A gift tax is a tax placed on property that is transferred from one person to another without the giver receiving something of equal value in return. The giver, not the receiver, of a gift is required by the IRS to file a gift tax return, and must pay any gift tax due, even if the transfer of property was not intended as a gift. The purpose of the gift tax is to prevent individuals and entities from gifting property in order to avoid paying estate taxes. Gifts covered by the gift tax include real and personal property, cash, stocks and other financial instruments. To explore this concept, consider the following gift tax definition.
Definition of Gift Tax
- A tax imposed on the transfer of property by one person to another, who receives nothing, or less than the full value of the property, in return.
Enacted by Congress in 1932
What is the Gift Tax
A gift tax is levied against an individual when he gives property or financial assets to another person without receiving at least an equal value in return. Not all gifts are subject to the gift tax, however. In fact, gifts with a value less than the IRS annual exclusion, which is $14,000 for the tax year 2015, are not taxable, nor are gifts given to certain organizations:
- Gifts to charities
- Gifts to a political organization
- Gifts to one’s spouse
- Medical expenses or tuition paid directly to the medical or educational institution on behalf of someone else
It is up to the donor to know when a gift is subject to the tax, and to file a gift tax return with the IRS. On the gift tax return, the full value of the gift must be listed if the donor received nothing in return. If the donor received partial value for the gift, he will be taxed on the difference.
Gift Tax History
Modern estate taxes, also called “inheritance taxes,” date back to the 18th century in the U.S. The estate tax rate has varied, but was always based on a percentage of the value of the estate. In an effort to get around the need for decedents to pay a large amount to estate taxes, individuals began gifting property and financial assets to relatives and other beneficiaries prior to death, taking the gifts’ value out of the estate total.
During the Great Depression, the government needed a way to increase revenue quickly, so in 1932, the first gift tax law was enacted. The gift tax prevents individuals from skirting taxation of their estates, imposing a tax on the gifts they make over a certain value. In the beginning, such gifts were taxed at 25 percent under the estate tax, while adding an exemption of $50,000. Over time, the gift tax rate increased, along with the exemption amount. In 2002, the gift tax exemption hit $1 million, the gift tax exclusion $11,000.
Estate taxes are imposed on the value of the decedent’s assets when transferred after his death. Gift taxes are intended as a backup to the estate tax, catching gifts given in order to avoid paying estate taxes, and taxing them anyway. Assets subject to the estate tax include such items as real property, cash, trusts, valuable personal property, and business assets. Assets passed from one spouse to another are not subject to estate taxes or gift taxes, though that property may be subject to taxation after the remaining spouse’s death.
Federal Gift Tax
The Internal Revenue Service is responsible for collecting federal gift taxes as covered in Chapter 12, Subtitle B, of the Internal Revenue Code. The agency defines a gift as something given with a “detached and disinterested generosity,” and requires individuals to file federal gift tax forms for each qualifying gift. In order to help enforce the federal gift tax, the IRS tracks state and county property records, spotting transfers of real property.
Individuals who fail to file the requisite IRS gift tax form are not only required to pay the tax, but are subject to fines and interest. An individual who needs more time to file a gift tax return may request an extension from the IRS, which is usually granted for up to six months. Requesting an extension with fraudulent intent may expose the taxpayer to additional fines.
Tax Free Gift
Certain types of gift are not considered taxable, no matter the value. The most common such gift is an item given as a promotion. For example, Sally attends a live taping of her favorite television talk show, and the host gives each member of the studio audience a brand new refrigerator from a certain appliance company. The company is receiving promotion in the form of national advertising through the talk show airing, which is consideration, or payment of a sort for the transfer of property, therefore these gifts are considered a tax free gift for the company.
In this instance, however, the recipients of the refrigerators are burdened with paying income taxes on the full retail value. In some states, recipients of such gifts must claim these prizes on their income tax returns, however other states require the taxes be paid before the prize-winners can even take home the booty.
