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George F. Bearup, J.D. Senior Legal Trust Advisor

9-Jun-21

Split Gifts: Use With Caution

Take-Away: While the concept of spouses making split-gifts sounds simple, there are many conditions that must be satisfied, along with several ‘traps’ when a lifetime gift is split. Gift splitting can also provide a couple of planning opportunities when it comes to avoiding the generation skipping transfer (GST) tax.

Background: With so much attention currently given to making large gifts this year to dynasty-type trusts before there is a Congressional change or restriction on the amount of a donor’s applicable gift or GST tax exemption amount, it is important to become familiar with the rules that surround split gifts.

Basic Rule:  For gift tax purposes, if both spouses consent to split gifts made by either spouse during a calendar year, then all gifts made by either spouse will be considered to be made one-half, or 50%, by each spouse during that calendar year. [IRC 2513(a)(1).] When spouses elect to split gifts under IRC 2513, the electing spouse is treated as the transferor of 50% of the entire value of the property transferred by the donor spouse, regardless of the value of the interest the electing spouse is deemed to have transferred. [Regulation 26.2652-1(a)(4) and (5), Example 9.] Accordingly, the Tax Code permits spouses to split for gift and GST tax purposes a gift made by one spouse to any person other than his/her spouse. An election cannot be made to split gifts for gift tax purposes without the election having the same effect for generation skipping transfer (GST) tax purposes. And, a gift cannot be split for GST tax purposes without splitting the gift for gift tax purposes. However, once the gift is split, each spouse is free to allocate (or not allocate) his/her GST tax exemption to his or her part of the split gift

Conditions to Gift Splitting: There are several conditions and limitation to gift splitting by spouses:

  • Formal Consent and Reporting: Both spouses must consent to split the gifts. Both spouses must signify their consent. If a spouse dies, the required consent can be given by the decedent’s Personal Representative. If a spouse becomes incompetent, a guardian or conservator can provide the necessary consent. The consent of both spouses is made on a Form 709 Federal Gift Tax Return, signed by both spouses. [Regulation 25.2513-2.] A spouse’s consent can be revoked, but only by filing, in duplicate, a signed statement of revocation on or before April 15 following the close of the calendar year in which the ‘split’ gift was made. A spouse’s consent on a 709 gift tax return that is filed after April 15th cannot be revoked. [Regulation 25.2513-3.] The election to split gifts can be made  ‘late’ after the deadline for a timely filed gift tax return for the year of the gift, but only if no gift tax return was actually filed for that year by either spouse. [IRC 2513(b)(2).] In that case, the split gift election on the return once filed for the first time will be effective for both gift and GST tax reporting purposes, with apparently retroactive effect [more on that below.]
  • Citizenship: At the time of the gift, both spouses must be either United States citizens or residents;
  • Divorced Spouses: The spouses must be married at the time of the gift that is split by them. If the spouses subsequently divorce (or one dies) neither spouse (or the widowed spouse) can remarry before the end of the calendar year in which the split gift was made;
  • Spouse Cannot be Donee: As a generalization, with only limited exceptions (see below), a split gift is ineffective if the gift is made to the consenting spouse or to a trust of which the spouse is a discretionary beneficiary. Nor can the donor-spouse create in his/her spouse a power of appointment over the gifted property. Gifts in which the consenting spouse has an interest may not be split, unless the spouse’s interest is severable and ascertainable. [Regulation 25.2513-1(b)(4).] However, gift-splitting will be allowed for the amount of the gift that is deemed to benefit the other (non-spouse) trust beneficiaries.

Example: John creates a trust for his wife Tracey who is given a mandatory income interest in the trust for her lifetime. On Tracey’s death the trust’s remainder interest passes to John’s siblings. Tracey’s interest in the trust is ascertainable and severable from the beneficial rights of John’s siblings. Tracey’s interest in the trust is valued using the same approach for valuing life estates and annuities. Consequently,  John and Tracey’s gift-splitting on the value of the remainder interest under the trust is permitted.

