Make Gifts to Reduce Estate Tax

Making gifts throughout your life might reward you with tax breaks and other benefits.

Few Americans need to be concerned about the federal estate tax (see Estate Tax: Will Your Estate Be Required to Pay?) or the federal gift tax. Everyone gets a lifetime gift and estate tax exemption of $12.92 million for deaths in 2023, which means you may leave or give away up to $12.92 million without paying any federal tax. This sum is adjusted for inflation each year. (However, the estate tax is slated to be dramatically reduced—cut in half—in 2026. However, whether it will be decreased in this manner or in some other way in the future is subject to party politics.)

Married couples may leave up to double the exemption amount without paying federal estate tax. On smaller estates, several governments levy their own state estate tax. (For further information, see the Estate and Gift Tax FAQ.) If you believe your estate may be subject to estate tax, one option to prevent or decrease the tax payment is to give property away during your lifetime. Even if you aren’t worried about inheritance taxes, presents have additional advantages—you get to see the receivers appreciate your gifts.

In 2023, you may make an unlimited number of $17,000 tax-free cash or property gifts. To assure these tax advantages, keep in mind that no one beneficiary may receive more than $17,000 in a calendar year.

What Is the Annual Exclusion?

The $17,000 yearly tax exemption rule (sometimes known as the “annual exclusion”) is simple. For example, if you give someone $20,000, $17,000 of it is free from gift tax, but the remaining $3000 must be reported on a gift tax return.

The exclusion amount is linked for inflation and normally increases in $1,000 increments every few years as the cost of living rises.

Couples: Increase Your Exclusion

Couples may combine their yearly exemptions, allowing them to give away $34,000 in property tax-free per recipient each year. Even if only one spouse gives a present, it is deemed made by both couples if they both agree. 2513 of the Internal Revenue Code.)

For instance, Joe and Faye, a couple in their sixties, wish to give their son and his wife money to put down on a home. Joe and Faye each use their $17,000 exemptions to donate a total of $34,000 to their son and another $34,000 to his wife, tax-free and without the need to file a gift tax return. They may give out another $68,000 as soon as the new year begins.

Presents for Your Spouse

As long as your spouse is a U.S. citizen, all gifts to your spouse are tax-free. If your spouse is not a citizen, the tax-free gift maximum is $175,000 in 2023. 2523(a) of the Internal Revenue Code Large presents to your spouse, on the other hand, are seldom justified. If you and your spouse possess about the same amount of property, you might make your tax position worse by burdening your spouse with an estate so enormous that it would be taxed upon his or her death.

When to Give Your Gifts

Keep in mind that the yearly exemption is based on a calendar year in order to make the most of it. If you skip a year, you cannot claim the exemption amount for that year. However, if you stretch a substantial present across two or more years, you may be able to avoid gift tax issues. If you gift your daughter $20,000 on December 17, for example, $3,000 of it is taxed. You must submit a gift tax return for the $3,000 (by April 15 of the following year), and you will use up $3,000 of the total amount you may give away or leave tax-free. However, if you give your daughter $10,000 in December and wait until January 1 to give her the other $10,000, both presents are tax-free and do not need gift tax returns.

Giving Non-Cash Property Away

Gifts of money are not the only ones that may be stretched out over time. You may distribute some stocks today and some next year. You may also donate real estate in chunks—physical pieces, if feasible, or ownership percentages.

For instance, Solomon and his wife Rhoda would want to pass their holiday cottage to their son Gerard. The cabin is worth $75,000, but their equity is just $40,000 since they still owe $35,000 on the mortgage. In November, Solomon and Rhoda sign a document conveying the cabin to Rhoda and Gerard as joint tenants, implying that each owns one-half of the property. (In effect, Solomon handed Gerard his $20,000 part of the cabin’s equity.) Gerard’s parents’ present is tax-free since they may give him up to $34,000 tax-free each calendar year.

Rhoda gives Gerard her half-share, worth $20,000, the next calendar year, tax-free. Even when only Rhoda makes the contribution, the IRS considers it to have originated from both couples for tax reasons.

Toys for Children

Giving significant property to children before they reach adulthood raises the essential issue of who will handle the property for the youngster. If you offer a substantial present to a youngster under the age of 18, an adult must be in charge of the money.

Fortunately, it is simple to appoint an adult to handle the property by establishing either:

an irrevocable child’s trust, or a custodianship permitted by state law.

See Leaving an Inheritance for Children for additional information on leaving gifts via trusts and custodianships.

A gift to a minor must meet the following requirements to qualify for the yearly deduction from gift tax:

The beneficiary must get the property in full by the age of 21. This implies that if you establish a guardianship for your kid, it must cease when the youngster reaches the age of 21. However, the property and its income may be used by or for the benefit of a beneficiary who is under the age of 21. Similarly, if you establish a trust for the kid, the trust instrument must declare that the property will be transferred to the beneficiary by the recipient’s 21st birthday. (However, you may also provide the receiver the authority to prolong the trust.)
If the receiver dies before the age of 21, the remaining property must be distributed to the recipient’s estate or to someone nominated by the recipient—for example, in a will. 2503(c) of the Internal Revenue Code

Consider Before You Give

An ambitious gift-giving program is not for everyone. If selling assets makes you feel insecure or frightened that you may be without money in the future, don’t do it. Alternatively, you may determine that your children or grandkids are not yet mature enough to appreciate your gift. However, assisting a 21-year-old in obtaining an education or new parents in purchasing a home might provide you with a great deal of happiness.

One factor for the rise in popularity of scheduled gift-giving is that people are living longer lives than they used to. If you wait until you die to pass your fortune, the recipients—typically, your children—may be approaching old age themselves. Your financial assistance may be more beneficial while they are younger.