For many grandparents or parents seeking to help family members pay for college, buy a home, or just have extra money for retirement, gifting funds to an IRA or Roth IRA can make a great deal of tax sense. When one invests funds in an IRA, the income and gains are not subject to tax. Whereas, if one invests funds outside of an IRA, those earnings are subject to tax right away. For this reason alone, gifting funds to a family member to contribute to an IRA is the smartest way to boost ones savings.
- Gifting funds to a family member generally do not have tax implications
- You can help a loved one fund his or her IRA
- You can gift up to $17,000 without it affecting your basic exclusion amount
Tax Implications of a Gift
The general rule is that any gift is a taxable gift, however, there are many exceptions. Generally, the following gifts are not taxable gifts:
- Gifts that are not more than the annual exclusion for the calendar year.
- Tuition or medical expenses you pay for someone (the educational and medical exclusions).
- Gifts to your spouse.
- Gifts to a political organization for its use.
In addition to this, gifts to qualifying charities are deductible from the value of the gift(s) made.
Making a gift does not ordinarily affect your federal income tax. The annual exclusion applies to gifts to each individual. In other words, if you give each of your children $17,000 in 2023, the annual exclusion applies to each gift. Each spouse is entitled to the annual exclusion amount on the gift.
In sum, in 2023, an individual can gift up to $17,000 to a family member ($34,000 if married) without impacting their lifetime unified credit or basic exclusion amount (BEA).
How Does the Gift Tax Work?
The individual making the gift is generally responsible for paying the gift tax. The tax reform law doubled the BEA for tax-years 2018 through 2025. Because the BEA is adjusted annually for inflation, the 2023 BEA is $12,920,000. In 2026, the BEA is due to revert to its pre-2018 level of $5 million, as adjusted for inflation. Hence, so long as you will be gifting under $17,000 for 2023, the gift will not impact your lifetime BEA amount. Any gift above the $17,000 limit, will reduce that amount.
The Gift Tax & Your IRA
Because the 2023 maximum annual IRA contribution limit is $6,500 or $7,500 if you are least age 50, one can gift up to $17,000 to multiple family members to help fund an IRA. The donor should gift the funds directly to the family member or friend and then that individual can make the IRA contribution into the IRA from the funds gifted. The IRA owner could then decide if the funds will be used to fund a traditional IRA or a Roth IRA.
The one caveat is you need to have earned income, or a spouse that does. Only earned income is considered when determining how much you can contribute to an IRA. For example, if you only work a temporary job during the year and earn $2,000, that’s the maximum amount you can contribute to an IRA, no matter how much the gift was for.
The tax rules are very flexible giving the one the ability to gift funds to another individual without impacting his or her lifetime BEA. One can always gift more than the $17,000 in a year, but it would reduce their BEA amount. However, helping a family member save in a tax-advantaged retirement account may be worth it for some. Help them save for the future and take full advantage of the power of compounding returns and tax deferral. Additionally, you can make the gift during any year(s) you wish.