How to Give Money to Your Family After Winning the Lottery
It’s no secret that winning the lottery can suddenly change your life. But while you might be eyeing your dream car, home, or other extravagances that may come with an unexpected windfall, you shouldn’t forget to take care of the people who’ve been there for you when you weren’t as flush: your family. The problem, however, is that giving large sums of money to your family may mean paying more than necessary in taxes if you don’t use the right means.
To give money to your family after winning the lottery, you can give them cash handouts, pay their school fees, set up an emergency fund, improve their quality of life, review your estate plan, pay off their debts, offer them rent-free living, and lend them money at a lower interest rate.
This article will explain in detail how you can leverage the above ways to give money to your family after winning the lottery to help you save on taxes as you secure the financial future of your loved ones. Let’s dive right in.
Give Your Family Cash Handouts of Up to $15,000 Annually
If you prefer to share your winnings with the family through cash handouts, you can save a lot by taking advantage of annual exclusions. Basically, this is a legal provision that allows you to give up to $15,000 in cash or assets tax-free per year to as many individual beneficiaries as possible.
If you’re married, you can combine this annual exclusion amount with your spouse to make it $30,000. This way, you’ll be able to give double the tax-exempt amount to a family member without Uncle Sam taking a significant chunk of your money.
Note that any gift exceeding $15,000 will result in tax charges of up to 30%.
Pay for College
Another creative way to give money to your family after winning a lottery is setting up a 529 college savings plan for each beneficiary.
This kind of savings plan will allow you to accumulate college fees for as many family members as you please, and you can leverage it to relieve your family of the stress of having to pay for college out-of-pocket when there are other expenses to be met.
The beauty of this savings plan is that it’ll allow you to accumulate and withdraw the money tax-free. Additionally, these plans are usually flexible, and their contributions may qualify for a tax credit in many states.
Pay Off Your Family’s Debt
Living under the yoke of debt can be debilitating, and one of the best ways to put your lottery winnings to good use is to simply free your family from it.
Depending on how much your windfall is, you can offset all of your family’s debts or just a part of it (remember, you’re trying to help, not go broke while doing it). These debts could be in the form of loans, mortgages, or credit cards.
By paying off their debts, you’ll help your family members avoid incurring extra expenses in the form of interest and give them a simpler, less stressful life.
Spoil the Family a Little
The excitement a lottery win brings to your family can also be rewarded by paying for something that’ll leave behind a positive memory.
Depending on the size of your windfall, you can indulge them through small things like a vacation, paying for a spa, or buying them a car; or go big with life-changing stuff such as funding their dream business or buying them a new home.
When everyone around you is happy, your general psyche will also improve.
However, while it does a lot of good to pamper yourself alongside your family, you’ll want to keep an eye on how much you spend on entertainment. Overindulging is one of the main reasons lottery winners can’t shake off “the lottery curse,” and you can easily fall into the usual lottery-champ-gone-broke cliche if you’re not careful.
To play it safe, use a small, predetermined portion of your windfall to spoil the family and keep off expensive habits that you can’t maintain in the long run. Depending on how much you’ve won and your financial status, you should try to keep your expenditure on fun between 5-15% of the total windfall.
Review Your Estate Plan
With the windfall comes the opportunity to review your estate plan and allocate some of your riches to the family as you please, and you can cash in on this chance to secure your family’s future.
If you hire a good lawyer during the review process, you can take advantage of the more flexible 2012 tax law to maximize your estate’s value and minimize the tax burden on your beneficiaries.
Set Up an Emergency Fund for the Whole Family
Sometimes, the best gift you can buy your family after a lottery win is peace of mind.
Emergencies can strike at the most inconvenient times, and setting up an emergency fund is one of the best ways to ensure that your family doesn’t end up like 40% of Americans who were unable to afford emergency bills of $400 as of 2017, according to the Economic Well-Being of U.S. Households report.
The beauty of an emergency fund over other account types is that it’s readily available to liquidate in case of an unexpected financial need. That means it won’t just come in handy during serious emergencies like illnesses: it can also be a helpful way to cushion your family against less serious eventualities such as a broken-down car, minor injuries, or simply a dried-up source of income.
Offer Your Family Rent-Free Living
Rent is one of the most troublesome bills for many people across the globe. In the US, one in every four people spends almost 70% of their income on rent and other utilities.
Add to that the ever-increasing annual expenditure on tenants’ insurance plus the fact that consumer expenditure on rented dwellings increased by 2% between 2017 and 2018, and it becomes clear how big of a burden you can lift off your family’s shoulders by letting them live rent-free.
