Optimize Annual Gifting Through Qualified Accounts

At JMG, we often discuss how clients should best make gifts to their children, grandchildren or other beneficiaries. These gifts can be a benefit to both parties and are often classified into four broad categories: those made outright, to a minor’s account, to an education account, or to a trust. (See Prior JMG Article: Taking Advantage of the Annual Gifting Exclusion)

One additional form of gifting, which is often overlooked, is funding a recipient’s qualified retirement accounts. In lieu of making a cash gift, funding a qualified account can create decades of additional tax benefits while better defining the gift’s purpose. This approach can be particularly appealing to individuals who may want to give, but have reservations about making larger, outright cash gifts.

Let’s assess the landscape. Many individuals who are considering gifting likely have recipients that are children or grandchildren in their working years. As such, these recipients are often eligible to contribute to the following qualified accounts:

• 401(k) or 403(b): Annual contribution limit of $23,500 + $7,500 Catch Up (Age 50+)
• Individual Retirement Account (Traditional or Roth): $7,000 + $1,000 Catch Up
• Health Savings Account: $4,300 Individual / $8,550 Family + $1,000 Catch Up

Note: Certain individuals may be eligible for other savings options, such as a SEP or SIMPLE IRA. We will focus on the three common categories above for this discussion.

An individual under age 50 may be eligible to contribute up to $34,800 to qualified accounts each year. Jointly, a working couple may be eligible to contribute up to $69,550. This tax-advantaged savings capacity is large and attractive, but unattainable for most. These individuals may be earlier in their careers or navigating higher expenses such as children and a mortgage. Saving $69,550 per year is often simply out of reach.

For example, consider a working couple earning $250,000 jointly per year. They are both eligible for 401(k)s and save 10% each. By most measures, this couple is doing well and saving responsibly. Their parents and grandparents have the financial flexibility to gift but have never done so, as they are generally hesitant about gifting and know the couple doesn’t need financial support. However, the couple’s 401(k) contributions are only utilizing $25,000 of the $69,550 available to them in qualified accounts. As such, an additional $44,550 of potential tax-advantaged savings goes unutilized each year. Gifting to these accounts can help close the gap and create value across generations.

Let’s consider the mechanics of these gifts from the perspective of the gifting individual.

• Direct Fund of an IRA. Funding the beneficiary’s IRA is rather simple – you can contribute via check or otherwise directly into the IRA. The beneficiary must have earned income to be eligible for the contribution. For a 401(k) or HSA, it can be more involved.
• Indirect Funding of a 401(k) or HSA. The working individual often makes these contributions via payroll deductions. If they chose to maximize their 401(k) or HSA via payroll deductions, their net paycheck would be too depleted to meet living expenses. A ‘backfilling’ approach may be appropriate in this situation. Using the earlier example, the working individuals can adjust their payroll deductions to maximize these contributions. They will now save the additional $45,550 in qualified accounts, but their checking account will be reduced by $45,550 annually. The gifting individual can facilitate transfers of $45,550 as an ‘outright cash gift’, knowing that they have indirectly funded the beneficiaries’ tax-advantaged accounts.

The impact of these strategies is multi-layered:

• For those cautious of giving outright gifts, this can be a more comfortable approach. It keeps the assets in more restrictive, intentional accounts.
• There will be tax-optimization across generations. Most gifting individuals will be using taxable assets, which have an ongoing tax burden. Shifting the assets to tax-advantaged accounts creates a tax shelter across generations.
• The gift extends the time in a tax-advantaged account. Not only are you shifting funds to the next generation, but the gift can receive decades of additional tax-advantaged growth.
• For those subject to estate tax, this can help reduce estate tax exposure.

Other considerations:

• Be mindful of the annual gift tax exclusion. Any individual can give $19,000 per person in 2025. Using the earlier example, a married couple gifting to another married couple can transfer $76,000 per year ($19,000 from each giving spouse to each receiving spouse, $19,000 x 4 = $76,000).
• Consider the beneficiary’s IRA eligibility. Some may not be eligible for a deductible IRA contribution but could still benefit from a backdoor Roth contribution.  (See Prior JMG Article: Enhancing Your Retirement Savings: Additional Opportunities)
• Review the asset allocation. This approach will likely shift assets from the taxable account of an older generation (generally more conservative) to the tax-advantaged account of a younger generation (generally more aggressive). This may create a practical shift into a more aggressive portfolio and enhance returns over time.
• In certain situations, the gifting individual may have limited taxable assets. It may still be beneficial to gift from an IRA or Roth IRA. For example, giving from the older generation’s Roth IRA to fund the younger generation’s Roth IRA can still be a powerful planning tool. By shifting to a younger generation, this could create decades of additional tax-free growth compared to inheriting a Roth IRA in the future.

Navigating multi-generational gifting can be an involved but fruitful process. Feel free to contact your JMG advisor if you’d like to discuss the best options for you and your family. We invite you to share this article with others who may also find it insightful.

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