Example: John creates a discretionary trust for his wife Tracey, with the remainder passing to John’s siblings on Tracey’s death. The trustee’s discretion to make distributions to Tracey is limited by an ascertainable standard; distributions to her must solely be for Tracey’s health, education, support and maintenance. It may be possible to calculate an ascertainable value on Tracey’s interest in the discretionary trust. [Wang v. Commissioner, 1972-143; PLR 200345038.] However, is in not clear how to value Tracey’s ascertainable discretionary interest apart from John’s siblings. As such, it will be difficult for John and Tracey to determine the amount of the gift to the trust that can actually be split by them.

  • All Gifts: An election to split gifts applies to all gifts made by the spouses during the calendar year, i.e. there is no ‘cherry-picking’ of which gifts are subject to gift-splitting and which are not. If the spouses do not want to split all of their gifts during the year, some of the gifts should be made in a different calendar year.

Example: Pete and Gladys have made gifts in prior years. They now have unequal applicable gift tax exemption amounts: Gladys has $250,000 left of her federal applicable exemption amount and Pete has $1,000,000 of his federal gift tax applicable exemption amount remaining. Gladys makes a direct gift of $30,000 to each of her three children from a prior marriage, and Pete consents to split those gifts to Gladys’ children. In the same year, Pete makes a $1.0 million gift to an irrevocable trust for the benefit of his children from a prior marriage, fully using his remaining federal gift tax applicable exemption amount. Because Pete and Gladys consented to split gifts for the calendar year, the transfer to Pete’s trust by Pete will be treated as if $500,000 was contributed by Gladys and $500,000 was contributed by Pete. Because Gladys only had $250,000 left of her federal gift tax applicable exemption amount, the transfer to Pete’s trust will result in a gift tax charged to Gladys [$250,000 of her exemption less $45,000 used to shelter the gift to her children = $205,000 gift tax exemption available to shelter the  $500,000 gift made by Gladys.] If Pete had waited until the following calendar year in which to make the $1.0 million gift to the irrevocable trust, no gift tax would be due by Gladys as Pete would have been considered to sole donor and Pete’s applicable gift tax exclusion would have been sufficient to fully shelter his entire $1.0 million gift to the trust from federal gift taxation.

  • Estates and Split Gift Elections: The split gift election applies for purposes of Chapter 12 of the Tax Code (taxable gifts) and for purposes of determining the identity of the transferor for GST tax purposes. [IRC 2513(a)(1) and (2652(a)(2).] Accordingly, the split gift election is not considered as having been made for estate tax purposes. For example, if IRC 2036 or IRC 2038 are applicable to gifts made with retained interests or powers by the donor, those Tax Code sections will not apply to the consenting spouse who did not actually make the gift.
  • Present Interest and Crummey Withdrawal Rights: The split gift opportunity is normally only used for present interest gifts. A gift to a trust qualifies for gift splitting only if the beneficiary receives a present interest.  Spouses can split crummey withdrawal transfers, but the consenting spouse’s interest in the trust will need to be ascertainable and severable from the interests of the other beneficiaries of the trust. The IRS will look beyond the third-party beneficiary withdrawal rights to determine if the consenting spouse held an interest in the trust that is ascertainable and severable from the interests of the other trust beneficiaries before gift splitting is permitted by the beneficiary-spouse. [Private Letter Rulings 200422052 and 200616022.]

Example: Tom creates an irrevocable trust for the benefit of his wife Mary and their three children. Each of the three children has a pro rata right to withdraw any contribution made to the trust for a period of 30 days- a classic crummey withdrawal right. Mary has no right to withdraw amounts contributed to the trust. If Tom contributes $75,000 to the trust and each child has a right to withdraw his/her pro rata share of the contribution, i.e. $25,000 each, the gift will be eligible for gift splitting between Tom and Mary because Mary possesses no interest in the crummey gift to the trust. Mary’s income and/or principal interest in the trust will be irrelevant to determine whether gift splitting is permitted by the IRS.

  • Community Property: Spouses can split gifts made in community property states, which would include those common law states which permit by statute an election by spouses to treat their property as community property. If the subject of the gift is considered one spouse’s separate property, the spouses can still split the gift. If the gift is made from their community  property, the gift will automatically be considered to be made one-half by each spouse, and each spouse will have to file their own Form 709 Federal Gift Tax Return.

