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Gift and Estate Tax: How are they related?

KeysOnMoneyStackThe Gift Tax, according to the definition on the IRS website, “…is a tax on the transfer of property by one individual to another while receiving nothing, or less than full value, in return.”

The Estate Tax is defined by the same website as, “…a tax on your right to transfer property at your death.”

So both taxes are levied on your property as it transfers from one person to another. The Gift tax law keeps track of property that you transfer before your death, and establishes limits of how much property you can transfer before you will be taxed while you are still alive. If you stay within the limits established, then you will owe no gift taxes, even if you have to file a return to keep track of the values that you have transferred. Your heirs, however, may have to pay taxes if the remainder of your property is more than the established excluded amount.

At Quist, many of our clients wrangle with these tax issues on an annual basis. Understanding the issues around Gift and Estate Taxes become even more important during times of economic and political uncertainty. We recommend to our clients that they proactive discussion with their trusted advisors (i.e. attorney, financial advisors, Quist, etc.) to better understand their personal situation as well as the frequently asked questions by so many people.

DO I HAVE TO FILE A RETURN?

Unless you give more than $14,000 to one person in 2013, then you don’t have to worry about it, and you don’t have to file a return to keep track. You can give $14,000 to anybody, your child or your postman, it makes no difference. And the recipient doesn’t have to pay taxes on it. The thing that you have to keep in mind, of course, is that you don’t get to deduct it (unless it is a contribution to a qualified charity, which is deductible under the rules of Schedule A, but an individual recipient seldom qualifies for that.)

PRE-DEATH ESTATE REDUCTION

As a form of pre-death estate reduction, it is a valid tactic to give amounts less than the limit to family members on a per year basis, but this total of $14,000 includes any Christmas, birthday, or incidental gifts that you are in the habit of giving to your family members. (You do not need to include certain tuition or medical expenses in the $14,000. Regarding tuition, however, the money must be for tuition only, books or other expenses don’t count; the check has to be written to a qualified institution, not your recipient). You can give money freely to your spouse under most circumstances (different limits apply if your spouse is not a citizen), and you can give money to a political organization (for federal taxation purposes, you cannot deduct political contributions.)

MARRIED VS SINGLE

If you are married, then you and your spouse can give $14,000 apiece to each individual. If your child is married, then you and your spouse can give $56,000 to that household without having a responsibility to file a gift tax return, (but please note to give less to accommodate any normal gifts to family members.) And even if you don’t file a return, keep relevant receipts and bank account transfer information so that you can document the fact that you are complying with the law, in case it is questioned by a subsequent audit.

If you are using this wealth transfer strategy, enlisting the help of financial professionals is highly recommended, whether or not a return is filed. Generation-skipping issues can be especially important. The IRS recommends that you conduct a search for the correct professional with the same diligence that you would search for a medical doctor for a serious health challenge.

If you decide to give your children a house, you will need the value of the house backed up by an appraisal, and you will need transfer documents to record the dates of transfer. You will need to establish your ownership of and basis in the house. Using the figures from the above example, where a married couple is giving a gift to a married couple, any transferred value above $56,000 will require you and your spouse to each file a gift tax return that establishes the amount that is transferring from your estate.

This return and supporting documents will be kept with the rest of your papers, along with your will and documentation of any established estate. It will, among other things, help to establish the basis of your children in the transferred property.

The Estate Tax has gone through many significant changes over the years, and the limits have fluctuated. Your completed gift tax return, if it is necessary to file one, will reflect the relevant estate tax limits for the year that the gift tax return was filed. The lifetime exclusion amount for 2014 is $5,340,000. If your gifts over your lifetime that have been filed in gift tax returns are more than the relevant year-of-filing lifetime limit before your death, then it is essential that this is handled in the proper manner directly after the year end.

Upon your death, or the death of your spouse, there will be necessary reconciliations to be made in order to correctly evaluate and settle your estate. Any gifts that you have made will be duly noted at that time. Any estate with any complexity needs to have a financial professional assist with the disposition.

Gift taxes are not owed by most people. If you think you might be an exception, then ask the necessary questions to achieve peace of mind. Contact us.

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