A gift of appreciated stock or raised agricultural commodities to children may be an effective method of shifting income to children. Normally, on the gift of an asset, the holding period carries over from the donor to the donee. However, with gifts of raised inventory given from a farmer parent the character of the asset changes from inventory to investment or capital asset status in the hands of the child. Accordingly, the best approach to assure qualification for long-term capital gain status is to have the child hold the grain at least 12 months before sale.

Specific Details

John, a farmer, wanted to pay for his son Tims private college education with gifts of grain to the child. The plan was to give $20,000 of grain (a joint gift with his spouse) to Tim (or Tims UTMA) in each of his four years of high school. When Tim needed money to pay for college costs (estimated to be $80,000 over the four years of college), he would sell the grain to pay for these costs. Since the grain would be taxed (at capital gain rates) to his son, John would escape taxation on $80,000 of grain sale. If the grain would be sold in Johns name it would be considered earned income and thus subject to self-employment tax of 15.3% in addition to Johns federal income tax rate of 24% and state income tax rate of 6%. Therefore, Johns combined tax rate would be 45%. Thus, John would have paid $36,000 in taxes ($80,000 x 45%) on the sale of the grain had he not given it to his son. Tim would have only a 5% capital gain rate and 5% state tax on the $80,000 of income when the grain is sold, assuming at least a 12 month holding period. Therefore, Tim would pay only $8,000 in taxes ($80,000 x 10%) on this income. The total family tax savings which could be used to pay for college costs would be $28,000 ($36,000 – $8,000).

Potential Savings

If you are in a combined (federal, self-employment, and state) tax bracket of 30%, you could reduce your taxes up to $300 for every $1,000 of income reduction by gifting appreciated stock or raised agricultural commodities to your children.