Example: Michael and Catherine life in California, a community property state. Michael gifts $100,000 from an account that is considered his separate property under California law to his daughter Denise from a prior marriage. If Catherine consents to Michael’s gift, Michael and Catherine can split the gift to Denise, so that $50,000 will be treated as coming from Michael and $50,000 will be considered as coming from Catherine. If, instead, Michael gifts the $100,000 to Denise from their community property, Catherine will not need to consent to the gift as she will be the donor of $50,000, for which Catherine will have to file her own Form 709 Federal Gift Tax Return.

  • Death Within 3 Years: If the donor’s death is within three years of the split gift, some of the tax benefits associated with the split gift will be lost by the consenting spouse- the exemption was consumed, but did not avoid taxation of the transfer.

Generation Skipping Transfer Tax: If spouses elect to gift-split for the calendar year, each spouse will be treated as the transferor for generation skipping transfer (GST) tax purposes of one-half of the gift eligible for gift splitting. [IRC 2652(a)(2).]  The transferor for GST tax purposes means the donor as to any property subject to the gift tax. [IRC 2652(a)(1).] The deemed allocation of the spouses’ GST tax exemptions will apply automatically to each spouse’s one-half of the gift, and any affirmative allocation of the GST tax exemption must be made by each spouse on his/her own Form 709 Federal Gift Tax Return. There are some peculiar results associated with spouses who elect to split gifts for generation skipping transfer tax purposes, e.g.  lifetime gifts directly to grandchildren or indirectly to trusts established for grandchildren.

Example #1- Two 709 Gift Tax Returns Filed: Ethel gifts $100,000 to her grandson Wally. Ethel’s husband Fred consents to split the gift to Wally with Ethel. This is the only gift that Ethel and Fred make in the calendar year. Fred and Ethel will each need to file a Form 709 gift tax return. Because it is a direct gift to Wally, $50,000 of Ethel’s GST tax exemption and $50,000 of Fred’s GST tax exemption will automatically be allocated to the gift to Wally. With regard to Fred having to file his own 709 Federal Gift Tax Return, that would not be the case if the gift to Wally had been $30,000 or less, as that is one of the limited exception where only one Form 709 gift tax return would have to be filed to report the split gift (filed by the donor-spouse) i.e. only one spouse made any gifts, the total value of the gifts to all of the donees did not exceed $30,000, and all gifts were present interest gifts.

Example#2 – Relation Back With Late Filing: As noted above, the election to split gifts can be made ‘late’ if no Form 709 was previously filed by the donor spouse, with apparent retroactive effect. Assume Ted makes a 2015 gift of $2,000,000 in an indirect skip transfer to a GST trust established for his grandchildren while Ted is married to Sally. Each of Sally’s gift and GST tax exemptions exceeds $2,000,000 at the time of Ted’s gift. Ted failed to timely file a 2019 gift tax return. $2,000,000 of Ted’s GST exemption is automatically allocated to the indirect skip back in 2015 because Ted did not timely elect ‘out’ of the automatic allocation of his GST tax exemption. In 2021, Ted and Sally file a 2019 709 gift tax returns reporting the gift and electing to split all gifts. The 2021 split gift election is effective once made because it is made on the first 2019 gift tax return Ted or Sally has filed. As a result, each of Ted and Sally is the transferor of 50% of the gift (or $1,000,000) of the original 2015 transfer for GST tax purposes and each uses $1,000,000 of gift and GST tax exemptions.

Example #3- ETIP Period: A transfer to a trust can be a completed gift for gift tax purposes but also included in the donor’s gross estate because of his/her retained powers or rights, e.g. the 2036 or 2038 string provisions. With regard to the GST tax, there is an estate tax inclusion period (ETIP); it is the period during which should the transferor’s death occur, the value of the transferred property would be includible in the transferor’s taxable estate (other than by reason of IRC 2035) or the transferor’s spouse’s estate if death of either one were to occur immediately after the transfer. [IRC 2642(f); Regulation 26.2632-(c)(2)(i).] Thus, the ETIP is defined by reference to inclusion in the gross estate of either the transferor or the transferor’s spouse. If the donor married to a spouse makes a transfer subject to an ETIP due to potential inclusion in the donor’s gross estate, the ETIP will apply to the entire transfer even if an effective split gift is made. Each spouse becomes transferor of 50% of the transferred asset and can allocate GST tax exemption to 50% of the transfer. However, termination of the ETIP will be determined with respect to the donor whose retained interest or power caused the ETIP. [Regulation 26.2632-1(c)(5), Example 3.]

