Gift Tax Chapter 17 Tools & Techniques of Estate Planning Copyright 2011, The National Underwriter...

Gift Tax Chapter 17Tools & Techniques of

Estate Planning

Copyright 2011, The National Underwriter Company 1

Purpose of Gift Tax

• Federal gift tax was designed to discourage taxpayers from making inter vivos (lifetime) transfers, and to compensate the government for the loss of estate and income tax revenues


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Nature of Gift Tax

• Gift tax is an excise tax levied not on the subject of the gift or on the right to receive a gift, but rather on the right of an individual to transfer money or property to another

• Gift tax is based on the value of the property transferred

• Gift tax is calculated on a progressive schedule based on cumulative (total lifetime) gifts less exclusions and deductions


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Scope of Gift Tax

• “All transactions whereby property or interests are gratuitously passed or conferred upon another, regardless of the means or device employed; constitute gifts subject to tax.”

• “Gratuitous” means not supported by adequate and full consideration in money or money’s worth


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Scope of Gift Tax (cont’d)

• Direct and indirect gifts• Outright gifts and gifts in trust• Gifts of real and personal property• Tangible and intangible property rights• Includes transfers of:

– Municipal bonds (even though exempt from federal income tax)– Life insurance– Partnership interests– Royalty rights– Checks or notes to third parties– Forgiveness of a note or cancellation of debt


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Scope of Gift Tax (cont’d)

• Donor: Person making the gift• Donee: Recipient of a gift

– Individual– Partnership– Corporation– Foundation– Trust– Other “person”– Even if identity is not known at the date of transfer and cannot be

ascertained, provided the gift is complete


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Non-tax Advantages of Lifetime Gifts

• Privacy• Potential reduction of probate and administration

costs and delays• Protection from claims of creditors• Enjoyment of seeing donee use and enjoy the gift• Opportunity to see how well donee manages

business or other property• Provide for education, support, and well-being of

donee


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Lifetime Gifts vs. Transfers at Death

• Both lifetime gifts and transfers at death are subject to the same progressive tax rate schedule and are taxed cumulatively

• EGTRRA 2001 increases the estate tax unified credit applicable exclusion amount for transfers at death to a high of $3,500,000 in 2009; repealed estate tax (but not gift tax) for 2010; reduced top estate and gift rate to 35%

• Tax Act 2010 increased credit shelter to $5 million for 2011 and 2012


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Tax Advantages of Lifetime Gifts

• Annual exclusion gifts of $13,000 (in 2009-2011) gift tax free to an unlimited number of people

• Gift tax is tax exclusive, so that tax paid on transfers more than 3 years prior to death will not be included in the donor’s gross estate for the estate tax calculation

• Appreciation accruing between the time of the gift and the date of the donor’s death escapes estate taxation

• Income tax advantage of moving taxable income from a high-bracket donor to a lower-bracket donee age 18 and over


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Tax Advantages of Lifetime Gifts (cont’d)

• Gifts of proper assets more than 3 years prior to death may enable decedent’s estate to meet mathematical tests for:– IRC Section 303 stock redemption– IRC Section 6166 installment payout of taxes, and– IRC Section 2032A special use valuation of farms or other

closely-held business real property

• No gift tax has to be paid until the transferor makes taxable gifts in excess of the $5,000,000 (2011 and 2012) gift tax unified credit applicable exclusion


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Elements of a Gift

• Common law definition: Voluntary transfer without consideration

• Tax law,

Gift = Value of Property - Consideration

Transferred Received

• Transfer for less than adequate and full consideration in money or money’s worth


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Elements of a Gift (cont’d)

1. Must be intention by donor to make a gift– Was donor competent to make a gift?– Was donee capable of accepting the gift?– Was there clear and unmistakable intention on the part of

the donor to absolutely, irrevocably, and currently divest himself of dominion and control over the gift property?

