Wednesday, January 21, 2009

Gift and Estate Taxes

In the post on my parents and Medicaid, I said that after my father's death, my mother might want to give my sister and me cash gifts up to the maximum allowed amount. Commenter Moom asked if we really needed to limit ourselves to that maximum because my parents' estate would be too small to be subject to the estate tax anyway. I thought the maximum annual amount still applied because my sister and I would have to pay taxes on it if it was over that amount-- but I just looked into that a bit more, and it seems I was wrong:

No tax payable by the person receiving your gift or
bequest. Generally, the person who receives your gift
or your bequest will not have to pay any federal gift tax or
estate tax because of it. Also, that person will not have to
pay income tax on the value of the gift or inheritance

But in general, the person giving a gift does have to pay taxes on it unless it meets certain criteria:

Gift Tax
The gift tax applies to transfers by gift of property. You
make a gift if you give property (including money), or the
use of or income from property, without expecting to
receive something of at least equal value in return. If you
sell something at less than its full value or if you make an
interest-free or reduced-interest loan, you may be making
a gift.
The general rule is that any gift is a taxable gift.
However, there are many exceptions to this rule.
Generally, the following gifts are not taxable gifts:
• Gifts, excluding gifts of future interests, that are not
more than the annual exclusion for the calendar
• Tuition or medical expenses you pay directly to a
medical or educational institution for someone,
• Gifts to your spouse,
• Gifts to a political organization for its use, and
• Gifts to charities.

The annual exclusion amount for 2008 was $12,000.

[IMPORTANT NOTE: coming back to Medicaid issues again for a minute, you have to remember that this gift limit only relates to taxation. For the purposes of Medicaid eligibility, you can't give away any money at all other than maybe a few hundred dollars here and there.]

I won't get into any details about the estate tax--for 2009, your estate has to be $3.5 million or more, so it is relevant to only a tiny percentage of people, and certainly not my parents, alas! But you can read more about gift and estate taxes in the IRS document linked below.

IRS publication 950, Introduction to Estate and Gift Taxes


Anonymous said...

Don't forget about the lifetime $1 million exclusion--you can give gifts over the annual exclusion amount that would normally be taxable (i.e. not charitable) and not be taxed on it as long as the total giving over your lifetime is under 1 million dollars.

Middle Class Hick said...

I need to look at this stuff. I know my parents have created trusts and things like that to bypass the estate taxes and things like that. The largest problem is the laws keep changing on this stuff. It is typical of our government to double tax the same money. Yes it might only hit a small percentage of people, however, it is all about morality, not not necessarily about necessity. Why, if someone makes a good living, saves, pays their taxes, and leaves a good amount of money to their children or grandkids, should their heirs have to pay taxes on money that has already been taxed once (when it was earned) or even twice (if they tax income made from investments).

It just makes no logical or moral sense to me except for the financial windfall the government wants. This is why lots of individuals I know keep their money over seas. Most companies just want a routing number for your paycheck to be deposited (which does not have to be in the US) and you can simple give yourself simple money transfers to a US bank. Taxes are simpler, and your investments can grow outside US jurisdiction. These loopholes are why we need to get to a simple tax structure, and forget this progressive scaled tax scheme we have in the US.

I guess that is too much to ask, since no level of government wants to give up the way they control the population by giving tax credits (look at the tax credits, and see what the government wants you to do). Have kids, use more insulation, buy a home, give to charity, buy hybrid cars, etc. While they are nice things, do we really need to give tax credits to people? If people were just taxed on what they earned, and not what they did, taxes would take a lot less time, deductions would be a thing of the past, and it would be simpler, and less time would be spent doing it.


mOOm said...

The point of the gift tax is to stop people giving away all their money before they die to non-charitable causes. They allow people to give up to $12,000 a year to each person they give to tax free. Beyond that you have to pay tax on it or count it towards your eventual estate tax bill. This is called the unified credit. So my understanding is that if someone will never be required to pay any estate tax they will never have to pay any gift tax either. Say they give away $100,000 during their lifetime above the annual exclusion. Then currently their tax free amount for estate tax will be $3.4 million rather than $3.5 million (I expect that the Obama administration will set the tax free amount permanently at this level from 2011 onwards).

mOOm said...

Middle Class Hick - What you are describing is illegal - so it's not a case of "taxes are simpler". US citizens are taxed on their worldwide income and it doesn't matter if you don't even live in the US unless you renounce US citizenship (no other country I know of is this extreme in trying to appropriate its citizens income - Australians who live outside Australia are regarded as foreign investors as far as the Australian government in concerned and the same taxes apply to them as any other foreign investor in Australia). The loophole in this matter applies to US corporations who earn offshore profits - they don't have to pay US tax on the difference between US and foreign tax rates until they repatriate their profits to the US. Hedge fund managers are known to exploit this loophole to defer taxes. BUt you can't just get an employee paycheck paid to an offshore bank and then think you don't owe US taxes.

Middle Class Hick said...

Agreed .. which is why I don't do it :) .... However - I see why people try to do things like that.

I favor a consumption tax. Pay for what you buy. They everyone is paying at the same rate, and for what you use. If you want that big, $10K TV .. then you pay the tax on it. If you are looking for the $100 model for your car, then you pay the tax on it. We have several levels of taxes, that was my general comment.

Anonymous said...

As the first commenter said, don't forget about the $1MM lifetime exclusion -- your parents could give you up to $1,012,000 in one year without paying a gift tax.

Anonymous said...

I took an estate and gifts class in law school. One of the most interesting classes I took, although I am a tax geek. Anyways, one thing you should not forget about is the lookback rule. Have not looked at it in a few years, but I believe on the date of death you lookback three years and all transfers (i.e. gifts) are pulled back into the value of your estate.

One of the coolest things I took from the class was using a combination of life insurance and charitable remainder trust as a means of avoiding estate tax. Basically, you set up a charitable remainder trust, dump all of your money into it and the trust in turn buys a life insurance policy with your heirs as the beneficiary….. And why you are alive, you have an income interest in the trust…. The trust pays you say 6% of the corpus…. Then you die, the entire value of the trust goes to charity, your estate gets a charitable deduction, eliminating any and all estate taxes, then your heirs receive the life insurance payout tax free… That is obviously the extremely short version but very cool nevertheless if your estate is worth a sizable amount. This is how many private foundations have gotten their start…. i.e. the Kennedy……… Gotta love tax law.