Understanding Federal Estate and Gift Taxes
How the Federal Gift and Estate Tax Work Together
The federal tax that is placed on things a person purchases during their lifetime and assets left at death are part of a unified federal gift and estate tax. The point of these taxes is so that whether you are giving assets away while you’re alive or leaving them to someone when you pass, you’re getting taxed the same way and at the same rate. Without a gift tax, people could completely give away everything they own right before death to avoid paying the taxes.
This tax will only apply to those who give away or leave gifts over $5.45 million. Once the total goes over that number a person will be required to pay federal gift and estate tax. For example, if you give your child your house while you are still alive and it is worth $1 million and once you pass they receive $4 million in stocks and bonds, there will be no federal gift or estate taxes due. The exemption amount is indexed for inflation and goes up each year. There are many other gifts that are not subject to the gift tax along with the $5.45 million exemption. One of these exemptions would be gifts to your spouse. Therefore, if you give your $1 million house and $4 million stocks and bonds to your children and another $7 million to your spouse, you still will not owe any gift tax.
Gift Tax Basics
A gift is anything taxable that a person gives away while they are living. If the gift you are giving away is taxable, the person who is giving the gift must file a gift tax return and pay what is owed. This is not a responsibility of the recipient of the gift. Most of the time a person’s gift will go untaxed because it usually does not exceed the $5.45 million exemption. The tax is not owed until you exceed that amount and very few people give away that much money during their lives.
Estate Tax Basics
Federal estate tax is calculated once a person passes away. The amount of taxable lifetime gifts is included along with the property that is left behind. These items are added together to formulate a total that may be subject to estate tax. No tax will be due unless the taxable items exceed the exemption rate.
What’s a gift?
Any transfer in which you receive nothing or less than the fair market value in return are considered a gift. The fair market value is determined when the price at which an asset would sell when there’s a willing and knowledgeable buyer and seller. If a person gives another person a check for $2,000 that is a gift, and if a person sells their house to a relative, for example, for $10,000 when the house has been assessed at $100,000 than that would be a $90,000 gift.
Here is a list of some common NOT taxable gifts:
- In 2016 any gifts less than or equal to $14,000 will not be taxed.
- If a person pays tuition directly do the school, it will not be taxed.
- Medical expenses you pay directly.
- Gifts to your spouse (if your spouse is a U.S. citizen).
- Gifts to a political organization for its use.
- Gifts to certain charities.
What’s the gift tax rate?
The current federal gift/estate tax rate is 40%.
Filing a Federal Gift Tax Return
If you make a taxable gift, then you’ll need to file a gift tax return (IRS Form 709). This is NOT something you should do on your own. Look for an experienced CPA or financial expert of some kind and let them work through it with you. They may be able to help you avoid the tax altogether.
*For more about the federal gift and estate tax, see IRS Publication 950, Introduction to Estate and Gift Taxes.
