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Basics of the Gift Tax
The gift tax is
unique in the federal tax structure. On the one hand, it is imposed
annually. On the other, it is a cumulative lifetime tax. Because it is
closely linked with the
estate tax, and
many of the concepts are shared, an understanding of the gift tax is
helpful in understanding estate tax issues.
I. Determine Your Total Taxable Gifts for the Year
A.
Determine your total gifts
Add up all gifts made to all
parties during the year In general rules of property, a "gift" is a
transfer without *any* consideration (exchange or payment). If there is
any consideration, the transaction is governed by the laws of sale,
rather than gift. For tax purposes, a gift is a transfer for
insufficient consideration (but a bad deal in ordinary business is not
a gift). Thus, I may transfer to you a 1998 Rolls Royce and a 1993
Toyota for $10,000 each. Both are "sales". From the tax standpoint, the
first is a gift from me to you and the second a gift from you to me.
One problem is that the
Internal Revenue Code uses "exclusions" in several senses. You may
exclude from calculation -- need never even bring them into the
figuring -- certain gifts for tuition and for medical care. This was
introduced relatively recently as soaring tuition costs put parents in
the position of making taxable gifts when paying for college tuition
for persons they were not legally required to support. That's adding
injury to injury.
On the other hand, you may also
"exclude" gifts which do not exceed $11,000 (it used to be $10,000 --
you may have that in mind -- but the law was changed to allow
adjustment for inflation) to any particular person in any given year.
That is, you needn't even report these (they'd come out anyway in the
calculation). For the details, see below.
B.
Spouses
may elect to "split" gifts
There is not a joint gift tax
return. Each spouse reports his or her own gifts on their own returns.
However, they may elect to treat all (it's an all or nothing
proposition) gifts made during their marriage period during the year as
made half by each. Each spouse signs the other's return, consenting to
splitting. So if A and B got married on June 1, and B died on September
30, all gifts made by either of them between June 1 and September 30
would be split. Gifts made outside that period would be treated as
having been made equally by each. At this point in the calculation,
each spouse may subtract from their total, the half which is being
reported by the other spouse and pick up the amount of the spouse's
gifts which they are reporting.
C.
Subtract
exclusions
Not the tuition and medical
care -- those weren't even reported to begin with. Nor the gifts of
under $11,000. But what about that $16,000 gift? You were required to
report it. But if it had been $11,000 it wouldn't have been taxable. So
at this point, you may subtract the exclusion amount and only the
excess will be in your return. And if you split with your spouse (and
they didn't make gifts to the same person), there's only $8,000 left in
your calculations, so the whole thing gets subtracted out (sorry, you
can only subtract the lesser of actual gifts or $11,000 -- you can't
apply that remaining $2,000 to gifts to someone else).
Until now, we've been treating
the exclusion as just mathematical -- $11,000 per person. But not all
gifts qualify for the exclusion to begin with. The gift must not be a
future interest. So a gift of $3,000, if a future interest, might not
be excludable to begin with. What constitutes a future interest is a
complex matter that's been the subject of much litigation. A couple of
simple rules will clarify most cases. An outright gift is not a future
interest. A gift to a minor in a Uniform Transfers to Minors Act
Custodianship is not a future interest. Most gifts in trust are future
interests, although special planning and drafting can cure that
with the use of Crummey powers.
But even though there may be no taxable gift, there may still be a
generation-skipping transfer. Gifts which are
excluded from gift tax because of Crummey
powers are not exempt from GSTT and you may still want to file a return
to use some of your exemption.
D.
Subtract
Deductions
Gifts to your spouse which
qualify for the marital deduction are
subtracted. So are gifts to charity.
E. Voila!
You have now calculated the
total taxable gifts for the year.
So what?
II. Determine the Gift Tax on This Year's
Gifts
A.
Take
your previous total of lifetime gifts
B.
Determine
new total lifetime taxable gifts
C.
Add
this year's gifts to your cumulative total of taxable gifts.
D.
Determine
the tax on the new total
See the
Tables
E.
Subtract
the amount of tax payable on the old total
F.
Result
is the tax on this year's gifts
Why so complicated? Why
couldn't we just calculate tax on this year's gifts? Because
The gift tax is cumulative
The gift tax is progressive
-- you need this calculation to find out what bracket you're in.
You have a lifetime shelter
(see below) and this keeps track of its use.
G.
Subtract
the amount of unused credit
Each taxpayer gets a lifetime
credit against gift tax. The credit is calculated as that amount
necessary to result in the exemption amount of $1,000,000 [Some genius
figured out that if they gave everyone a $1,000,000 exemption (actually
this thinking started when the exemption was a lot smaller), it would
save more money for those in the higher brackets. A credit reduces
everyone's tax dollars by the same amount.] Although the amount of
*estate tax* exemption will be increasing to $3,500,000
See the Tables and
then after one-year repeal returning to $1,000,000 the gift tax
exemption will remain at $1,000,000 except during the time of repeal. See the
Tax Act of 2001.
H.
Write
a check for any gift tax actually payable
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