2. Donor must deliver the subject matter of the gift to the donee– An irrevocable transfer of present legal title to the donee so

that donor no longer has dominion and control over property in question

3. Donee must accept the gift


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Adequate and Full Consideration in Money or Money’s Worth

• Sufficiency of consideration test: Consideration received must equal value of property transferred– “adequate and full consideration”

• Effect of moral, past, or non-beneficial consideration:– These cannot be valued in “money or money’s worth” and

therefore are not sufficient consideration


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Adequate and Full Consideration in Money or Money’s Worth (cont’d)

• Does relinquishment of marital rights or support rights constitute consideration in “money or money’s worth”?– Written agreements between spouses in settlement of

marital or property rights are deemed to be for adequate and full consideration and are exempt from gift tax

– A spouse’s relinquishment of the right to support constitutes consideration in money or money’s worth


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Adequate and Full Consideration in Money or Money’s Worth (cont’d)

• Transfers pursuant to compromises or court orders– Transfers pursuant to compromises of bona fide disputes or

court orders are deemed to be for adequate and full consideration

– Intrafamily transfers must be pursuant to a bona fide arm’s length adversary proceeding to escape imposition of gift tax

– Note: Courts can approve taxable gifts made on behalf of an incompetent party


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Types of Gifts

• Direct

– Tangible personal property: Gift complete upon delivery

– Corporate stock: Gift complete when certificates are endorsed and delivered to donee, his agent, or the transfer agent

– Real property: Gift complete by delivery of executed deed


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Types of Gifts• Direct

– US Savings Bond: Register in someone else’s name and deliver bond to that person• Note: Joint titling between purchaser and another person, no

gift until bond cashed or retitled into other person’s name

– Assignment of future income: Gift valued according to present value on date of assignment (e.g., royalty income)


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Types of Gifts

• Direct

– Forgiveness of debt in non-business situations

– Payments in excess of one’s obligations


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Types of Gifts (cont’d)

• Indirect– Payment of someone else’s expenses

• For example, making car payments for an adult child or paying premiums on a life insurance policy owned by another person

– Shifting of property rights• Such as giving up vested rights to employer contributions in a

profit sharing plan or irrevocably selecting survivor annuity benefits


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• Indirect

– Third-party transfers

– Creation of a family partnership may involve an indirect gift

– Transfers by and to corporations


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• Indirect– Life insurance or life insurance premiums where insured

purchases policy on his life and: • Names beneficiaries other than his estate, and

• Does not retain any reversionary interests for himself or his estate, and

• Makes the beneficiary designation irrevocable, or

• Makes an absolute assignment of a policy

• Constitutes a gift valued at replacement cost


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• Beware of life insurance triangles (3 parties)– Father is the insured– Mother is the owner– Children are revocable beneficiaries

• Problem: When father dies, mother makes an indirect gift to the children for the death benefit amount of the policy


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Gratuitous Transfers That Are Not Gifts

• Where property or an interest in property has not been transferred

• Certain transfers in the ordinary course of business, and

• Sham gifts


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Requirement That Property or Interest Must Be Transferred

• Gratuitous services rendered– Do not constitute “property or an interest in

property” and therefore are not subject to gift tax

• Interest-free loans and below-market rate loans– Constitute gifts and subject to gift tax


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Requirement That Property or Interest Must Be Transferred

• Promise to Make a Gift– Not taxable, even if enforceable, until transfer

actually occurs

• Disclaimers (Renunciations)– Qualified disclaimers do not constitute a gift

and are not subject to gift tax


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Requirement That Property or Interest Must Be Transferred (cont’d)

• Disclaimers (Renunciations) (cont’d)– Qualified disclaimer requirements:

• Refusal must be in writing• Writing must be received by transferor, his legal representative,

or the holder of legal title to the property within 9 months of the later of:

– Date on which the transfer creating the interest is made, or– Date on which person disclaiming reaches age 21

• Person disclaiming must not have accepted the interest or any of its benefits

• Someone other than the person disclaiming the property receives the property interest. Person making disclaimer cannot in any way influence who is to be the recipient of the disclaimer


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Transfers in the Ordinary Course of Business

1. Compensation for personal services• Property transfers from a corporate employer to an individual

constitute income to the transferee rather than a gift by the transferor

– Ordinary business transactions• Transaction made at arm’s length and free from donative intent

such as a sale or exchange of property are free from gift tax – Other transfers free from donative intent

