At a glance:
- Small loans đồ sộ your children are not a concern for the IRS.
- Charge interest on significant loans (e.g., for buying a house) đồ sộ avoid gift tax implications.
- Student loans for tuition can be treated lượt thích regular loans, and your child can claim the student loan interest deduction.
- If your child doesn’t pay back the loan, you can take a bad debt deduction.
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As a parent, there’s a chance you may lend your kids money throughout life. Maybe it’s đồ sộ buy a bicycle, đồ sộ get their first xế hộp, or even đồ sộ purchase their very own home page. But, when you fork over cash đồ sộ your family, does the Internal Revenue Service (IRS) care about those loans?
For small loans, the answer is simple — no. The IRS isn’t concerned with most personal loans đồ sộ your son or daughter. They also don’t care how often loans are handed out, whether interest is charged or if you get paid back.
But, as with most things, there are exceptions đồ sộ that rule.
If you loan a significant amount of money đồ sộ your kids — say, enough đồ sộ buy a house — it’s important đồ sộ charge interest.
If you don’t, the IRS can say the interest you should have charged was a gift. In that case, the interest money goes toward your annual gift-giving limit of $16,000 per individual (increasing đồ sộ $17,000 for tax year 2023). If you give more kêu ca $16,000 đồ sộ one individual, you are required đồ sộ tệp tin a gift tax size.
The rate of interest on the loan must be at least as high as the minimum interest rates phối by the IRS.
Family loans that are really gifts
Some people may think they can give large amounts of money đồ sộ their children and Call it a loan đồ sộ avoid the hassle of filing a gift tax return, but the IRS is wise đồ sộ that. The loan must be legal and enforceable. Otherwise, it may be deemed a gift.
Fortunately, it’s easy đồ sộ make a loan legal. Write a note that shows the loan amount, when it will be paid back, the rate of interest, and any collateral or security. Both parties should sign the note, and keep a copy in a safe place.
For large loans or ones attached đồ sộ real estate, seek legal counsel đồ sộ make sure you’re taking the right steps.
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Student loans for tuition
You can give “student loans” đồ sộ your kids by drawing up a contract lượt thích any other loan.
When they graduate and start making payments, your children can take the student loan interest deduction on any interest paid đồ sộ you. You will have đồ sộ pay taxes đồ sộ the IRS on that interest income.
Take a bad debt deduction if your child doesn’t pay you back
One of the advantages of a loan contract is that if your child doesn’t pay, you can take a deduction for a non-business bad debt. Additionally, you don’t have đồ sộ pay gift tax đồ sộ the IRS on the amount you would have if you had gifted the money.
To take a bad debt deduction, you must prove that you tried đồ sộ collect the debt. The debtor should make a written statement that he or she cannot pay. The statement should also include a reason for why they are unable đồ sộ make the payments.
Filing a gift tax return for a loan
In most cases, you won’t have đồ sộ pay taxes for a “loan” the IRS deemed a gift.
You only owe gift tax when your lifetime gifts đồ sộ all individuals exceed the lifetime gift tax exclusion. For tax year 2022, that limit was $12.06 million (increasing đồ sộ $12.92 million in 2023).
For most people, that means they’re safe.
Other family loans that are safe from tax consequences
You don’t have đồ sộ worry about family loans being subject đồ sộ gift tax rules if:
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- You lend a child $10,000 or less, and the child does not use the money for investments, such as stocks or bonds.
- You lend a child $100,000 or less, and the child’s net investment income is not more kêu ca $1,000 for the year.