There is a significant shift of wealth from baby boomers to their children as they seek to provide financial support. As the younger generation accumulates wealth, financial and wealth planning strategies must evolve and adapt accordingly.
Parents can aid their children in becoming first-time home buyers. Rather than just handing over cash, here are some other more beneficial ways parents can assist their children financially.
1. Custodial Accounts:
Parents often set up custodial accounts for their young children, known as UTMA (Uniform Transfers to Minors Act) or UGMA (Uniform Gifts to Minors Act) accounts. These accounts are convenient for pooling birthday and holiday cash gifts. Under the guidance of a custodian, assets will be managed for the child’s benefit while they are under 18. Depending on state laws and the purpose of the account, control shifts to the child once they reach a certain age, usually between 18 and 25.
For larger accounts, delaying the child’s takeover may be advisable. Parents might consider transferring assets to a trust or a limited liability entity in such cases. These alternatives can offer more control and, in some scenarios, protection from creditors. Before making any decisions, it’s crucial to consult with a local attorney familiar with state regulations.
2. Funding Education and Medical Expenses:
Parents might feel compelled to assist their children with education or medical bills. For affluent parents concerned about estate and gift taxes, a more tax-efficient approach might be to pay these institutions directly. Direct payments for tuition or medical expenses can bypass federal gift tax, provided they are made straight to the provider. This strategy maximizes tax-free wealth transfers to the next generation. However, this only covers tuition and excludes other related expenses like books or dormitory fees.
Parents should also consider a 529. The Secure Act 2 updated changes to this type of account and allows unused money to be transferred to a Roth IRA account.
- The 529 plan must be open for at least 15 years.
- The lifetime limit for the rollover is $35,000 per beneficiary.
- The Roth IRA must be owned by the beneficiary of the 529 plan.
- Contributions made within the past five years (and earnings on those contributions) are ineligible to be moved into the Roth IRA.
- The rollover amount cannot exceed the annual IRA contribution limits.
- The eligible rollover amount must have been in the 529 account for at least five years.
- The conversion is non-taxable.
Trusts can be a valuable tool for children, offering more than just cash distribution. With trusts, assets can be purchased for beneficiaries, such as a house in which the child can live rent-free. This approach ensures that the property remains a trust asset, providing protection against potential creditor issues or divorce in the future.
Additionally, there might be tax advantages to retaining assets within a trust. If a child doesn’t require the trust’s assets for daily expenses, keeping them in the trust for their lifetime might be beneficial. Assets in the trust wouldn’t be included in the child’s estate for tax purposes upon their death. Depending on the trust’s terms, assets could even be passed on to the next generation.
Navigating these areas can be intricate, demanding meticulous legal scrutiny. However, the effort is often justified when viewed from a multigenerational wealth perspective.