money in an envelope;gift tax

When a Gift May Not Be a Gift

It is better to give than to receive. But if you give a gift above a certain amount, you might end up owing money to the Internal Revenue Service (IRS). 

The federal tax code has very specific rules about how much you are allowed to transfer to others each year—and over the course of your lifetime—in the form of a gift. Any gifts above that amount may be subject to gift tax, which is paid by the giver. However, not every gift is subject to gift tax. There are annual exclusion amounts, a lifetime exemption amount, and other exclusions, such as education or medical exclusions, that relieve a giver of paying federal gift taxes. Because the lifetime exemption amount is very generous at this time, many people will not actually owe taxes on their gifts. However, high net worth individuals should be mindful of how gifting can affect the estate tax that may be due upon their death. 

What is Considered a Gift under Gift Tax Law? 

According to the IRS, a gift is a transfer of money, property, or other assets, such as real estate or stock, for which the giver does not receive “full consideration.”1 Consideration is a contractual term that means “exchange value.” Full consideration, as the IRS defines it, is fair market value. The fair market value of property such as real estate is the price that a buyer and seller, both having reasonable knowledge about the property and under no pressure to trade, would agree to on the open market. 

Any exchange can be considered a gift and subject to gift tax, with the following limited exceptions: 

  • Tuition or medical expenses paid on behalf of another person (education exclusion and medical exclusion)
  • Gifts to a political organization 
  • Gifts to your spouse (unlimited gifts can be exchanged between spouses without gift tax implications, assuming both spouses are US citizens)
  • Gifts to qualified charities
  • Gifts that do not exceed the annual exclusion amount ($16,000 in 2022) to any one recipient in any given year

What Else Should I Know about the Gift Tax? 

When giving a gift to another person, here are some other tax-related points to keep in mind: 

  • The giver customarily pays the gift tax. In IRS terminology, the giver is known as the donor and the receiver is known as the donee. The donee can agree to pay the gift tax instead of the donor. In this case, the IRS advises that the payment should be discussed with a tax professional. In cases where the donor owes tax on the gift and does not pay it, the IRS could seize the gift or otherwise turn to the donee for tax payment, but this usually happens only if the donor is deceased. 
  • The annual gift tax exclusion is per recipient. The $16,000 annual gift tax exclusion is calculated per recipient. That is, you can gift up to $16,000 per person to an unlimited number of individuals in any given taxable year without triggering the gift tax. For gifts given by a married couple, the annual exclusion amount is $32,000 (twice the individual exclusion). 
  • There is a federal gift tax form. Gifts that exceed the annual exclusion amount could be subject to tax, depending on whether you have used up your lifetime exemption (see below). In any case, if your gift exceeds the annual exclusion amount or applies the annual exclusion to a transfer in trust, you must file Form 709 even if no gift tax is due. 

For answers to common questions about gift tax issues, see this IRS resource

How Does the Lifetime Exemption Work for Gift Taxes? 

In addition to the annual gift tax exclusion, there is also a basic exclusion amount known as the lifetime exemption. The lifetime exemption is the amount you can gift across all tax years before you owe gift taxes. For 2022, the lifetime exemption is $12.06 million. 

Importantly, the lifetime gift tax exemption is tied to the estate tax exemption. The gift tax exemption and the estate tax exemption are effectively treated as a single amount ($12.06 million in 2022, but subject to change in future years). Thus, over the course of a taxpayer’s life, the amount of nonexcluded gifts that they give counts against their lifetime exemption and could also affect their estate tax. 

For example, let us say that a taxpayer has gifted $2 million in excess of their total annual exclusions by the time they pass away in 2022. That amount counts against their lifetime exemption, reducing the balance to $10.06 million. If their estate’s value exceeds $10.06 million, estate taxes would be due on the excess amount. 

It is unlikely that most individuals will exceed the lifetime gift tax exemption. And even if they do, the tax is graduated (i.e., the tax increases in proportion to the taxable amount). Overall, the gift tax rate ranges from 18 percent for taxable amounts up to $10,000, to 40 percent for taxable amounts over $1 million. 

Give Yourself the Gift of an Estate Planning Professional

Generosity is its own reward. But you owe it to yourself to make sure that your gifts are properly accounted for, the right gift tax forms are filed, and that gifting fits into your estate planning goals. An estate planning attorney can help you understand the tax implications of gifting, including the long-term estate tax implications, as well as some of the hidden costs of a gift, such as real estate taxes, transfer fees, or capital gains tax. 

For guidance regarding gift taxes, estate taxes, and estate planning, contact our office to schedule an appointment. 

References

  1.  Frequently Asked Questions on Gift Taxes, IRS.gov, https://www.irs.gov/businesses/small-businesses-self-employed/frequently-asked-questions-on-gift-taxes (Nov. 15, 2021).

The Perils of Joint Property

People often set up bank accounts or real estate so that they own it jointly with a spouse or other family member. The appeal of joint tenancy is that when one owner dies, the other will automatically inherit the property without it having to go through probate. Joint property is all perceived to be easy to setup since it can be done at the bank when opening an account or title company when buying real estate.

That’s all well and good, but joint ownership can also cause unintended consequences and complications. And it’s worth considering some of these, before deciding that joint ownership is the best way to pass on assets to your heirs.

So let’s explore some of the common problems that can arise.

The other owner’s debts become your problem.