Herb makes a transfer to a trust held solely for Herb’s descendants. Herb’s spouse, Wanda has a lifetime and testamentary power to appoint the trust’s assets among Herb’s descendants and charity. If Wanda was the donor of contributions to the trust, an ETIP would apply due to the inclusion in Wanda’s gross estate because of her power of appointment. However, the split gift election does not create an ETIP because Wanda is not the actual donor and she is not deemed to be the donor for estate tax purposes under any rule. Consequently, each of Herb and Wanda are transferors of 50% for GST tax purposes and each can allocate their own GST exemptions to 50% of the initial gift to the trust.

Example #4- Retroactive GST Exemption Allocations: [This is not a split gift example, but shows how being aware of opportunities can save considerable GST taxes.] As a broad generalization, transferors typically do not allocate their GST tax exemption to trusts that primarily benefit a non-skip, e.g. a child, beneficiary, with the remainder distributed to a skip person beneficiary, e.g. the transferor’s grandchild. However, a non-skip trust beneficiary could unexpectedly die before the transferor, which would cause a taxable termination of the trust for GST purposes, or increase the likelihood of future GST transfers from the trust. The Tax Code now permits a late allocation of the donor’s GST tax exemption as if the allocation had been made on a timely filed gift tax return reporting the transfer. [IRC 2632(d)(2)(C).] See how this opportunity now can play out to save GST taxes.

Back in 1995 Casey transferred $1,000,000 to a trust for his child, Corey. The trust provides that the trustee pays income and principal to Corey in the trustee’s discretion, with the right to withdraw given to Corey specified as one half of the trust’s corpus to Corey at age 30 years, and the balance is to be distributed to him when Corey attains age 40 years. The trust’s corpus is now worth $5.0 million. Casey did not allocate any of his GST tax exemption to the trust that he funded back in 1995 because he expected Corey would eventually receive all of the trust’s principal. As such, the trust created in 1995 has a GST inclusion ratio of 1.0. Cory dies in 2021 at age 29 with two children who survive him. On Corey’s death the trustee is directed under the trust to distribute the trust’s assets outright to Corey’s children. In the absence of any allocation of Casey’s GST tax exemption back in 1995, the GST tax would be imposed at 40% on the $5.0 million distributed from the trust to Corey’s grandchildren,  for a GST tax to be paid of $2.0 million.  Casey has until April 15, 2022 (or until the extended due date for Casey’s Form 709 Federal Gift Tax Return) to make an allocation to the trust that will be effective immediately before Corey’s death, and at the value of Casey’s transfer to the trust as if timely made by Casey. If Casey allocates $1.0 million GST exemption to the trust by the due date for Casey’s 2021 gift tax return, no GST tax will be due on the $5.0 million trustee distribution to Corey’s children. This retroactive allocation of Casey’s GST tax exemption back to his 1995 transfer to the trust eliminates all $2.0 million of GST tax otherwise due, i.e. it shelters all of the $4.0 million appreciation in the trust’s assets over the past 25+ years.

Conclusion: The opportunity available to spouses to elect to split lifetime gifts appears deceptively simple, which sadly can mislead many into the false belief that their available exemptions [gift or GST]  will be used to avoid the payment of federal gift or GST taxes. More thought needs to go into whether spouses should make split gifts, or equally importantly, if a split gift opportunity is even available, e.g. the funding of a SLAT with split gifts where the settlor’s spouse is a lifetime discretionary beneficiary. While encouraging lifetime gifts is clearly in vogue these days, it is important to keep the split gift rules, conditions, and limitations in mind.