Giving the Gift of Stock

How you too can benefit by presenting loved ones with company or mutual fund shares.
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It's that time of year again -- time to talk about giving the gift of stock.

Sure, the little ones might not get the same thrill leafing through a custodial account statement that they do tearing apart the thoughtfully wrapped presents under the tree. But let's face it, kids tire of their toys before the first set of batteries -- not included, of course -- run out of juice on Christmas day.

A well-chosen mutual fund or dividend-paying stock, on the other hand, is a gift that will last a lifetime -- or at least until their freshman year at college. And it's also far easier than fighting the hordes at the mall.

The first step in giving a kid the gift of securities is to set up a custodial account with a broker. Under a custodial account, both your name and your child's will be listed on the account. In a slight role reversal, the child is treated as the owner under this arrangement; nevertheless, the custodian retains control over the investments. Any gains, income, or dividends on the account are taxed at the child's level, which is beneficial from a tax perspective since it will be lower than the adult's. That is, unless your kid is an Olsen twin or has the most profitable paper route in the country.

There are two types of custodial accounts -- those created under the UGMA, or Uniform Gift to Minors Act, and those created under the UTMA, or Uniform Transfers to Minors Act. The biggest difference between the two is that a UTMA allows the custodian to maintain control over the money for a longer period of time.

Once the account is created, the next step is funding it. In order to give shares of a stock you already own to your child, simply request a so-called stock power form from your broker or the company's transfer agent, and then complete and return it with the signed stock certificate. If your shares are held in street name, then there is no need to deal with the actual stock certificate.

There are a few tidbits of information required when transferring stock to a minor's account, however. If you give company or mutual fund shares as a gift, you must provide the broker with the cost basis, date of purchase and fair market value of the shares at the date of the gift. The amount of the gift tax paid by the donor, if any, is also needed.

If you are unsure of your cost basis, you need to reconstruct your records as well as possible, or consult your broker or the mutual fund company for assistance. Another source of information is your prior-year tax returns.

Knowing the cost basis for the shares is important because it is carried over to the recipient of the gift. The holding period is transferred as well, which means that securities held for over a year are still eligible for long-term capital gains treatment even after being switched into the custodial account.

For example, say you want to give the kid shares of



that have appreciated significantly in the year-plus you have owned them. When junior decides to sell the stock, he or she will pay long-term capital gains taxes on the sale, using your original cost to calculate the gain.

Still, that's a small price to pay for what is very much a win/win situation for the whole family.

Unfortunately, the only way for your kids to get a step-up in cost basis, and all the tax advantages that come with it, is to wait until you die to receive the stock. Inheritors of appreciated shares have a cost basis of the market value at the time of the donor's death.

If the parent was forced to fund the custodial account with cash only, then he would be forced to sell the Yahoo! stock, pay the taxes and put what's left in the child's account. By making a gift of the stock instead, the parent avoids the tax hit while still getting the tax benefit of reducing the value of his estate.

There is a limit to the amount parents can gift to kids, however. Each year, you may give up to $11,000 to each of a number of individuals without incurring a federal gift tax. In the case of a married couple, a total of $22,000 per year can be given to each individual without incurring a federal gift tax. This can add up quickly for the benefit of your child's college education.

For example, if a married couple transfers $22,000 per year in cash, stocks or fund shares to a custodial account over a period of 12 years, at the end of those 12 years, they would have transferred a total of $264,000. This figure doesn't even include the earnings that could have accrued -- all without paying any gift tax.

Finally, even though charity begins at home, this is the season for making donations to religious organizations, colleges and charities. This type of gifting usually requires a few added steps to the process, depending on the recipient of your largesse.

But those extra efforts are well-rewarded financially, as well as spiritually. Aside from the goodwill you receive by donating money to a worthy cause, you also qualify for a tax deduction. And just like gifting appreciated shares to your children, you avoid the capital gains tax you would have faced had you sold the securities yourself and given cash.

And there's nothing bah-humbug about that!