Understanding Taxes On Gifts

June 7, 2019

Taxes

Have you gotten a gift and are now worried that you will face a huge tax bill? Or, perhaps your parents offered you assistance with a down payment for a new home, but if Uncle Sam takes a big bite of that, there will still be a shortfall in the amount required.

Not to worry. While the government is very aggressive about getting paid from wherever they can, lucky recipients of personal gifts have nothing to fear from the IRS. Unlike with income from salaries, investment gains, and even windfalls like lottery winnings, recipients of gifts of any size don’t have to pay the government a dime. While there is a gift tax, which can be as high as 40% or more, the payment obligation is on the giver, not the receiver of the present. But anyways, thanks to two massive loopholes in the gift tax—the lifetime exemption and the annual exclusion—even gift-givers almost certainly won’t face any cost or trouble by Uncle Sam over their generosity.

The Lifetime Exemption Loophole

While there is a tax on the giving of gifts, whether before or after death (via an estate tax on inheritances), there is an exemption that allows each person to give away a huge dollar amount before the tax kicks in. When this lifetime exemption was relatively small (e.g., $600,000 in 1997), many people were affected by the gift (or estate) tax, often for merely leaving a family home to their children.

In recent years, the amount shielded from gift taxes has been consistently raised—in 2023, $12.9 million per person is exempt! Therefore, a couple can gift/pass on $25.8 million to others tax-free. Even if the tax-cut law expires in 2025 as currently designed, and the gift exemption will revert to the $10 million (per couple) it was prior, the vast majority of families won’t be affected by this tax.

The Annual Exclusion Loophole

Sometimes, even a $25.8 million loophole isn’t big enough. Those who are very wealthy (or hope to be by the time they pass away), or live in a state that has a much lower exemption limit for state gift/estate taxes, can still easily utilize the annual exclusion (on top of the $12.9 million per life), a second workaround of the gift tax. Annual gifts of up to $15,000 per giver and per receiver are entirely excluded from the whole issue of gift taxes.

Therefore, a father can give his son and daughter-in-law $15,000 each, and his wife can do the same. By staying within excluded limits, the $60,000 ($15,000 x 4) gifted doesn’t even lower their combined lifetime exemption allowance (of $22.8 million). Also, it’s worth trying to stick to the $15,000 exclusion (per giving/accepting person per year) if possible because gifts over that amount require the filing of a form that enables the IRS to track if the giver is using up the much larger lifetime exemption.

(Note: There are also state exemptions, such as MA’s $1 million, RI’s $1.5 million, and MD’s $4 million. NJ recently repealed its estate tax, and NY matches the Federal exemption.)

Practically, Gift Tax Is Almost Moot

While $15,000 isn’t much in terms of protecting a considerable fortune, the very wealthy can efficiently combine the lifetime exemption and the annual exclusion to pass on enormous sums to their families without worrying about taxes. Imagine the “Reichs”, a very wealthy couple who have five children (with spouses) and 40 grandchildren. Each year, both Mr. and Mrs. Reich can give each of their 50 descendants $15,000, which totals $1.5 million annually tax-free (Mr. Reich’s 50 x $15,000 plus Mrs. Reich’s 50 x $15,000 = $1.5 million).

By doing this from age 60–80, the total excluded amount ($30 million) overshoots even the already considerable exempted number, which they can utilize as well. Perhaps their estate attorneys will recommend other avenues, but anyway you look at it, the much-derided “death tax” clearly has much more bark than bite. Most people have nothing to worry about, at least as far as this tax is concerned.

P.S. Please remember that this blog is intended to provide accurate but generalized information—not personalized legal, tax, or investment advice. Please do your research on applying the concepts discussed here to your personal situation or retain competent licensed professionals to do so for you. Also, note that government programs have their own rules regarding gifts, which should be closely researched and complied with.