How the Gift Tax Works

How the Gift Tax Works

The skinny:

If someone gives you a gift, you will not pay taxes on it. You can give away up to $14,000 per person in a single year and not owe any gift taxes. You can give away up to $5.45 million in your lifetime and not owe taxes on it. Any amount over $14,000 per person per year or $5.45 million  per lifetime, may be taxed.

 The fat:

The gift tax is one area of the tax code that most people have questions on. When someone receives a gift, especially a large one, most think that they need to pay income taxes on it as if it were earned income. The recipient of the gift is not going to be liable for any tax or reporting. The burden of the tax lies with the donor.

Generally, the federal gift tax applies to any transfer by gift of real or personal property, whether tangible or intangible, that you made directly or indirectly, in trust or by any another means. In other words, if you give someone something that has value, and they give you nothing back, it is a gift. It doesn’t apply to just cash but to anything of value.

There are certain limitations on how much you can give away, of course. There are two thresholds to be aware of – the Annual Exclusion and the Lifetime Exclusion.

Annual Exclusion

“Annual exclusion” refers to the amount of money you can give away in one year without having to file a Gift Tax Return or be subject to tax. The amount of the annual exclusion for 2016 is $14,000. The first $14,000 of gifts of present interest to each donee is fully excluded from taxation.  Any amount over $14,000 is subject to gift taxation and must be reported on IRS Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return.

Lifetime Exclusion

The lifetime exclusion applies to the total amount of taxable gifts that you can give away over the course of your life and not have to pay taxes on it. For 2016, this amount is $5.45 million. This means that the first $5.45 million of taxable gifts (the amount over the $14,000 per year per person limit) will be excluded from tax.

What Happens If I Give Someone More than $14,000 in 2016?

     Here is where it can get confusing. Let’s just say that you give a gift of $20,000 in 2016 to one person. This is the only gift you made in 2016. The first $14,000 is excluded from taxation and does not need to be reported. That much is fairly straightforward.  But how about the remaining $6,000? The $6,000 then goes against the lifetime exclusion of $5.45 million. Any amount over and above the annual exclusion amount of $14,000 gets deducted from the lifetime exclusion amount. Again, we are only concerned with what is “taxable”. The first $14,000 per year is excluded from being taxable and the first $5.45 million of excess over the annual amount is also excluded from being taxable. The excess $6,000, in this example would require IRS Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return, to be filed.

This article is for information purposes only and does not constitute tax advice. Investors should consult with their own tax advisor or attorney with regard to their personal tax situation.