So once you bag that windfall, think about buying a home or rental property and letting your family live there for free. By doing so, you’ll free up a significant chunk of their income and allow them to focus on other important needs. Even if you don’t give them cash handouts afterward, they’ll deeply appreciate the gesture.
Lend Money to Your Family
Rounding up our list of the best ways to give money to your family after a lottery win is the good old money lending. While they may need to pay you back with interest, you can help your family members realize their business ambitions by lending them money at a rate lower than what commercial banks usually offer.
Keep in mind that loaning money to family members will involve signing forms just as is the case with banks. Without these, the IRS will classify your loan as a gift when you get audited. That means if the loanee fails to pay you back, you won’t be allowed to claim a non-business bad debt deduction on your form 1040.
To avoid such run-ins with the IRS, document your loan in a promissory note that captures the following details:
- The applicable interest rate, if any.
- A payment schedule that clearly shows the specific dates and amounts for both principal and interest payments.
- The collateral asset or security for the loan, if any.
Also, ensure that the loanee signs the promissory note. If they’ll be using the loan to fund the purchase of a new home and interest is involved, ensure that the residence legally secures the note. Otherwise, the loanee won’t be allowed to deduct the interest you charge them as qualified mortgage interest.
It’s also advisable to include a memo in your tax file when lending the money. In the memo, you should clearly demonstrate why it seems reasonable to expect the loanee to pay you back. This way, you’ll be able to provide further proof that the transaction was meant to be a loan and not a gift if necessary.
Indeed, winning the lottery can be life-changing for most people. But in the midst of all the jubilation and extravagance, you shouldn’t forget about the people that have been there for you during the not-so-good times. You need to ensure that your family gets something out of it, too, and some of the best ways to do that include:
- Paying off their debts
- Lending them money at lower interest rates
- Setting up an emergency fund for them
- Offering them rent-free living
- Reviewing your estate tax plan
- Spoiling them a little
- Paying for college
- Giving them cash handouts
Planning on Sharing your Lottery Winnings with your Family: Write it Down Now!
MegaMillions mania is sweeping the nation. With the grand prize over $500 million, people are dreaming of what they would do with the money, and how they would share it with their families and friends. One one hand, the odds of winning – 1 in 175 million – are infinitesimal. But hey, someone has to win, and it might as well be you. There is however, one guaranteed winner in the lottery–the IRS. Not only are the lottery winnings taxable income to the winner, which will be taxed at a marginal rate of 35%, if the winner tries to share them with his family, there could be substantial gift taxes imposed also.
When someone wins the lottery, what is often done is their family will claim the prize through a partnership or other business entity that is comprised of family members. With a partnership the family could have varying interests. The theory is that the family all decided before the lottery to invest in the ticket together. Mom and Dad contributed 50 cents to the investment cost of the ticket, Uncle Bob contributed 25 cents, and Cousin Rita contributed 25 cents. The family will either claim that the partnership purchased the ticket, or the ticket is then contributed to a partnership in exchange for proportionate interests in the partnership.
If this works, this helps to solve two significant tax issues -the income tax and the gift tax. Because of the marginal nature of the income tax, and because a partnership in itself does not pay taxes, but passes the taxes on to its partners, splitting the income among multiple partners saves on income taxes, because each individual partner has the opportunity to be taxed at the lower bracket rate before reaching their highest marginal rate. Of course, with a a jackpot this size, the difference might seem de minimis.
The other issue is the gift tax. As I’ve written about before, there is wealth transfer tax comprised of the gift tax and the estate tax. Each person can give away, during life or at death, a certain amount of property before the tax kicks in. Currently, that amount is about $5 million a person. Any property given away over that is taxed at the rate of 35%.
So by claiming the lottery winnings as a family partnership, a winner can claim that they are not making a taxable gift, because it was a family investment. This could save millions in gift taxes.
The problem is that in most cases, the IRS knows that it’s baloney. While it’s certainly possible to have agreements among family members (or friends, or co-workers) to enter into a lottery pool, the IRS will not look to kindly on post winning shams. If audited, they will ask for the partnership agreement that existed prior to ticket buying. They will ask when the family members contributed the money. They will ask your history of buying tickets as a family, etc.
Lesson? If you are planning on sharing the lottery with other people, make sure that there is some sort of agreement beforehand.
Or, take the winnings for yourself and flee to Tahiti.
About David Shulman
David is a Fort Lauderdale attorney with a law practice focused on estate planning, probate and trust administration, guardianships, and tax. Among other things he is a Mac nerd, BBQ lover, and blogger.
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