Summary of the vignette:
Rine Ruby has core capital of £1,000,000 and excess capital to be £4,000,000. He would like to provide each of his children a relatively equal share of his accumulated wealth.
Rine Ruby Tax Data
Inheritance tax rate = 60%
Gift Tax rate = 30%
Marginal tax rate = 45%
Two children, Johanna, 25 and Albert, 27.
Ruby is considering a gifting program to his children. There is an annual tax-free exclusion of £15,000 on gifts to individuals. The tax code requires that gift taxes be paid by the recipient unless the gift is placed in an irrevocable trust. Gifts to irrevocable rusts allow the grantor to pay the gift tax. The trust would be subject to a 25% income tax rate. The expected real return on investments over the next 25 years is 5.5%.
Q:
Compute the relative value over 25 years of a bequest versus a gift made this year directly to Ruby's children. Assume the transaction will be done in a tax-efficient manner. Show your work.
Basically it's to do a ratio to see how much better is gifting now vs bequest 25 years later.
The solution in the book:
I got the bequest formula right so we shall leave that out however the gifting now bit (numerator) in the answer is a little simplified.
Gift now = [ 1 + Rg ( 1 - Tig) ] ^ n
I understand that the question mentioned tax-efficient manner which is to use up the 15k tax free, however Ruby has £5million and shouldn't gifting now means to give the full 5m in total to both his children and only the 30k (15k * 2) portion will be excluded from the Tig tax (gift tax rate)?
So perhaps the formula should be
[ (1 - 0.30) + 0.30 * (30,000 / 5,000,000) ] * [ 1 + 0.055 * (1 - 0.25) ] ^ 25
First square bracket -> [ (1 - 0.30) + 0.30 * (30,000 / 5,000,000) ]
is just to deduct the full gifting tax and adding back the tax free part.
Second square bracket is just like the normal the normal return deducting the marginal tax rate of the children compounded by 25 years.
Now my questions are:
1. Why did they not deduct the gifting tax? Since it's paid by the recipient (a requirement by the law), shouldn't it be deducted from the gifting amount? How do we know if the recipient has the funds to pay the tax even?
2. Assuming that to give in a tax efficient manner which is to give up to the amount of 15k each, how would that be considered a fair comparison when you are only talking about giving 15k vs 5m for bequest?
@RaviVooda @Alta12 @MM12
Rine Ruby has core capital of £1,000,000 and excess capital to be £4,000,000. He would like to provide each of his children a relatively equal share of his accumulated wealth.
Rine Ruby Tax Data
Inheritance tax rate = 60%
Gift Tax rate = 30%
Marginal tax rate = 45%
Two children, Johanna, 25 and Albert, 27.
Ruby is considering a gifting program to his children. There is an annual tax-free exclusion of £15,000 on gifts to individuals. The tax code requires that gift taxes be paid by the recipient unless the gift is placed in an irrevocable trust. Gifts to irrevocable rusts allow the grantor to pay the gift tax. The trust would be subject to a 25% income tax rate. The expected real return on investments over the next 25 years is 5.5%.
Q:
Compute the relative value over 25 years of a bequest versus a gift made this year directly to Ruby's children. Assume the transaction will be done in a tax-efficient manner. Show your work.
Basically it's to do a ratio to see how much better is gifting now vs bequest 25 years later.
The solution in the book:
I got the bequest formula right so we shall leave that out however the gifting now bit (numerator) in the answer is a little simplified.
Gift now = [ 1 + Rg ( 1 - Tig) ] ^ n
I understand that the question mentioned tax-efficient manner which is to use up the 15k tax free, however Ruby has £5million and shouldn't gifting now means to give the full 5m in total to both his children and only the 30k (15k * 2) portion will be excluded from the Tig tax (gift tax rate)?
So perhaps the formula should be
[ (1 - 0.30) + 0.30 * (30,000 / 5,000,000) ] * [ 1 + 0.055 * (1 - 0.25) ] ^ 25
First square bracket -> [ (1 - 0.30) + 0.30 * (30,000 / 5,000,000) ]
is just to deduct the full gifting tax and adding back the tax free part.
Second square bracket is just like the normal the normal return deducting the marginal tax rate of the children compounded by 25 years.
Now my questions are:
1. Why did they not deduct the gifting tax? Since it's paid by the recipient (a requirement by the law), shouldn't it be deducted from the gifting amount? How do we know if the recipient has the funds to pay the tax even?
2. Assuming that to give in a tax efficient manner which is to give up to the amount of 15k each, how would that be considered a fair comparison when you are only talking about giving 15k vs 5m for bequest?
@RaviVooda @Alta12 @MM12