Gift vs Bequest - Official CFA Level 3 2020 Mock Exam Question

Hey! Can somebody explain this solution from “CFA® Society Boston Level III 2020 Practice Exam”? I don’t understand the “financial advantage” of the strategy chosen.

Here is the question:

Here is the solution:


I also have same question. Anyone kindly advise

Since the donor and the gift recipient:

  • are in the same tax bracket,
  • have the same asset return,
  • must pay the same tax on the gift/bequest

The ratio of the relative value of gifting now to bequeathing at death you are used to compute to assess the choice to make won’t help you this time.

Hence we have to look at the details of the 2 possible operations:

1- the donor makes the gift now,

Since he must use part of the remaining funds available to pay the gif tax and since the tax rate on the gift is 50%, you have to solve the following equation to know what amount he can afford to gift considering that the $ 3 million amount must both fund the gift and the gift tax.

With W= gift amount before tax

He will than $ 2 millions to his niece and pay 1 million for the gift tax.

2- the donor bequeaths the asset at death,

He will transfer $ 3 millions to his niece but she will have to pay 50% of this amount in tax leaving her $1.5 million.

Conclusion: solution 1 is better with a $0.5 million advantage.

NB: note that the donor has no tax credit or allowance. For this reason, he no advantage at gifting some today and bequeathing some at death because tax paid on the gift now won’t be deducted from the estate at death.

Thanks for the explanation. Makes sense now. Isn’t both scenario same ?

Not sure to understand. We have 2 scenarios with 2 different results. Maybe you make reference to something else?

Yes. My bad. I was thinking about something else.