Internal Revenue Code: Understanding the Gift Tax

Gift tax is one of the most misunderstood areas of the Internal Revenue Code by our clients.  Most clients believe that if they give away more than the allowed annual gifting exclusion (currently $14,000 for 2013) that a tax is due on the excess.  This belief simply is not true in most cases. 

If a taxpayer gives away more than $14,000 to one individual in 2013, a gift tax return (Form 709) must be filed with the IRS by April 15, 2014.  Filing of the Form 709 doesn’t automatically result in a tax bill.  Each taxpayer is allowed, under current law, to give away $5,250,000 during their lifetime without a tax bill, but the excess gifts over $14,000 must reduce the lifetime amount.   A married couple effectively has $10,500,000 ($5,250,000 for each spouse). Form 709 is used to track the reduction in your lifetime exemption and thus, in many cases acts only as an informational return with no tax due.  For illustration, Dr. Smith has decided to give his son a gift of $250,000 and Dr. Smith has never made any gifts in previous years for us to consider.  Dr. Smith will be required to file a gift tax return to report the excess gift over $14,000.  Form 709 will show a gift in the amount of $236,000 ($250,000 - $14,000) and thus reduce his lifetime exclusion to $5,014,000 ($5,250,000-$236,000).  No tax will be due with Dr. Smith’s gift tax return and only the reduction in his lifetime exemption will be reported and carried forward for future years.

Another important aspect of the lifetime exclusion is to understand that this exclusion also correlates with an individual’s estate exclusion upon death.  Following the example above, if Dr. Smith passes away in 2014, provided his net estate assets are not worth more than $5,014,000, no estate tax will be owed at his death.  If he had not made the gift in 2013, his estate could have been the full $5,250,000 (plus an inflationary adjustment for 2014) before any estate taxes were due. 

Gift and estate planning can be very complex for large estates but, if your individual estate is under the $5,250,000 lifetime exemption amount, planning can often be very simple and straightforward based on current laws.  If you have any questions on gifting and estate planning, please give us a call for a more personalized analysis.

/posted by Lisa DeVaughn Foley, CPA