• Not subject to gift tax– Employer donor’s primary reason for transfer detached and

disinterested generosity• No income tax to recipient• Donor must pay gift tax


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Transfers in the Ordinary Course of Business (cont’d)

1. Compensation for personal services (cont’d)– No gift where primary impetus for payment

• Constraining force of any legal or moral duty, or

• Anticipated benefit of an economic nature

– Factors studied in determining donor’s intent• Duration and value of employee’s services

• Manner in which employer determined amount of reputed gift, and

• Way employer treated payments in corporate books and on tax returns


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2. Bad Bargains– Genuine business transaction for less than adequate

money’s worth distinguished from marital or family transaction

– Sale, exchange, or other property transfer made in the ordinary course of business treated as if made in return for adequate and full consideration in money or money’s worth assuming transaction is• Bona fide• At arm’s length, and• No donative intent


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2. Bad Bargains (cont’d)– “No-gift” where group of businessmen convey real estate to

an unrelated business corporation with the expectation of doing business with that corporation sometime in the future

– No protection where transferor’s motive is to pass family fortune to next generation


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Sham Gifts

• If transfer has no real economic significance other than hoped for tax savings, it will be disregarded for both gift and income tax purposes and not shift incidence of taxation– Example:

• Golfer contracted to make series of pictures depicting his form and golf style. In return he was to receive a lump sum of $120,000 plus 50% royalty on the earnings.

• Before pictures were made, golfer sold his father the right to his services for $1

• Father then transferred the rights to the contract to a trust for the benefit of his son’s three children

• Result: No tax effect and all income taxable to the golfer


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Sham Gifts (cont’d)

• Assignments of income– Often produce inconsistent property, gift, and income tax

results

• Gifts of property more satisfactory– If property is given away, then the income it produces will be

taxable to the new owner


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Gifts Exempt from Gift Tax

• Statutory exemptions for:– Qualified disclaimers– Transfers between spouses pursuant to divorce or separation

agreements

• Tuition paid directly to an educational institution for education or training of an individual regardless of– Amount paid or– Relationship of the parties

• Payment of medical care directly to the provider regardless of the relationship of the parties


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Requirements for a Completed Gift

• “Completed transfer” implies the subject of the gift is beyond the donor’s recall– Donor irrevocably parted with dominion and control

• If donor can, alone or in conjunction with a party who does not have a substantial amount to lose by the revocation, revoke the gift Gift is not complete

• Areas where it is difficult to ascertain when the gift is complete:– Incomplete delivery situations– Cancellation of notes, and– Incomplete transfers to trusts


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When Delivery is Complete

• Transfers where certain technical details have been omitted or a stage in the process has been left uncompleted– Examples:

• A gift by check is not complete until it is cashed

• A gift by negotiable note is not complete until it is paid

• Creation of a joint bank account or brokerage account incomplete until withdrawal for personal benefit taken by non-donor tenant


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When Delivery is Complete (cont’d)

• Transfers where certain technical details have been omitted or a stage in the process has been left uncompleted (cont’d)– Examples (cont’d):

• Gift causa mortis (in contemplation of death) revocable if donor recovers, irrevocable and complete upon donor’s death

• Totten trust where donor makes a deposit into a CD or savings account titled “Joanne Q. Donor in trust for James P. Donee” and no actual trust document exists

– Revocable– No gift is made until donee withdraws funds


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Cancellation of Notes

• A transfer of property made in exchange for installment notes is treated as a sale for income tax purposes

• If transferor forgives the notes, the forgiveness would be a gift


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Cancellation of Notes (cont’d)

• Cancellation of notes is frequently used because:– It provides a simple means of giving gifts to a number of

donees of property that is not readily divisible

– By forgiving notes over a period of years, the donor could maximize use of the $13,000 (2009-2011) gift tax annual exclusion and unified credit

• Note: Although the annual exclusion eliminates gift tax, it does not eliminate income tax since property is being sold in return for the installment notes


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Incomplete Gifts in Trust

• Transfers to revocable trusts are not completed gifts– Only when the donor relinquishes all retained control over

the transferred property and the trust becomes irrevocable is the gift complete

• Tax liability is measured by the value at the time the gift becomes complete, not at the time of transfer


