Tax Implications of Giving Stock to Children for College
The FinAid.org website reports the average cost of tuition, room and board and fees for in-state students at a public college to be $17,131 for the 2011 to 2012 school year, and the cost of college is increasing at about twice the rate of inflation. You can prepare for the rising cost of education by giving stock to your kids in hopes that it will appreciate, but you should first consider the tax implications.
Gift of Stock
You can give each of your children stock valued at up to $13,000 for the 2012 tax year without incurring any gift tax liability. Since minors can't own stock directly, you'll need to open a custodial or trust account to hold the stock. You can't deduct the gift from your income when you file your federal income tax return, and your child does not have to report the gift as income. Any dividends produced by the stock after the gift is made is taxable income for the child. If the child's total interest, dividends and other investment income exceeds $1,900 for the 2012 tax year, a portion of this income might be taxed at your tax rate.
Stock for College
As custodian or trustee of your child's investment account, you can sell the stock in the account to pay for her college expenses. Any capital gains that result from the stock sale will be reported on your child's income tax return, although the gain might be taxed at your tax rate if the amount of investment income exceeds limits established by law. Once your child reaches her majority, typically at age 18 or 21 depending on your state, ownership of the account will revert completely to the child and she can do with it as she pleases. That might mean she sells her stock and buys a car, rather than paying for her college education.
Education Tax Deduction
The IRS provides a tax deduction for qualified expenses for higher education. The education deduction is figured as an adjustment to income, so you can take it regardless of whether you itemize your deductions or claim the standard deduction, as long as you meet the three primary requirements. The expenses must be for an eligible student. The student must be yourself, your spouse or your dependent. You must pay the qualified expenses. If you gave stock to your child, and he sold the stock to pay for his college, you cannot take the tax deduction since you are not the one who paid for the qualified expenses. Your child cannot claim the deduction since he can be claimed as a dependent on your income tax return.
Instead of giving stock directly to your child, you can match any amount of earned income she has for the year, up to the maximum allowed by law, and contribute it to a Roth IRA. You can use the funds in the Roth IRA to buy stocks, where they will grow on a tax-deferred basis until she is ready to go to college. She can withdraw funds equal to her total contributions without creating a taxable event. She can also withdraw the earnings portion from her Roth IRA, and if she uses those funds to pay for her qualified college expenses, she will owe ordinary income taxes but can avoid the 10 percent tax penalty on early withdrawals.
- IRS: Publication 950, Gift Tax
- IRS: Topic 457 - Tuition And Fees Deduction
- IRS: Publication 970, Tax Benefits for Education
- FinAid: College Cost Projector
- CNN Money: What That B.A. Is Really Worth
- IRS: Publication 551, Basis of Assets
- IRS: Publication 550, Investment Income & Expenses
- IRS: Topic 553 - Tax on a Child's Investment Income
- New York State Society of CPAs: How to Help Your Child Become Stock Market Savvy
Mike Parker is a full-time writer, publisher and independent businessman. His background includes a career as an investments broker with such NYSE member firms as Edward Jones & Company, AG Edwards & Sons and Dean Witter. He helped launch DiscoverCard as one of the company's first merchant sales reps.