The gift tax is one of the most poorly understood “taxes”. So, who pays the gift tax, the giver or the receiver? Well neither really (ideally).
The 2019 annual gift tax limit is $15,000 per person or $30,000 per married couple. What do these limits actually mean? It means that a person can give away $15,000 to anyone and to as many people as they would like without having to file IRS form 709 with their taxes.
The reason there is a gift tax is to prevent wealthy folks to give away large swaths of their money to avoid estate taxes at death. Gifting, however, is still a great way to reduce your estate tax limit if you happen to have that much money. The 2018 federal estate limit before incurring taxes is $11.18 million per person or $22.36 million per married couple. It’s also important to note that married couples can share this estate limit. When one partner dies the other partner may have their $11.18 million + whatever the other partner didn’t fully use.
What Is a Gift?
A gift is anytime there is a transfer of cash or property without receiving something of equal or fair market value in return.
Many of us give gifts to friends, family, co-workers and staff. But we don’t generally buy gifts that cost more than $15,000 (if you do, let me know how I can be friends with you).
The gift limit generally applies towards family members. If Allison gives her son Tim a home that is worth $200,000 then she has given him a gift of $200,000. Or if Allison sells Tim a home for $50,000 but it is worth $200,000, then Allison gave Tim a gift of $150,000.
Another gift scenario that many folks may not be aware of are loans to friends and family that are interest free or below the IRS Applicable Federal Rate. The IRS considers these as gifts, not loans. So if you would like to loan money to a friend or family member you must charge them a minimum amount of interest and report it on your taxes.
Married Couples and the Gift Tax
One notable perk of being married is the ability to give each other unlimited gifts to your spouse – if your spouse is a U.S. citizen. If your spouse is not a U.S. citizen, then you are limited to giving them $152,000 a year.
The $30,000 per married couple gift limit comes into play when the gift comes from one spouse’s bank account but is from the couple. For example, Carol and Jim are married. Carol gives $20,000 to her daughter Janet. $20,000 is over the $15,000 gift limit for an individual but since Carol is married the gift can be from the couple and be subject to the $30,000 limit. You are supposed to file this “split gift” on IRS Form 709.
Notable Exceptions to the Gift Tax
There are exceptions to the gift tax limit. Phew! We all know that donations to qualified non-profit organizations don’t incur a tax. So do gifts to political organizations. Payments made directly educational institutions for tuition for private school, college etc. are also exempt from the gift limit. Another notable exception is direct payments for medical care.
Children and the Gift Tax Limit
The gift limit mainly comes into play for us when it comes to funding our children’s education. Many of us contribute to a 529 plan to pay for college. Did you know that your contributions to a 529, ESA, and perhaps a UTMA are all subject to the annual gift limit?
One exception to the annual limit is the ability to frontload your child’s 529 with 5 years worth of contributions. This means you can contribute $75,000 (5 x $15,000) or $150,000 if married (5 x $30,000) at once. You won’t be able to contribute again for 5 years. Note that this means you have used up the gift limit for all gifts such as funding an ESA, UTMA, etc.
You’re Unlikely to Pay the Gift Tax
Very few of us will ever need to worry about actually paying a gift tax. Even when you go over an annual limit and file IRS Form 709, all it means is that you are reducing your federal estate limit by the amount you over gifted. In other words, a gift tax is not calculated until you die. In which case you won’t care about owing anything anyway.
You gave your daughter Susan $50,000 and filed Form 709 for the $35,000 that was over $15,000 limit. This means that your federal estate limit is now $11.18 million – $35,000 or $11,145,000. Still plenty left!
Did you know the gift tax was so misunderstood? Comment below!