Splitting overriding royalty income

[NECPA in NEBRASKA]

One of my clients got lucky today and received a huge check from a well that was drilled on a lease that she won many years ago. She wants to split the income with him. I may be making this too difficult, but I'm not sure if just issuing a 1099 as she wants to do will work. He doesn't actually own any of the lease, so does this make it a gift? Maybe sheI should ask her attorney about this too? She would split the income after the taxes have been deducted. I will keep researching, but I thought I would ask if anyone knows something quickly.

Why does this stuff always happen when I'm swamped?

Thanks!

[Abby Normal]

She would have to gift him (whoever that is) half of the underlying lease for him to become a 50% owner. But that will only help with future distributions. She's stuck with paying taxes on the whole check that she already received.

[NECPA in NEBRASKA]

That;s what I thought. The 1099 will come to her. I can only see that she could nominee income if she collected it and it is actually owed to someone else.

[kcjenkins]

And if it's a HUGE CHECK, there's probably going to be gift tax on what she gives away, although since you gave us no idea who "he" is to her, we don't know what the relationship is. We are just 'assuming' it's not her spouse, for example.

[NECPA in NEBRASKA]

He is her dad. She doesn't really want to put his name on the lease, so it's up to her what to do. I would have had a heart attack if I got a check for over 100 grand that I didn't know was coming, but I would be really happy. I will gladly pay the taxes.

[jklcpa]

She can give $14K this year, and if she is married, her husband could also gift $14K to her dad, all with no gift tax or estate consequences. She/they could repeat the same for 2015 and have given her dad $48K if she is married, or half that if she is single.

Also, there won't be any gift tax to pay if she has enough unified credit to cover the "taxable" portion of the gift(s) if she wants to give the entire amount in 2014. If your client made any prior gifts, the amount of the credit available has to be recalculated in this year for prior gifts that used some of that credit because of the increase in the unified credit due to the law changes in 2010. If she's never given any gifts during her lifetime, she could give dad $50K this year, $14K is completely free of any gift tax effect, and $36K of her unified credit would be used up, but she wouldn't pay any gift tax at all. That's a hypothetical based on her receiving $100K; I know you said $100K+, but that's how it works.

[NECPA in NEBRASKA]

Thanks everyone. I will pass this on.

[Gail in Virginia]

Also, just like the numbers doubled if she is married and her spouse "gives" half the gift, if her dad is married she could give his spouse the same amount she gives her dad without triggering a gift tax filing requirement. Sometimes this is appropriate and works, and sometimes for all kinds of reasons this is not what the giver wants.

But remember, that is all gifts during the year total $14,000. per person per giver. If she already gave her dad a $1000 birthday present in January, it would drop the available exclusion to $13,000 for this calendar year. Or if she plans to give Christmas presents, the amount she will spend on her dad would need to be taken into account. I am sure you realize that, but we need to be careful to spell that out for clients.

[kcjenkins]

All good advice, I'll just add one more point. When it comes to gifts to more elderly individuals, it is often smarter to plan a stream of gifts, than to make one large gift, regardless of gift tax issues. Why? Simple reality. Dad might die before he spends it, or Dad might have health problems that impact his ability to handle his own financial affairs, etc. So it might be wise not to gift him a large gift now, but rather to just plan ways to insure his comfort and care, as needed, in future.

[taxxcpa]

If I were in her position, I would report all of the income on my return, then take the after-tax balance attributable to the ORRI and split it with the parent but in increments to preclude a gift tax if giving it all in a single year triggered the gift tax.

Don't forget to take the depletion on GROSS royalty, not net of severence tax, ad valorem taxes, gathering, compression and marketing cost deductions.