Gift Taxes Explained: Everything You Need to Know
Giving gifts to your loved ones is one of the best ways to show them how much you care. However, these gifts can sometimes come with some financial implications, especially when it comes to gift taxes. In this article, we’ll explore what gift taxes are, who pays them, and how they work.
What are Gift Taxes?
A gift tax is a tax imposed on the transfer of property by one individual to another, without receiving full financial consideration in return. This means that if you give someone money or property without receiving something in exchange of equal value, you may be subject to gift taxes.
In the United States, the Internal Revenue Service (IRS) is responsible for administering gift taxes. The federal gift tax rate varies depending on the value of the gift and can be as high as 40% for the highest gift amounts.
Who Pays Gift Taxes?
Gift taxes are generally paid by the person who gives the gift rather than the person who receives it. However, there are some exceptions to this rule.
For instance, if you give a gift to your spouse who is a U.S. citizen, you aren’t required to pay gift taxes, regardless of the value of the gift. The same rule applies if you give a gift to a qualified charity or a political organization.
In addition, you can give up to a certain amount to anyone without incurring gift taxes. This is known as the annual exclusion amount, and for the year 2021, it is $15,000 per person.
For example, let’s say you decide to give your son $20,000 as a gift. The first $15,000 of that gift will be excluded from gift tax, and you’ll only owe gift tax on the remaining $5,000.
How Do Gift Taxes Work?
To determine whether you owe gift taxes, you’ll need to calculate the total value of the gifts you’ve given during the year. This includes not just cash gifts but also property, such as a car or a house.
If the total value of your gifts for the year exceeds the annual exclusion amount, you’ll need to file a gift tax return with the IRS. However, this doesn’t necessarily mean that you’ll owe gift taxes.
The federal government has a lifetime gift tax exemption, which allows you to give away up to a certain amount over your lifetime without incurring gift taxes. For the year 2021, this amount is $11.7 million.
Let’s say you’ve given $20,000 in gifts to your son this year, bringing your lifetime gifts to $2 million. You won’t owe gift taxes on the $20,000 gift, because it’s below the annual exclusion amount. However, if your lifetime gifts exceed the $11.7 million exemption, you’ll owe gift taxes on the excess amount.
In addition to the federal gift tax, some states also have their own gift tax systems. It’s important to check the rules in your state to determine if you’ll owe any state gift taxes.
Gift Tax Exclusions
As we’ve mentioned earlier, there are some exceptions to gift taxes that allow you to give gifts without incurring gift taxes. These include:
1. Charitable Donations
If you make a gift to a qualified charity or a political organization, you won’t owe gift taxes, regardless of the value of the gift.
2. Educational Expenses
You can pay for someone’s educational expenses, such as tuition or books, without incurring gift taxes. However, you’ll need to make the payment directly to the institution, not to the person.
3. Medical Expenses
Similarly, you can pay for someone’s medical expenses without incurring gift taxes, as long as you pay the provider directly.
4. Spousal Gifts
You can give gifts of any value to your spouse who is a U.S. citizen without incurring gift taxes.
Gift Tax Planning
If you’re planning to give gifts to your loved ones, there are some strategies you can use to minimize your gift tax liability. One of the most effective strategies is to spread your gifts over time, rather than giving a large gift all at once.
For example, instead of giving your son a $50,000 gift in one year, you could give him $10,000 per year for five years. This way, each gift will be below the annual exclusion amount, and you won’t owe gift taxes.
Another strategy is to use your lifetime gift tax exemption strategically. For example, you could give a large gift early in life, when you expect your net worth to grow significantly. This way, you’ll be able to use your lifetime exemption when it’s most valuable to you.
Gift taxes can be complicated, but they don’t have to be. With proper planning and understanding of the rules, you can give gifts to your loved ones without incurring gift taxes. Remember, if you’re ever unsure about how gift taxes work or how they might affect your financial situation, it’s always best to consult with a qualified tax professional.
In the United States (US), gift taxes are taxes imposed on the transfer of property or money from one person to another as a gift. As generous individuals give gifts, they should be aware of how gift taxes work. This article explains the basics of gift taxes in the US.
