When you give someone a gift, you may be liable for the federal gift tax. This tax is unique in that it is imposed on the giver rather than the receiver. However, the system has been devised in such a way so that very few people end up paying the tax. It is typically geared toward wealthy individuals who have extensive property to give away.
The receiver of a cash gift is never liable for tax. Depending upon the amount gifted, the original owner of the gift may be forced to pay federal taxes on it.
Definition of a Gift
According to the Internal Revenue Service, a gift is anything you give to another individual without receiving its fair market value in return. Fair market value is what a reasonable person would be expected to pay for the property under normal circumstances, not what he could steal it for in a fire sale. If you give cash without expecting repayment and charging interest, it’s a gift. The Internal Revenue Code includes a few exceptions, however. You can pay someone’s tuition or medical bills for them without incurring a gift tax as long as you make payment directly to the health-care provider or the school. You can also give unlimited gifts to your spouse, certain charities and political organizations.
The Annual Exclusion
The rules for what constitutes a gift would seem to leave a lot of generous people open to having to pay a gift tax, but that’s not the case. Federal law allows you to give away $15,000 in money or property per recipient per year as of 2018 without paying the tax. This exclusion is indexed for inflation, so you can expect it to increase every year or two. If you’re married, the exclusion doubles — you and your spouse can give away $30,000 per recipient per year.
The Unified Tax Credit
If you go over the annual exclusion, you have a decision to make. Your first option is to pay the gift tax on the balance that year. For example, if you gave your brother $20,000, you could file Form 709 with your tax return and pay the tax, a walloping 40 percent as of the time of publication, on the additional $5,000 over the annual exclusion.
Your other option is to defer the tax to your estate so it’s paid after your death. Because the gift tax and estate taxes serve the same purpose, which is preventing individuals from giving away extensive property tax free, they’re both covered by a single, unified tax credit. This unified credit allows for an exemption of $11.18 million in property transfers during your lifetime or from your estate after your death, or both. If you give your brother $20,000, you can subtract the $5,000 over the annual exclusion from $11.18 million and leave the balance of the unified credit to protect your estate from taxation when you die. The downside is that if you give big gifts often enough, you might eventually whittle away at the unified credit enough that there wouldn’t be enough left to protect your entire estate when you die.
Transferring the Tax
It’s possible that the recipient of your gift might be so grateful that he’s willing to pay the tax for you the year it’s due. The Internal Revenue Service allows this, but the recipient is under no legal obligation to do so. Technically, the tax falls to you. If he does want to pay it, talk to an accountant. You’ll have to document the deal to the satisfaction of the IRS to ensure that the gift isn’t deducted from your unified credit later.
- Internal Revenue Service: Frequently Asked Questions on Gift Taxes
- Nolo: The Federal Gift Tax
- Bankrate: Estate Tax and Gift Tax Amounts
- Internal Revenue Service: What's New - Estate and Gift Tax
- Internal Revenue Service. "Frequently Asked Questions on Gift Taxes." Accessed April 30, 2020.
- Internal Revenue Service. "2019 Instructions for Form 709: United States Gift (and Generation-Skipping Transfer) Tax Return." Page 8. Accessed April 30, 2020.
- Internal Revenue Service. "2019 Instructions for Form 709: United States Gift (and Generation-Skipping Transfer) Tax Return," Page 3. Accessed April 30, 2020.
- Internal Revenue Service (IRS). "Publication 559: Survivors, Executors and Administrators: Estate and Gift Taxes." Page 26-27. Accessed April 30, 2020.
- Internal Revenue Service. "What's New - Estate and Gift Tax." Accessed April 30, 2020.
- Internal Revenue Service. "Estate and Gift Tax FAQs." Accessed April 30, 2020.
- Federation of American Scientists. "Recent Changes in the Estate and Gift Tax Provisions." Page 1. Accessed April 30, 2020.
- Center on Budget and Policy Priorities. "Ten Facts You Should Know About the Federal Estate Tax." Accessed April 30, 2020.
- Internal Revenue Service. "Instructions for Form 706: Time for Payment." Accessed April 30, 2020.
Beverly Bird has been writing professionally for over 30 years. She is also a paralegal, specializing in areas of personal finance, bankruptcy and estate law. She writes as the tax expert for The Balance.