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Incomplete Gifts in Trust (cont’d)

• A grantor can make a completed gift to an irrevocable nonreversionary trust, and by reserving the right to a qualified annuity or unitrust interest fixed in both time and amount, reduce the value of the taxable gift– GRAT (grantor retained annuity trust)– GRUT (grantor retained unitrust)– “Leverage” in the unified credit applied is achieved because

the transfer value at inception is much lower than the value on the date the property is ultimately transferred


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Valuation of Property for Gift Tax Purposes

• Value is determined on the date the gift becomes complete

• No alternate valuation date is allowed• “Value” for gift tax purposes is defined as:

“The price at which the property would change hands between a willing buyer and a willing seller, neither being under compulsion to buy or sell, and both having reasonable knowledge of relevant facts”


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Valuation of Property for Gift Tax Purposes (cont’d)

• Valuation problems unique to gift tax law:– Indebtedness with respect to transferred property– Restrictions on use or disposition of property– Transfers of large blocks of stock– Valuation of mutual fund shares, and– Valuation of life insurance and annuity contracts


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Indebtedness with Respect to Transferred Property

• General rule: The value of the property given less the obligation amount (net value) is subject to gift tax– This rule assumes the donor is not personally liable for the

debt, or– The donor is personally liable for indebtedness but the

donee cannot step into the creditor’s shoes– Gift value = Donor’s equity in property


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Indebtedness with Respect to Transferred Property (cont’d)

• If donor is personally liable for indebtedness that is secured by a mortgage on the gift property, and the donee can step into the creditor’s shoes then:– The amount of the gift is the entire value of the property

unreduced by the debt

• “Net gift”– Donor expressly or by implication requires the donee to pay

the donor’s gift tax liability


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• If donee is required to pay gift tax imposed on the transfer, or if the tax is payable out of transferred property then– The value of the donated property must be reduced by the

amount of gift tax

• For income tax purposes: Court cases state that the donor must recognize a gain where the donee pays the tax, or where the payment is made from gifted property


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• Net Gift Example Calculation:Year 2006

Tentative taxable gift $1,100,000Gift tax on $1,100,000 $ 386,800Unified credit ($ 345,800)Tentative tax $ 41,000Tax rate 41%True tax [$41,000 / (1 + .41)] $ 29,078

Net Gift [$1,100,000 - $29,078] $1,070,922


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Restrictions on the Use or Disposition of Property

• General Rule: Most restrictive agreements do not fix the value of such property, but have a persuasive effect on price


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Transfers of Large Blocks of Stock

• “Block discount” (blockage rule) applies to transfers of large blocks of publicly traded stock– Value is based on the price the property would bring if the

stock were liquidated in a reasonable time in some way outside the usual marketing channels

– The marketability (therefore the value) of a massive number of shares of stock may have a lower value than the current per share market value for the same stock, because of the depressive effect of the block being dumped on the market all at once


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Valuation of Mutual Fund Shares

• Mutual funds are valued at NAV (net asset value), the price of the fund net of any “load” charge


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Valuation of Life Insurance and Annuity Contracts

• Life insurance for gift purposes is valued at “replacement cost”– The cost of similar or comparable policies issued by the

same company

• Policies transferred immediately (within the first year)– Gift = Gross premium paid to insurer


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Valuation of Life Insurance and Annuity Contracts (cont’d)

• Single-premium policy or policy paid up at time of assignment– Gift = Amount of premium issuing company would charge for

the same type of single-premium policy of equal face amount on the insured’s life, based on the insured’s age at the transfer date

• Cash value building policy in premium-paying stage– Gift = Sum of the “interpolated terminal reserve” + unearned

premiums on the date of the gift


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Computing the Tax on Gifts

• Gift tax rates are applied to a net figure “taxable gifts”• Before tax on a transfer is computed certain

reductions are allowed:– Gift splitting– Annual exclusion– Marital deduction– Charitable deduction


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Gift Splitting

• A married donor, with consent of a nondonor spouse, elects to treat a gift to a third party as though each spouse has made ½ of the gift