For 2021, the IRS annual exclusion for gifts is $15,000 per recipient, meaning that a donor can give a total of up to $15,000 to an individual without incurring any gift tax. Additionally, a donor can give up to $159,000 to a spouse who is not a US citizen without having to pay gift taxes. The annual exclusion and tax-free giving to a non-US citizen spouse are both subject to change as tax laws evolve.
If a donor exceeds the annual exclusion limit of $15,000 per recipient, the excess amount will be deducted from the donor’s federal lifetime gift tax exclusion. The federal lifetime gift tax exclusion is currently set at $11.7 million, which is the same amount as the estate tax exclusion. The donor will not actually pay any gift taxes until their total giving exceeds the $11.7 million threshold (as of 2021). Once the $11.7 million limit is reached, the gift tax rate is a maximum of 40%.
It’s important to note that certain gifts are excluded from gift taxes regardless of their value or size. These type of gifts include donations made to qualified charities, direct payments made to medical and educational institutions for someone’s benefit, and gifts made to one’s spouse.
Although gift taxes may seem straightforward, there are certain nuances that donors should be aware of. For example, if a donor gives a gift that depreciates in value, the IRS may assess gift tax on the fair market value of the gift when it was initially made.
As an example, imagine that a donor gave a friend a painting 5 years ago that was worth $20,000 at the time. The donor paid no gift tax because the painting’s value was below the annual exclusion. Today, the painting has depreciated in value and is worth $15,000. Suppose the friend sells the painting for $15,000. The IRS may determine that the friend received a gift that was valued at $20,000 and assess gift tax on the $5,000 difference.
In summary, for US taxpayers who are interested in giving gifts, gift taxes are a crucial consideration. The annual exclusion and lifetime exclusion limit are two important figures to keep in mind. Gifts that fall outside the annual exclusion might be subject to gift tax if they exceed the federal lifetime gift tax exclusion. Nonetheless, a donor who manages their wealth effectively could potentially avoid paying gift taxes altogether. Consulting with a qualified tax professional can provide clear guidance on the limits and taxes of gift-giving.
A gift tax is the taxation of the transfer of property that may come in the form of money, stocks, land, or any other equitable property. The Internal Revenue Code defines the gift tax in Chapter 12, subtitle B, section 2501. As it is defined, the gift is gratuitous if the donor receives nothing in return from the person receiving the gift. The parties involved in the gift tax are the donor and donee (party receiving the gift). The only person that is taxed is the donor. However, the donee may choose to pay the gift taxes of his or her own volition. This is facilitated through an accountant or qualified tax preparer.
Gifts that do not fall under the gift tax include:
Gifts given to a spouse;
Gifts given to a political organization that are to be used by that political organization;
Gifts given that are less than the annual gift exclusion designated for that year;
or, Gifts given to cover medical expenses or the tuition at school or university.
There are annual exclusions established by the Internal Revenue Service (IRS) which allow gifts, depending on their value, to be exempt from the gift tax. In recent years, the exclusion amounts from gift taxes were:
$11,000 from 2002 to 2005;
$12,000 from 2006 to 2008;
and, $13,000 as of 2009.
A married couple may pool together to give a gift and in doing so the exclusion amount of gift taxes is then doubled. A couple or individual may give as many gifts as they want during a year and not be penalized by gift taxes so long as the donor(s) do not exceed the established limit.
Under the federal income tax, gifts are typically excluded as they are then taxed by the federal gift tax. This is because the gift does not affect the gross income of the donee. However, there are instances when the donee would have to pay higher income taxes in addition to gift taxes. If income is received due to the transfer of a gift, that income is not excluded from the federal income tax. This includes gifts of property, money, or any other form of income that increases the gross income of the donee. Also, if an employer gives a gift to an employee, or employees, the employee is required to note that gift on their income taxes as income. Again, this is because the gift increases the gross income of the employee.
When filing tax returns, the donor and the donee must both consider the value of the gift and whether that value must be listed on the tax return. If it is to be listed on the return, information that should be provided are copies of any appraisals of the gift, transfer documentation, and any other documents related to the gift. Also to be considered on the tax return is the fair market value of the gift, which is the price of the gift when purchased by the donor from a vendor.