Monday, November 15, 2010


There has been lots of talk about the federal Estate Tax lately, what with its disappearance for 2010 and reappearance at pre-Bush levels in 2011. But what about its cousin – the federal Gift Tax?
The Gift Tax is a “spin-off” of the Estate Tax. Its purpose is to make sure that individuals do not give away all of their assets before death to avoid paying Estate Tax.

First some background -

The Gift Tax is imposed on the “giver” (or “donor”) – the person making the gift – and not on the person receiving the gift (the “donee”).

A gift has no affect on federal or state income taxes. Over the years I have been asked many times something along the lines of, “I read somewhere that I can give my son a gift of $XX,000 each year. If I do this will it help reduce my income tax?”. The answer is always “no”. You cannot deduct a gift on your 1040, and the recipient of a gift does not have to report the gift as taxable income on his/her 1040.

For 2010 and 2011 there is an annual Gift Tax exclusion of $13,000 and a “lifetime exclusion” of $1 Million. These are two separate exclusions – one has nothing to do with the other.

You can give $13,000 to as many individuals you want – relatives, friends or even strangers – in 2010, and 2011, with no gift, or future estate, tax consequences. This $13,000 does not affect the $1 Million lifetime exclusion. A married couple can gift $26,000.

If you make gifts to one individual that total more than $13,000 in one year you still do not necessarily have to pay any current gift tax. You can apply the excess gift to your $1 Million lifetime gift tax exclusion amount. You can give up to a total of $1 Million in gifts that exceed the annual exclusion limit during your lifetime before you will owe any gift tax.

If you gave your son $15,000 in 2010 then $2,000 of this gift will reduce the $1 Million, so you have a remaining lifetime exclusion of $998,000.

The Gift Tax is reported on Form 709. If you do gift more than $13,000 to an individual during the year you should file a Form 709 to show the application of the excess toward your $1 Million lifetime exclusion.

The following items are not considered to be taxable gifts, and do not count toward the $13,000 per year annual exclusion or reduce the $1 Million lifetime exclusion amount –

* the support of a member of your household,

* gifts made to a spouse,

* college tuition paid directly to the educational institution for another person, and

* medical expenses paid directly to the provider (doctor, dentist, hospital, therapist, etc) on behalf of another person.

The Gift Tax also does not apply to gifts to political organizations or campaigns or to gifts to church and charity

The lifetime Gift Tax exclusion amount is supposed to be the same as the federal Estate Tax exemption, but under the “Economic Growth and Tax Relief Reconciliation Act of 2001” this amount was for some reason “frozen” at $1 Million. So, even though the federal Estate Tax exemption had grown to $3.5 Million for 2009, the lifetime exclusion for Gift Tax purposes remained only $1 Million. And even though the federal Estate Tax totally disappeared, for one year only, in 2010, the federal Gift Tax is still in place for 2010.

This makes absolutely no sense. The only reason for the existence of the Gift Tax is so individuals do not avoid the Estate Tax by giving away their assets prior to death. So the lifetime exclusion for the Gift Tax should always be exactly the same as the Estate Tax exemption. The Gift Tax amount should not have been frozen at $1 Million.

Without an Estate Tax there is no need for a Gift Tax. So why, if the Estate Tax is gone, is the gift tax still around for 2010? I expect that Congress knew that the Estate Tax would return in 2011 (it would not be permanently repealed by Congress in the interim) so it did not want taxpayers to escape future estate tax by giving away the store in 2010.

I would hope that when the federal Estate Tax is finally either repealed or reformed there is consistent treatment of the Gift Tax. If the Estate Tax is repealed there should be no Gift Tax. If the Estate Tax is reformed, the lifetime exclusion under the Gift Tax should be the same as the exemption under the Estate Tax.



Peter Reilly said...

Somebody who was involved in policy decisions about this told me that the gift tax was kept in place to prevent income tax shifiting. I didn't think it made a tremendous amount of sense, but thats what they said. Also given the estate tax is coming back there would be huge gifting this year. Some people are taking advantage of the relatively low rates anyway

JoeTaxpayer said...

Nice article.
More than anything, I'd like to see a long term plan. The progression from 2000-2009 was fine. In 2011, they need to pick a number, whatever it is, and adjust for inflation each year.
The 2010 "no stepped up basis" was a crock. It created more confusion than anything, good luck finding basis for any but the most disciplined decedents.