• The election must be made on the applicable gift tax return of the donor spouse


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Gift Splitting (con’t)

• Gift splitting only applies to non-community property and places a common-law resident in the same relative position as a community property resident

• If spouses elect to split gifts to third parties, all gifts made by either spouse during the reporting period must be split


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Annual Exclusion• Purpose: De minimis rule to avoid bother of

administrative record keeping of numerous small gifts– Donor may make a tax free gift up to $13,000 (2009-2011)

worth of gifts, to any number of persons each year– Total maximum excludable amount =

# of donees x $13,000 (2009-2011)

• Effect of gift splitting coupled with exclusion:– If the same individual is married and has spousal consent to

split gifts, each spouse is deemed to have made ½ of the gift– Both spouses’ annual exclusions can be used


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Annual Exclusion (cont’d)

• Example Split Gift Calculation:

TreatedAmount Treated as ifof Gift as if Nondonor

to Donor Subject SpouseSubject

Donee Donee Gave Exclusion to Tax Gave Exclusion to Tax

Brother $ 2,000 $ 1,000 $ 1,000 — $ 1,000 $ 1,000 —Father $ 8,000 $ 4,000 $ 4,000 — $ 4,000 $ 4,000 —Son $16,000 $ 8,000 $ 8,000 — $ 8,000 $ 8,000 —Totals $26,000 $13,000 $13,000 — $13,000 $13,000 —


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• Present vs. future interest:

– “Present interest” is one in which the donee’s possession or enjoyment begins at the time the gift is made

– “Future interest” is any interest or estate in which the donee’s possession or enjoyment will not commence until some period or time after the gift is made


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• Present vs. future interest:

– “Annual exclusion only allowed for present interest gifts, not gifts of future interests

– Note: For gifts of a split interest, the present interest (example, payment of mandatory income annually from trust) qualifies for the annual exclusion and the future interest (example, the remainder interest in trust) does not


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• Test question to determine present interest:“At the moment of the gift, did the donee have an immediate, unfettered, and actuarially ascertainable legal right to use, possess, or enjoy the property in question?”


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• The number and amount (or availability) of exclusions depends on:

– The identity of the donee(s)

– The type of asset involved, and

– Restrictions, if any, placed on the asset


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• Rules for ascertaining the amount and availability of the gift tax annual exclusion:– A gift in trust is a gift to the trust’s beneficiaries and not to the

trust for annual exclusion purposes– If trustee is required to distribute income at least annually,

value of the income interest qualifies for the exclusion– Gift of an interest that is contingent upon survivorship is a gift

of a future interest– A gift is one of future interest if enjoyment depends on the

exercise of a trustee’s discretion– A gift must have an ascertainable value to qualify for the

exclusion


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• Identity of donees– Gifts to trust: Beneficiaries considered donees– Transfer to corporation: Treated as gift of future interest to

shareholders – Transfers to two or more persons as joint tenants with right of

survivorship, tenants by the entireties, or tenants in common: Considered multiple gifts

• Note: Joint gift in which neither party can sever interest without the other’s consent, considered a future interest gift and will not

qualify for annual exclusion


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• Gifts to minors:– Outright gifts: Qualify for annual exclusion– Section 2503(b) Trust (Mandatory income trust):

• Must distribute income at least annually

• No mandatory distribution of principal to minor at age 21

• Value of income interest qualifies for annual exclusion, principal or remainder does not


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• Gifts to minors (cont’d):– Section 2503(c) Trust (Minor’s trust):

• No forced annual income distribution, income can be accumulated

• Required distribution of income and principal when minor reaches age 21

• Trust still qualifies for annual exclusion provided:– Income may be expended by or on behalf of the beneficiary; and– To the extent not so expended income will pass to the beneficiary at

21; or – If beneficiary dies prior to that time, income and principal pass to

beneficiary’s estate or appointees under general power of appointment


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• Gifts to minors:– UTMA (Uniform Transfers to Minors Act)– UGMA (Uniform Gift to Minors Act)

