Giving More to the Children, Less to the IRS

Gift and estate taxes pose big challenges in transferring a business to the next generation. Some strategies suggested by experts to ease the burden:

* Annual gift exclusions. Federal law exempts from gift tax the first $10,000 a year given to any one person or institution. When used repeatedly, that can add up to a substantial amount of transferred property over time, allowing a business owner to pass on company assets without a tax penalty.

* Estate tax credits. The first $600,000 of a person’s estate--$1.2 million for married couples--can be transferred free of gift and estate taxes. Estate planners suggest transferring company assets or other property while the owners are still alive, especially if there’s reason to believe the gifted property will appreciate substantially.

* Valuation discounts. Individuals can give minority interests or partnerships in a business, using a professional appraiser to determine the value. Planners say a non-controlling interest in a privately held company is often hard to market, and therefore, can be discounted to a degree.

* Life insurance. A policy on an individual’s life can be given away. If someone else owns a policy, the proceeds paid upon death would not become part of the taxable estate, and therefore can help heirs pay taxes on a business or other property. Of course, the gift-tax obligation applies. But the policy is often worth far less than the proceeds paid after death.

* Trusts. Many types abound. Among those used by wealthy individuals are Grantor Retained Annuity Trusts, or GRATs, and Generation Skipping Trusts. In GRATs, individuals transfer valuable assets to a trust and receive an annual fixed sum, or annuity, for a period of time. The value of the gift to the trust is discounted based on Internal Revenue Service formulas. Generation Skipping Trusts provide income to a second generation of beneficiaries, then leaves the trust property to the next generation. Up to $1 million will avoid estate tax when the second generation dies.