Any debt or obligation incurred by the other owner could affect you. If the joint owner files bankruptcy, has a tax lien, or has a judgment against them, it could cause you to end up with a new co-owner – your old co-owner’s creditors! For example, if you add your adult child to the deed on your home, and he has debt you don’t know about, your property could be seized to collect that debt. Although “your” equity of the property won’t necessarily be taken, that’s little relief when the house you live in is put up on the auction block!

Your property could end up belonging to someone you don’t intend.

Some of the most difficult situations come from blended families. If you own your property jointly with your spouse and you die, your spouse gets the property. On the surface, that may seem like what you intended, but what if your surviving spouse remarries? Your home could become shared between your spouse and her second spouse. And this gets especially complicated if there are children involved: Your property could conceivably go to children of the second marriage, rather than to your own.

You could accidentally disinherit family members.

If you designate someone as a joint owner and you die, you can’t control what she does with your property after your death. Perhaps you and an adult child co-owned a business. You may state in your will that the business should be equally shared with your spouse or divided between all of your kids; however, ownership goes to the survivor – regardless of what you put in your will.

You could have difficulty selling or refinancing your home.

All joint owners must sign off on a property sale. Depending on whether the other joint owners agree, you could end up at a standstill from the sales perspective. That is unless you’re willing to take the joint owner to court to force a sale of the property. (No one wants to sue their family members, not to mention the cost of the lawsuit.)

And what if your co-owner somehow becomes incapacitated, through accident or illness? In that case, you may have to petition a court to appoint a guardian or conservator to represent the co-owner’s interest in the sale. While you and your co-owner always worked together, an appointed guardian may see his responsibility as protecting the other owner’s interest–which might mean going against you.

You might trigger unnecessary capital gains taxes.

When you sell a home for more than you paid for it, you usually pay capital gains taxes–based on the increase in value. Therefore, if you make an adult child a co-owner of your property, and you sell the property, you’re both responsible for the taxes. Your adult child may not be able to afford a tax bill based on decades of appreciation.

On the other hand, heirs only pay capital gains taxes based on the increase in value from when they inherited the asset, not from the day you first acquired it. So often, while people worry about estate taxes, in this case–inheriting a property (rather than jointly owning it) could save your heirs a fortune in income tax. And with today’s generous $5.49 million estate tax exemption, most of us don’t have to worry about the estate tax (but the income tax and capital gains tax hits almost everyone).

You could cause your unmarried partner to have to pay a gift tax.

If you buy property and place it in joint tenancy with an unmarried partner, the IRS will consider that to be a taxable gift to your partner. This can create needless paperwork and taxes.

So what can you do? These decisions are too important and complex to be left to chance. Consult a law firm that specializes in estate planning. A good lawyer will help you decide the best way to manage your property to meet your needs and goals.

Our team can assist you in planning to reduce estate taxes, avoid potential legal pitfalls, and set up a trust to protect your loved ones. We understand not only the legal issues but the complex layers of relationships involved in estate planning. We’ll listen to your concerns and help you develop a plan that gives you peace of mind while achieving all of your goals you have for your family. Contact us today for a consultation.

Want to Give the Kids an Early Inheritance – 4 Things to Consider

Want to Give the Kids an Early Inheritance? 4 Things to Consider

If you’re thinking about giving your children their inheritance early, you’re not alone. A recent Merrill Lynch study suggests that these days, nearly two-thirds of people over the age of 50 would rather pass their assets to the children early than make them wait until the will is read. It can be especially satisfying to fund our children’s dreams while we’re alive to enjoy them, and there’s no real financial penalty for doing so, provided that you structure the arrangement correctly. Here are four important factors to take into account when planning to give an early inheritance.

1. Keep the tax codes in mind.

 The IRS doesn’t really care whether you give away your money now or later—the lifetime estate tax exemption as of 2016 is $5.45 million per individual, regardless of when the funds are transferred. So, whether you give up to $5.45 million away now or wait until you die with that amount, your estate will not owe any federal estate tax (although, remember, the law is always subject to change). You can even give up to $14,000 per person (child, grandchild, or anyone else) per year without any gift tax issues at all. You might hear these $14,000 gifts referred to as “annual exclusion” gifts. There are also ways to make tax-free gifts for educational expenses or medical care, but special rules apply to these gifts. Your estate planner can help you successfully navigate the maze of tax issues to ensure you and your children receive the greatest benefit from your giving.

2. Gifts that keep on giving.

One way to make your children’s inheritance go even farther is to give it as an appreciable asset. For example, helping one of your children buy a home could increase the value of your gift considerably as the home appreciates in value. Likewise, if you have stock in a company that is likely to prosper, gifting some of the stock to your children could result in greater wealth for them in the future.

3. One size does not fit all.

Don’t feel pressured to follow the exact same path for all your children in the name of equal treatment. One of your children might actually prefer to wait to receive her inheritance, for example, while another might need the money now to start a business. Give yourself the latitude to do what is best for each child individually; just be willing to communicate your reasoning to the family to reduce the possibility of misunderstanding or resentment.

4. Don’t touch your own retirement.

If the immediate need is great for one or more of your children, resist the urge to tap into your retirement accounts to help them out. Make sure your own future is secure before investing in theirs. It may sound selfish in the short term, but it’s better than possibly having to lean on your kids for financial help later when your retirement is depleted.

Giving your kids an early inheritance is not only feasible, but it also can be highly fulfilling and rewarding for all involved. That said, it’s best to involve a trusted financial advisor and an experienced estate planning attorney to help you navigate tax issues and come up with the best strategy for transferring your assets. Give us a call today to discuss your options.