Both qualify for annual exclusion


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Factor Trust UGMA UTMA

Type of property Donor can make gifts of Type of property must be Donor can make gifts of

almost any type of property permitted by appropriate almost any type of property

statute. Gift of real estate

may not be permitted

Dispositive provisions Donor can provide for Disposition must follow Disposition must follow

disposition of trust assets statutory guideline statutory guidelineif donee dies without

having made disposition

Investment powers Trustee may be given broad Custodian limited to Custodian limited to

virtually unlimited investment powers investment powers

investment powers specified by statute specified by statute

Time of distribution Trust can continue automatically Custodial assets must be Custodial assets must be

of assets even after beneficiary reaches paid to beneficiary upon paid to beneficiary upon

age 21. Trustee can make reaching statutory age reaching statutory age

distribution between state law

age of majority and age 21.

Comparison of Gifts to Minors


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• Effect of type of asset:– Outright gift of life insurance qualifies for the annual exclusion– Transfer or assignment of life insurance into trust does not

generally qualify as a present interest for annual exclusion– Crummey power will allow gift of life insurance or gifts of

premium amounts into irrevocable life insurance trust to qualify as a present interest for annual exclusion

• Crummey power gives the named beneficiary an immediate, unfettered, and actuarially ascertainable interest right

• Withdrawal right essentially a general power of appointment over specified amount or portion of each year’s contribution to trust


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• Effect of type of asset (cont’d):– Gift of nonincome producing property to a trust, three

arguments to disallow annual exclusion:• Right to income from gift of nonincome-producing property a future

interest, since dependent on trustee converting it to income-producing property

• Impossible to ascertain the value of an income interest in property that is not income-producing at the time of the gift, and

• If gift tax exclusion allowed, it must be limited to actual income produced by the property multiplied by the number of years over which income beneficiary expected to receive income, discounted to its present value


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• Effect of type of asset (cont’d)– Gifts of nondividend paying closely-held stock to a trust is an

example of nonincome-producing property that does not qualify for the annual exclusion


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Gift Tax Marital Deduction

• Purpose: Enable spouses to be treated as one economic unit

• Requirements to qualify for gift tax marital deduction:– Donor’s spouse must be a U.S. citizen at the time gift is made

• Gifts to a non-U.S. citizen spouse qualify for super annual exclusion of $136,000 (in 2011), but not the unlimited marital deduction

– Recipient must be the spouse of the donor at the time the gift is made

– Property transferred to donee-spouse must not be the type of terminable interest that will disqualify the gift


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Gift Tax Marital Deduction (cont’d)

• Terminable Interest RuleNo marital deduction will be allowed where:– Donee-spouse’s interest in transferred property will terminate

upon the lapse of time or at the occurrence or failure of a specified contingency,

– Where donee-spouse’s interest will then pass to another person who received his interest in the property from the donor-spouse, and

– That person did not pay the donor full and adequate consideration for that interest

– Exception: QTIP election


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Gift Tax Marital Deduction (cont’d)

• Qualifying Terminable Interest Property (QTIP) To qualify for gift tax marital deduction:– Surviving spouse must be entitled to all income from the

property payable at least annually,– No person can have power to appoint any part of the

property to any person other than the surviving spouse, and– Property must be taxable at donee-spouse’s death

• Life estate with power of appointment in donee-spouse qualifies for marital deduction


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Gift Tax Charitable Deduction

• No limit on amount that can be passed to a qualified charity gift tax free

• Deduction equal to the value of the gift net the annual exclusion

• Gift tax deduction allowed for all gifts made during the calendar year by U.S. citizens or residents to a qualified charity


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Gift Tax Charitable Deduction (cont’d)

• “Qualified charity” defined as:

– The United States, a state, a territory, or any political subdivision or the District of Columbia if gift is to be used exclusively for public purposes,

– Certain religious, scientific, or charitable organizations,

– Certain fraternal societies, orders, or associations

– Certain veteran’s associations, organizations, or societies


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• Example:

