Gift tax, and the extent to which it overlaps with the estate tax, can be one of the more confusing parts of the tax code for individuals. It really shouldn’t be: When broken down into its component parts, gift taxes, and the methods to calculate your gift tax bill, aren’t too difficult to understand.
Because of the annual exclusion, the gift tax doesn’t apply to most gifts you casually gave each year. The annual exclusion for the gift tax applies to the first $13,000 -- or $26,000 if you’re married and file a joint return -- that you give to each recipient in the 2012 tax year. In 2013 these amounts rise to $14,000 and $28,000, respectively. Because of this, small gifts you exchange throughout the year aren’t taxable. Also, the gift tax never applies to gifts you give your spouse.
As of 2013, each taxpayer receives a unified credit of $5.12 million over his lifetime that he may apply as he wants toward either the gift tax or, after he dies, the estate tax. While you’re never required to use portions of your unified credit to exclude gift taxes, many choose to use it to manage gift-tax bills. If you don’t expect your estate to be worth more than $5.12 million, it’s particularly important to use the credit in your lifetime instead of paying gift taxes unnecessarily.
Reporting Gifts and Calculating Taxes
If you give a gift that’s large enough to require you to pay the gift tax, you must file a Form 709 along with your Form 1040. Using the schedule A provided as part of Form 709 -- not Schedule A used to itemize deductions -- enter the value of all gifts that you gave and the person who received each gift. After you complete the total of potentially taxable gifts in Section 1, 2 and 3, you apply annual exclusions to the amount in Section 4. If you choose to spend some of your unified credit, you may apply that to reduce the taxable amount as well. Apply the applicable tax rate -- which varies among taxpayers -- to the taxable value.
Steve and his wife, Liz, want to give their grandson Mark a new car as a college graduation present. Mark picks out a sports coupe that sells for $42,000. Steve and Liz must report the gift on Form 709, listing its value as $42,000. They apply their $26,000 exclusion, resulting in a taxable gift of $16,000. Rather than using their unified credit, which they’ve chosen to preserve to defray estate taxes when they die, they choose to pay taxes on the $16,000. At the 35 percent rate, they owe $5,600 in gift taxes.
- Forbes: After the Fiscal Cliff Deal - Estate and Gift Tax Explained
- Smart Money: When to File Gift Tax Forms
- IRS: Frequently Asked Questions on Gift Taxes
- IRS: Instructions for Form 709
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Wilhelm Schnotz has worked as a freelance writer since 1998, covering arts and entertainment, culture and financial stories for a variety of consumer publications. His work has appeared in dozens of print titles, including "TV Guide" and "The Dallas Observer." Schnotz holds a Bachelor of Arts in journalism from Colorado State University.