Other gifts that fall under the tax free gift category according to the Internal Revenue Service include:
- Items given to a politician organization
- Property or cash gifts to charities
- Gifts given to a spouse in the United States
Gift Tax Exemption
There are two types of gift tax exemption: (1) the annual gift tax exclusion, and (2) the lifetime gift tax exemption. The annual gift tax exemption allows an individual to give any number of gifts, each of which are under a specified value, which is $14,000 in 2015, without having to report it or pay gift taxes.
For example, if Bob gives each of his three daughters $14,000 in 2015, he does not have to pay gift taxes on any of them. If Bob gives $28,000 to his friend, John, in 2015, the gift is taxable, but only on that amount over the $14,000 gift tax exemption. Therefore, Bob will be responsible for paying taxes on $14,000 of John’s gift. If, on the other hand, Bob and his wife Stephanie give John’s $28,000 gift jointly, it will not be taxable, as gifts given jointly by a married couple have a higher annual gift tax exclusion, as well as a higher lifetime gift tax exemption.
Gift Tax Exclusion
Nearly any gift is considered a taxable gift, but gift tax applies only if the value of the gifts does not exceed the annual gift tax exclusion amount as set by the IRS. In 2015, the amount of this exclusion is $14,000 per recipient. This means that Joe can give each of his three children up to $14,000 without having to pay a gift tax. If, however, Joe gives any child $14,001, he will be required to file a gift tax return, and the gift will be taxed by the IRS.
Lifetime Gift Tax Exemption
Everyone is entitled to claim a lifetime gift tax exemption, from which the value of otherwise taxable gifts may be deducted, until the exemption is used up. Also referred to as the “unified credit,” the lifetime gift tax exemption, which is $5.34 million in 2015, is a lifetime total exemption from paying taxes on gift and estate taxes. To determine how much of the lifetime gift tax exemption an individual can claim, begin by subtracting the taxable amount of he gift, which is the value over the annual exclusion, then subtract that amount from the lifetime gift tax exemption total.
George gives $50,000 to his daughter as a wedding gift in January 2015. The annual gift tax exclusion for 2015 is $14,000. Subtracting that amount from the $50,000 gift value leaves a $36,000 taxable value. George would then subtract the $36,000 value from his lifetime gift tax exemption of $5,340,000, leaving a lifetime exemption of $5,304,000. Because this is a “lifetime” exemption, George will deduct future taxable gifts from this remaining balance until it is used up.
An example of the formula used to in this scenario is:
Lifetime gift tax exemption – taxable gift = remaining lifetime gift tax exemption amount, so:
George’s $5,340,000 lifetime exemption – $50,000 taxable gift = $5,304,000 remaining on his lifetime gift tax exemption
Gift Tax Return
When a person gives a gift that is subject to gift tax, he is responsible for reporting it to the Internal Revenue Service. The gift value is reported on IRS form 709, United States Estate (and Generation-Skipping Transfer) Tax Return. Form 709 is filed with the individual’s income tax return, and is due on or before April 15th of the year after the gift was made. Professionals recommend seeking the assistance of a qualified tax preparer or accountant for filing income taxes with a gift tax return, as failure to properly complete the forms, or failure to report the gift, may result in serious penalties.
Claiming Gifts as Income
A gift received is not considered income, and does not need to be reported on the receiver’s income tax return to the IRS. While it is up to the giver of the gift to report it to the IRS, most gifts avoid the gift tax altogether, with no need to be reported. This is true of every gift with a value below the annual amount set by the IRS, which is $14,000 as of 2015. Gifts given with a value over this amount may be deducted from the giver’s lifetime gift tax exemption, and not taxed until that exemption amount is reached.
Related Legal Terms and Issues
- Fraudulent intent – A false statement or deceptive act made with the intent to deceive the victim.
- Personal Property – Any item that is moveable and not fixed to real property.
- Real Property – Land and property attached or fixed directly to the land, including buildings and structures.