During 2011, a client makes total gifts of $52,000

Gift Annual Charitable TaxableDonee Amount Exclusions Deduction Gifts

Daughter $26,000 $13,000 $ 0 $13,000

American College $26,000 $13,000 $13,000 $ 0

Total $52,000 $26,000 $13,000 $13,000


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• Gifts of a partial interest:• Personal beneficiary receives income interest• Charity receives the remainder interest at the

termination of the income interest• Gift tax deduction allowable for the present value of the

remainder interest only if:– Transferred property either a personal residence or farm– Transfer made to a CRAT (charitable remainder annuity

trust)– Transfer made to a CRUT (charitable remainder unitrust)– Transfer made to a PIF (pooled income fund)


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Calculating Taxable Gifts

1 Total Gifts for Year $______________

2 Subtract ½ of gift deemed to be made by donor’s spouse (split gifts) ($______________) Gifts deemed to be made by donor $______________

3 Subtract annual exclusion(s) ($______________) Gifts after subtracting exclusion(s) $______________

4 Subtract marital deduction ($______________)

5 Subtract Charitable Deduction ($______________)

Taxable Gifts $______________


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1 Compute gift tax on all taxable gifts regardless of when made (use gift tax rate schedule) $______________

2 Compute gift tax on all taxable gifts made prior to present year’s gift(s) (use gift tax rate schedule) ($______________) 3 Subtract Step 2 result from Step 1 result $______________ 4 Enter gift tax credit remaining ($______________)

5 Subtract Step 4 result from Step 3 result to obtain gift tax payable $_____________

Calculating Gift Tax Payable


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Example Calculating Taxable GiftsAssume a widow gives $1,400,000 to her daughter and $100,000 to The College for Financial Planning in 2011. Both transfers are present-interest gifts. She has made no previous taxable gifts.

1 Total Gifts for Year $ 1,500,000

2 Subtract ½ of gift deemed to be made by donor’s spouse (split gifts) ($ 0) Gifts deemed to be made by donor $ 1,500,000

3 Subtract annual exclusion(s) ($ 26,000) Gifts after subtracting exclusion(s) $ 1,474,000

4 Subtract marital deduction ($ 0)

5 Subtract Charitable Deduction ($ 87,000)

Taxable Gifts $ 1,387,000


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Example Calculating Gift Tax PayableAssume a widow gives $1,400,000 to her daughter and $100,000 to The College for Financial Planning in 2011. Both transfers are present-interest gifts. She made no previous taxable gifts.

1 Compute gift tax on all taxable gifts regardless of when made $1,387,000 (use gift tax rate schedule) $ 466,250

2 Compute gift tax on all taxable gifts made prior to present year’s gift(s) (use gift tax rate schedule) ($ 0) 3 Subtract Step 2 result from Step 1 result $ 46,250 4 Enter gift tax credit remaining ($1,730,800)

5 Subtract Step 4 result from Step 3 result to obtain gift tax payable $ 0


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Credits Unified credit can be applied against tax on gifts made during life or at death or partly applied against each. The gift tax credit provides a dollar-for-dollar reduction of the tax otherwise payable.

Donors Making Gifts In Receive a Credit of1982 $ 62,8001983 $ 79,3001984 $ 96,3001985 $121,8001986 $155,8001987-1997 $192,8001998 $202,0501999 $211,3002000-2001 $220,5502002-2009 $345,8002010 $330,8002011-2012 $1,730,8002013 and thereafter $345,800


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Reporting of Gifts and Payment of Tax

• Gift tax return (Form 709) must be filed and tax paid on reported gifts by April 15 of the year following the year in which taxable gifts were made

• Split-Gifts– Gift tax return must be filed in any year which couple elects

to split gifts

• Future-Interest Gifts– Gift tax return required regardless of amount of the gift


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Reporting of Gifts and Payment of Tax (cont’d)

• Present-Interest Gifts– No gift tax return is due until present-interest gifts made to

one individual for the year exceed $13,000 (2009-2011)

• Gifts to Charities– If value of charitable gift exceeds $13,000 (2009-2011)

annual exclusion, the transfer must be reported on a gift tax return for that year of transfer, unless the transfer is of the donor’s entire interest in the property


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Liability for Payment-Net Gifts

• Donor of the gift primarily liable for payment of gift tax

• If donor fails to pay the tax when it falls due, the donee becomes liable to the extent of the value of the gift– Liability begins as soon as the donor fails to pay tax when due

