Gift Tax

The gift tax is the federal tax imposed on the transfer of property by one individual to another during life without receiving full value in return. The IRS's own description is worth quoting for its second sentence: the gift tax is a tax on the transfer of property by one individual to another while receiving nothing, or less than full value, in return, and "the tax applies whether or not the donor intends the transfer to be a gift." That is the sentence that makes the topic wider than most people expect. Selling a house to a child below market value, forgiving a loan, making an interest-free loan, or adding a child's name to a deed can all be gifts made by someone who never thought of themselves as making one.

The return is Form 709, the "United States Gift (and Generation-Skipping Transfer) Tax Return," and it is filed by the giver. Recipients generally report nothing and owe no income tax on what they receive. The reason actual gift tax is so rare is structural: gifts above an annual per-recipient amount reduce a very large lifetime exclusion rather than producing a bill, so for the overwhelming majority of people a large gift means paperwork and not tax.

The annual exclusion is per recipient, per giver, and it resets. Section 2503(b) excludes the first $19,000 of gifts to any one person in a calendar year from taxable gifts. There is no limit on the number of recipients, so a couple with three children and six grandchildren has eighteen separate annual exclusions available, since each spouse has their own. Two restrictions on it are easy to miss. It applies only to gifts of present interests, so a transfer the recipient cannot reach until later, which describes many trust arrangements, may not qualify without specific drafting. And section 2503(b)(2) indexes the amount off calendar year 1997 but rounds any adjustment down to the next lowest multiple of $1,000, which is why the figure moves in $1,000 steps and can sit unchanged for several years running.

The gift tax and the estate tax are one system with two halves, and this is where the standard shorthand goes wrong. Both draw on a single basic exclusion amount, currently $15,000,000, and both use the same rate schedule topping out at 40% under section 2001(c). What that means in practice is that a taxable gift does not disappear from the transfer tax base: section 2001(b) computes the estate tax on the taxable estate plus the decedent's post-1976 "adjusted taxable gifts." So the common statement that gifting "moves assets out of your estate" is loose. What leaves the system is the growth after the gift, because the gift is added back at the value it had when it was made while the appreciation since then belongs to the recipient. For a large estate that is a real and substantial benefit; it is simply not the benefit people usually describe.

Gift splitting, and the price of it. A married couple may treat a gift made by one of them as made half by each under section 2513, which doubles the annual exclusion available for that recipient. It is not automatic: both spouses must consent on a filed gift tax return, which means a return has to be filed even when the split is what brings the gift under the exclusion, and consenting makes both spouses jointly and severally liable for any tax.

The marital deduction, and the exception that costs people money. Gifts between spouses are generally unlimited and free of gift tax. That unlimited marital deduction does not apply where the recipient spouse is not a US citizen. Instead section 2523(i)(2) supplies a separate, much larger annual exclusion for such gifts, $194,000 for the current year, indexed annually. A couple who move money freely between joint accounts without knowing this can accumulate reportable gifts over years without realizing it, and the rule turns on citizenship rather than residence.

Qualified transfers: two things that are not gifts at all. Section 2503(e) excludes tuition and medical payments entirely, with no dollar limit, no Form 709, and no use of either the annual or the lifetime exclusion. Two words do the work. The payment must be made directly: paying a university is excluded, and giving the same money to the student to pay the university is an ordinary gift. And the education limb covers tuition only, not room, board, books or supplies. On the medical side the statute reaches payments to "any person who provides medical care," so a physician's practice qualifies as readily as a hospital, and health insurance premiums qualify as well. Reimbursing the patient never does, however the money was ultimately spent.

Joint accounts and joint deeds are not the same, and the difference is timing. Adding someone to a bank account is generally not a completed gift when you do it, because you retain the power to withdraw the whole balance; the regulations treat the gift as happening if and when the other owner draws on the account for their own benefit. Purchasing property and titling it jointly, or adding a co-owner to an existing deed, generally is a completed gift of a share straight away. Everything else about the two is similar, including exposure to the co-owner's creditors and divorce, the loss of unilateral control, and the basis consequences, so it is only the gift-timing question that splits.

