted against your unified gift and estate tax exclusion of $675,000 in 2001 (going up to $1 million in 2006 and thereafter).
Gift tax returns must be filed on gifts exceeding $10,000. Once your total lifetime gifts exceed your lifetime exclusion, you must pay gift tax.
Higher Bracket
A second reason to limit the size of gifts is that a child or grandchild who sells a large gift could generate enough income to rise out of the 15% tax bracket.
As Foster said, "There’s a lot of measuring to do."
You also must want to sell the stock. And it must make economic and social sense to give a sizable gift to the child. For instance, Foster says, if your child eventually applies to college, assets in his name would cut his chances for financial aid more than the equivalent assets in a parent’s name.
On the social front, what will you do with an 18-year-old who wants to open a tattoo parlor instead of going to college?
The giving strategy works from the tax point of view, Foster says. "But you need to be aware of other issues in making gifts to children," he said.
There is one other strategy to note, unrelated to giving gifts to children. Suppose you bought securities prior to Jan. 1, 2001, and want to qualify for the five-year holding period and lower capital gains rate. You can make a special election to treat them as having been acquired on Jan. 1. That’s when the lower rate goes into effect if you hold the securities for five years.
Pay Up Front
If the fair-market value of the securities on Jan. 2 is higher than your cost basis, you’ll owe capital gains tax. You’ll pay it up front. And the tax will be paid out of pocket, since you won’t actually be selling the securities.
You can make that special election until you file your tax return for the year. That can be as late as Oct. 15, 2002, if you get extensions. If you file before that without claiming the special election for 2001, you can file an amended return by Oct. 15, 2002.
Either way, the election is effective Jan. 1.
Yes, you will have paid a tax up front, but at the special, lower rate. Later, when you sell these shares after additional appreciation, you will be taxed on the additional gains, but at the lower rate.
Losses Not The Same
If, on Jan. 2, your securities have fallen below their cost basis, this tactic won’t work. You can’t claim the loss, then hold on and hope for future gains. To recognize the loss for tax purposes, you must sell the securities. Then, if you wait at least 30 days, you can buy shares of the same company.
"(Or) if you’re afraid you will miss the boat," Foster said, "you could double up." Buy additional shares now. In 30 days, sell what you had originally. That way, Foster added, "You’re covered. And, in case something wonderful happens, you have twice as much."<<< |