• If donee volunteers to pay gift tax out of gift received, then the gift tax value of the property is the entire fair market value


Estate Planning


Liability for Payment-Net Gifts (cont’d)

• If donee is obligated to pay gift tax by terms of the gift, the value of the net gift is measured by the FMV of property less the amount of any gift tax paid by donee– In computing the donee’s gift tax liability, the donor’s unified

credit must be used– Formula to compute donee’s tax:

tentative tax / (1 + donor’s gift tax rate)


Estate Planning


Time Tax is Due

• Generally, gift tax must be paid when the return is filed

• Reasonable extensions for payment of tax can be granted by the IRS, but only upon showing of “undue hardship” (substantial financial loss)


Estate Planning


Relationship of Gift Tax to Income Tax System

Lack of consistency between the two systems forces the practitioner to examine four issues:

1. Is the transfer one upon which the gift tax will be imposed?

2. Will the transfer constitute a taxable exchange subject to income tax?

3. If the transfer was made in trust, will the income be taxable to the donor, the trust, or the trust beneficiaries?

4. If the income is taxable to the beneficiary, will it be taxable at the parent’s rate (“kiddie tax” rules) or the beneficiary’s rate?


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Determination of Basis of Gift Property

• Donor’s cost basis for the gift property immediately prior to the gift becomes the donee’s cost basis for that property

• An addition to basis is allowed for a portion of any gift tax paid on the transfer from the donor to the donee for that portion of tax attributable to the “appreciation” in the gift property– Basis of gifted property is the donor’s basis increased by:

Net appreciation in value of gift x Gift tax paid Amount of gift


Estate Planning


Determination of Basis of Gift Property (cont’d)

• For determining a loss: If basis of gifted property is lower than FMV of the property at the time of the gift, the basis is equal to FMV– The loss is not transferable– The donor should consider selling loss property, and

making a gift of the sales proceeds


Estate Planning


Relationship of Gift Tax to Estate Tax System

• The estate and gift tax systems are unified in three essential ways:– Lifetime gifts and testamentary transfers are taxed by using

the same tax rates, except for 2010– There is a single unified tax credit that can be applied to

transfers during life or at death• The gift tax credit caps out at $345,800

• In 2011 and 2012 estate and gift unified credit exemption equivalent caps at $5 million (equal to $1,730,800 transfer tax)


Estate Planning


Relationship of Gift Tax to Estate Tax System (cont’d)

• The estate and gift tax systems are unified in three essential ways (cont’d):– Estate tax imposed at death is calculated by adding the

taxable portion of gifts made during lifetime (after 1976) to the taxable estate to arrive at the tentative tax base

• Any gift tax paid on post-1976 transfers can be subtracted to arrive at the estate tax liability


Estate Planning


Factors to Consider in Selecting Appropriate Subject of Gift

1. Is the property likely to appreciate in value?– Best type of property to give will have a low gift tax value and

a high estate tax value, like life insurance

2. Is the donee in a lower income tax bracket than the donor?– Transfer high-income producing property, like high-

dividend participating preferred stock in a closely-held business, to a family member age 18 or older in a lower bracket

– If donor is in a lower bracket than donee, gifts with low-yield and high growth are appropriate


Estate Planning


Factors to Consider in Selecting Appropriate Subject of Gift (cont’d)

3. Is the property subject to indebtedness?– Gift of property subject to indebtedness that is greater than its

cost to donor may result in a taxable gain4. Is the gift property’s cost basis above, below, or at

FMV?– Neither a donor nor a donee can recognize a capital loss if loss

property is gifted– If donor’s cost basis for income tax purposes is relatively low, it

might be advantageous to retain the property until death because of the “Stepped-up” basis rules• Note EGTRRA replaces stepped up basis with a modified carry-

over basis for property acquired from decedent dying in 2010

Gift Tax Chapter 17 Tools & Techniques of Estate Planning Copyright 2011, The National Underwriter...

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Transcript of Gift Tax Chapter 17 Tools & Techniques of Estate Planning Copyright 2011, The National Underwriter...