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Gift Tax: The Tax Implications of Supporting Adult Children

Gift Tax: The Tax Implications of Supporting Adult Children - TaxACT

Do you currently have your adult child(ren) living under your roof?

If you support your adult children, or even give them a helping hand now and then, you’re not alone. In today’s tough job market, getting a good career started can take a little longer than planned.

The last thing you need when you’re trying to be helpful, however, is to be worried about paying gift tax.

Fortunately, your chances of actually owing gift tax are very low and you probably don’t even need to file a gift tax return.

To set your mind at ease, first determine if you’ve given any one child more than the limit for a calendar year.

How much can you give?

You can give a child up to $14,000 in a year before you have to file a gift tax return (in 2012, this amount was $13,000).

If your child is married, you can also give up to $14,000 each to his or her spouse. If you’re married, you and your spouse can both make gifts, meaning the maximum gift one couple can gift another couple without filing a gift tax is $56,000.

This amount is per calendar year, and does not roll over from year to year. Try not to give all your assistance in one year if you want to avoid filing gift tax returns. This annual exclusion changes from year to year, so make sure you know what the exclusion amount is for a given tax year.

Not all money transfers are gifts

The IRS isn’t interested in the rental value of your child’s old bedroom, or the amount of food that disappears from your refrigerator.

If you are ever audited, however, the IRS may notice large checks written to your adult child, or a transfer of a valuable asset, such as a car.

You can pay as much as you want for tuition, medical expenses, or health insurance premiums on behalf of your children without worrying about gift tax returns.

Just make sure you pay the school, hospital, or other organization directly.

Payment for services

Any amount you pay your adult child, either in your business or for personal services, is not a gift. The amount you pay must be reasonable, and the child must have actually done the work.

If you pay your child in your business, you can deduct the amount you pay him or her as a business expense. It’s a win-win situation – you avoid the possibility of gift tax and lower your tax bill, while your child feels useful and doesn’t need to feel guilty about accepting help.

Your child may even be able to contribute to a retirement plan, such as an IRA, if he earns income by working for you.

If your child is over age 21, you generally owe payroll taxes if you pay your child wages.

Filing a gift tax return doesn’t mean you owe gift tax

What happens if you give your child more than $14,000 in a year?

Not much. You must file Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return.

Until your total gifts reported on gift returns reach the $5.25 million lifetime exemption amount, you won’t owe any tax. That puts most of us in the clear.

These amounts may change in future years.

Is your adult child your dependent?

If you support your nondisabled adult child age 24 or older, you cannot claim him or her as a “qualifying child” to be a dependent by IRS definitions.

However, you may be able to claim him or her as a “qualifying relative.” Every dependent you claim on your return reduces your taxable income by $3,900.

You can claim your son, daughter, stepchild, eligible foster child, brother, sister, half-sibling, step-sibling, or a descendant of any of the above as a qualifying relative. Your adult children do not need to live with you to be a dependent.

To qualify as a dependent, your adult child must have less than $3,900 in gross income for 2013, and you must provide over 50% of his or her total support.

If no one person provided over 50% of his or her support, but two or more persons together did, then a person who contributed over 10% of the support may claim the dependency exemption.

The people who support the adult child must agree who takes the exemption.

How long would you be willing to support an adult child who is having a hard time making it alone or finding a job?

Photo credit: Shereen M via photopin cc

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About Sally Herigstad

Sally Herigstad is a certified public accountant and personal finance columnist and author of Help! I Can't Pay My Bills, Surviving a Financial Crisis (St. Martin's Griffin). She writes regularly at CreditCards.com, Bankrate.com, Interest.com, RedPlum, and MSN Money. She is an experienced speaker and a member of Toastmasters International. Follow Sally on Twitter.