If you provided anyone with a gift of more than $15,000 in 2021, you will need to file a Gift Tax Return. While most people won’t owe any taxes on their gifts, it’s important to understand the rules and make sure you’re compliant. This article will explain how the gift tax works, gift tax exemptions, and when you need to file a gift tax return.
What is a Gift for Gift Tax Purposes?
A Gift is a transfer of assets to anyone for less than full value. Simply put, if you give something away and aren’t paid back in full, you’ve made a gift. Cumulative, lifetime gifts in excess of an individual’s lifetime exemption are subject to gift tax.
Although it may seem counterintuitive, donors are responsible for paying gift taxes, not the recipient. The good news is that gift tax exclusions are pretty generous, and with strategic planning, you can make gifts in a way that avoids taxation.
What is the Annual Exclusion?
Each year you can gift amounts up to the annual exclusion limit without filing a gift tax return or paying taxes on the gift. The annual exclusion for 2021 is $15,000 per individual recipient and for 2022 is $16,000 per individual recipient. If you are married, you and your spouse can make combined gifts up to $32,000 per person in 2022 ($30,000 in 2021) to any number of individuals without filing a gift tax return or paying gift taxes. If spouses made a single gift of $30,000 in 2021, you can file a gift tax return to elect to split the gift and treat it as paid $15,000 by each spouse.
Let’s look at a few examples of gifts that fall under the annual exclusion:
- You and your spouse gift your child $32,000 in 2022.
- You gift your child $16,000 and your child’s spouse $16,000 in 2022.
- You and your spouse gift your child $32,000 and your child’s spouse $32,000 in 2022. (Depending on how the gift is made, you may need to file a return to elect gift splitting.)
- You give someone your car worth $8,000.
These are all examples of gifts that do not exceed the annual exclusion and thus are made tax-free.
What is the Lifetime Gift Tax Exemption?
If you exceed the annual exclusion for gifts to an individual, the excess amount will count against your “lifetime gift tax exemption”. The lifetime gift tax exemption is the aggregate value of all gifts you are allowed to make tax-free, in excess of the annual exclusion, over your lifetime. This exemption is tied to the estate tax exemption and to the extent you use gift tax exemption, you have less estate tax exemption at death.
The lifetime gift tax exemption for 2021 was $11.7 million and increased to $12.06 million for 2022. For married couples, the combined exemption was $23.4 million in 2021 and is $24.12 million in 2022.
Let’s say that you have not used any of your lifetime gift tax exemption as of 2022. In this case, you could gift a total of $12.06 million, over and above gifts subject to the annual exclusion, and not be subject to any gift tax. However, gifts in excess of the $12.06 million limit would be subject to federal gift tax.
In future years, the lifetime gift tax exemption will increase due to the inflation adjustment, and you may use that extra amount to make additional tax-free gifts. Once your lifetime gift tax exemption has been fully utilized, any additional gifts would be subject to gift tax.
What gifts don’t get taxed?
Virtually anything you give to another individual for less than full value is considered a gift. However, the following types of gifts are not subject to gift tax:
- Gifts to a U.S. citizen spouse,
- Gifts to a non-citizen spouse under $159,000,
- Educational expenses paid directly to a school,
- Medical expenses paid directly to a health care provider,
- Contributions to political organizations, and
- Donations to charitable organizations.
Special rules apply to gifts paid to a Section 529 college savings plan. When making a Section 529 payment, you can use up to five years of annual exclusions to avoid paying gift taxes; however, you must file a Gift Tax Return if you contribute more than $16,000 in one year.
What if the Lifetime Gift Tax Exemption amount is reduced?
In 2017, the Tax Cuts and Jobs Act (“TCJA”) increased the lifetime gift tax exemption from $5 million per individual (adjusted for inflation) to $10 million per individual (adjusted for inflation). The $10 million adjusted for inflation is how we arrive at the current limit of $12.06 million per individual for 2022. Unfortunately, the $10 million exemption will expire at the end of 2025, at which time it will revert back to $5 million, inflation-adjusted from 2010. Not only is it scheduled to revert back, but Congress has discussed accelerating the reduction ahead of the 2025 deadline.
So what happens if you maximize your lifetime gift tax exemption now and it is later reduced to a lower amount? The IRS has issued guidance indicating that you would not be subject to any claw back. The exemption limit would be based on the higher of the exemption when the gifts were given or the amount upon death. Therefore, you can take advantage of the higher lifetime exemption limit while it is still in place.
When should you file a gift tax return?
If you made any taxable gifts of more than $15,000 to an individual in 2021, you must file a Gift Tax Return using Form 709. Even if you have not reached the lifetime exclusion amount, you must file this form if you exceed the $15,000 annual exclusion so the IRS can keep track of your usage of your lifetime exemption. While a return is required, tax is due only when you’ve exceeded your lifetime gift tax exemption.
In certain circumstances, it may be useful to submit a gift tax return even if you aren’t required to do so. Consider filing a gift tax return if you have gifted property that is difficult to value, like an interest in a family business. Assuming disclosure requirements are met, this begins the three-year statute of limitations, after which the IRS will not be able to challenge the value of your gift.
What is the deadline for filing?
Gift tax returns have the same original filing date as income tax returns, but can be extended even if the income tax return is not extended. For 2022, the filing deadline is April 18. While you may get an extension to file, this does not extend your time to pay, so you must pay any expected gift taxes by April 18, 2022.
Gift taxes can be complicated.
The concept of gift-giving, while altruistic, can be complex in practice – especially when giving gifts that are hard to value. This is why it’s important to document anything you give another individual for less than full value throughout the year. Although it is rare to pay taxes on gifts, you may still be required to file a gift tax return so the IRS can track the value of gifts you have given over the course of your lifetime.
This article is meant to provide an overview of the gift tax and is not a substitute for speaking with one of our expert advisors. If you have questions about the taxation of gifts or need help with your estate planning, please contact our office.