Basis is the load-bearing difference between giving and leaving. Under section 1015 a recipient generally takes the giver's basis, and under section 1223(2) the giver's holding period comes with it, so a long-held position stays long-term in the recipient's hands. Property that passes at death is instead revalued to its date-of-death value, so the gain accumulated during the owner's life is never income-taxed. Section 1015(a) also carries a trap for a loss position: where the giver's basis exceeds the value at the time of the gift, the recipient's basis for measuring a loss is that lower value, so the built-in loss is destroyed for both of them.

Filing mechanics. Section 6075(b) sets the deadline as April 15 following the calendar year of the gift, and an extension of the income tax return is deemed to extend the gift tax return as well. One non-obvious rule: for the year in which the donor dies, the gift tax return is due no later than the deadline, including extensions, for the estate tax return.

How a gift is processed, in order.

1. Identify whether a transfer happened at all. Tuition or medical costs paid directly to the institution or provider are not gifts. Transfers between US citizen spouses are covered by the unlimited marital deduction.

2. Compare each recipient's total for the year with the annual exclusion. If every recipient's total is at or under $19,000, there is nothing to file.

3. Where a recipient's total exceeds it, the excess is a taxable gift and goes on Form 709. Gift splitting or a valuation discount may reduce it, and either requires a filed return.

4. The excess reduces the lifetime exclusion, dollar for dollar, and the running total is tracked on Form 709 from year to year. Tax is only payable once the whole exclusion has been consumed.

5. At death, the taxable gifts come back into the computation under section 2001(b), which is what makes the two taxes one system.

A hypothetical example of the basis point, which is the part with a real number attached. Devi bought shares many years ago for $80,000 and they are now worth $200,000. She is deciding whether to give them to her daughter now or leave them to her.

If she gives them, her daughter takes Devi's $80,000 basis and her holding period. Selling at $200,000 produces $120,000 of long-term capital gain on the daughter's return. The gift itself is reportable, since $200,000 exceeds the annual exclusion, and it reduces Devi's lifetime exclusion by the excess, but no gift tax is due.

If Devi instead leaves them at her death and they are still worth $200,000, her daughter's basis becomes $200,000. Selling immediately produces no taxable gain. The difference between the two paths is the income tax on $120,000 of gain, created entirely by how the shares changed hands.

Now change the facts to a loss position. Suppose the shares Devi paid $80,000 for are worth $50,000. If she gives them away, section 1015(a) sets her daughter's basis for measuring a loss at the $50,000 value, so the $30,000 built-in loss is not available to either of them. Selling first and gifting the cash would have preserved it for Devi.

What the structure gets right

• The annual exclusion is per recipient and per giver, resets every year, and requires no paperwork, so ordinary family support is simply outside the system.
• Exceeding it produces a filing obligation rather than a tax bill for nearly everyone, because the lifetime exclusion is very large.
• The unlimited exclusion for tuition and medical costs paid directly is one of the most generous provisions in the code and is widely unused.
• Because the tax falls on the giver, a recipient never has to worry about a tax consequence of accepting a gift.

Traps and costs

• Intent is irrelevant, so a below-market sale, a forgiven loan, an interest-free loan or a name added to a deed can be a reportable gift nobody meant to make.
• Gifting appreciated property transfers your cost basis, which can hand the recipient an income tax bill larger than the estate tax the gift was meant to avoid.
• A gift of a loss position destroys the built-in loss for everybody.
• The unlimited marital deduction does not apply to a non-citizen spouse, and the people affected usually do not know the rule exists.
• Gift splitting requires a filed return and makes both spouses jointly liable for any tax.
• Reimbursing someone for tuition or a medical bill they already paid does not qualify as a qualified transfer, so the timing and the payee both matter.