Whenever someone transfers ownership of property, the IRS will levy taxes on the value of that property. This is called a “gift tax.” The IRS defines a “gift,” in this context, as “any transfer to an individual, either directly or indirectly, where full consideration is not received in return.” In most cases, gifts are considered taxable, however, there are a few exceptions. Some examples of gifts that are not taxable include:
- Tuition or medical expenses you pay for someone
- Gifts to spouses
- Gifts to a political organization
- Gifts to qualifying charities are deductible.
- Gifts that do not exceed the annual exclusion for each calendar year
Gifts that do not exceed the Annual Gift Tax Exclusion each year do not incur a tax and do not need to be reported to the IRS. In 2014, the Annual Gift Tax Exclusion will be $14,000 per recipient. Any gifts that exceed this limit will require the donor to pay a gift tax.
If you are married, and you and your spouse want to give a gift of property you own jointly, you are each entitled to the annual exclusion amount on the gift. In other words, the total annual exclusion for a joint gift would be $28,000.
Does the Annual Gift Tax Exclusion apply to all gifts?
The Annual Gift Tax Exclusion does not apply to every type of gift. There are certain restrictions. For instance, the exclusion only applies to gifts of “present interest.” This means that the person receiving the gift must obtain an unrestricted right to immediate possession, use and enjoyment of that gift. An example of this would be a Christmas check to your daughter that she can spend on anything she chooses.
On the other hand, a gift with only a future interest in the property, where the recipient cannot use the gift until a later time, does not qualify for the Annual Gift Tax Exclusion. So, an irrevocable trust that states that the named beneficiary cannot receive the property until he turns 21, would not be excluded.
What is the unified credit?
In some situations, the gift tax exclusion and the estate tax exclusion may be used in conjunction with one another. This is known as the “unified credit.” These two tax exclusions can entitle you to a lifetime exclusion of $5.34 million, in 2014. That means that up to $5.34 million of your estate will be exempt from inheritance taxes when you die. This amount is subject to change every year. Also, this credit is “portable,” meaning that the credit, or any amount of the credit you have not used, will be passed on to your spouse when you pass away.
What happens if I exceed the lifetime exclusion amount?
If your lifetime gifts in 2014 exceed $5.34 million, you are required to pay a gift tax equal to 40% of the amount that exceeds the maximum lifetime exclusion. There is only one exception – all gifts to your spouse (if he or she is a United States citizen) are tax free pursuant to the Marital Deduction.