Roughly two-thirds of the grandparents in our great nation have provided financial support to their grandchildren during the last five years-26 percent for education and 40 percent for general purposes. Additionally, one-quarter stated that they have increased financial assistance to their children’s families because of the economic downturn. ^1.  For most grandparents today, getting their children and grandchildren on their feet is of the upmost priority, even if it means leaving behind less after they are gone.

However, helping your loved ones financially can bring Uncle Sam right to your front door if you aren’t cautious. Today I would like to share with you some tax traps you should be aware of and ideas to perhaps help you pick up the tab without incurring tax.

Keep the number 45 in mind: 45 Percent-this has been the tax rate for gifting if you exceed certain limits.
45 Percent-this is the additional generation-skipping tax rate for gifting to your grandchildren if you exceed certain limits.

The good news is there are some simple ways to avoid the 45 Percent and still accomplish your goals. First, you need to know your annual gift allowance amount. Current law states you, as an individual, are allowed to gift $13,000 per year (cash or assets) to each of as many individuals as you want without incurring any tax. If you are married, this means that you can jointly gift $26,000 per year tax-free to each individual. Here are just a few ideas on how to help your family with your annual gift:

Help your grandchild fund their education through a 529 plan or the Texas Tuition Promise Fund. The law permits you to gift as much as $65,000 per person now in one of these plans and spread the gifting amount you report over 5 years. As you may know, funds in a 529 plan grow tax-free and are able to be withdrawn tax-free as long as they are used to pay for certain educational expenses. Plans like the Texas Tuition Promise Fund allow you to lock-in the price of tuition today.

If your goal is to help your grandchildren in a more immediate manner and they are still minors, consider a type of custodial account that will designate an adult to manage the account on behalf of your grandchild until age 18 or 21. Unlike a college savings tool, these assets can be applied to a wide array of things like summer camps, piano lessons, etc.

Another fear present for grandparents today is the lack of life insurance to protect the future of their grandchildren. In fact, 30 percent of grandparents have spoken to their adult children on this subject.^1. Sadly, it’s not unusual for families to make drastic cuts to their bills during difficult financial times and insurance coverage tends to fall prey to these cuts. Consider using part of your annual gift to pay the premium for a policy to gain this protection for your grandchildren.

For some families this annual exclusion for gifts will be enough to stop treading water; however, this is not always the case. Another way to help might be to pay tuition fees and medical expenses for your grandchildren directly to the institution where the cost is incurred. This completely avoids using your annual gift. And last, but as a last resort, you have your lifetime gift exemption of $1 million before tax applies. Just remember, this amount could penalize your estate tax exemption.

The decisions we make in life are not always easy ones; however, there are often more options available to help your family fulfill their goals than at first glance. If you are one of the grandparents that fall in the category of helping your grandchildren, I strongly recommend talking with your Life Planner to help you lay out all your options. After all, no one wants Uncle Sam showing up uninvited.

1. MetLife Mature Market Institute’s QuickPOLL, Grandparents: Generous with Money, Not with Advice. 2009.

VSR does not provide tax advice; please review your personal financial situation to determine if these strategies meet your objectives.