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The Tax Prophet Newsletter   Issue #12 June, 2004

In This Issue:
Introduction
Annual Gifts
Donee’s Tax Treatment
Lifetime Estate and Gift Credit
Gifts in Trust
Joint Accounts

Tax Consequences of Gifts


Introduction I often receive the following email, “My parents made a gifted me [either money or stock], how much tax must I pay?” The answer: Absent exceptional circumstances, no tax is owed by the recipient of a gift. U.S. law taxes the giver (donor) for the privilege of transferring property, whether the transfer occurs during life (gift tax) or at death (estate tax). Thus, gift and estate taxes are imposed on gratuitous transfers of property. Both gift and estate taxes have significant exemptions available to the donor.


Annual Gifts

Every U.S. taxpayer (donor) may gift up to $11,000 per calendar year, per recipient (donee) without the imposition of a gift tax. There is no limitation on the number of individuals that may receive an annual gift of $11,000 or less. Married couples may together make gifts worth up to $22,000 per year, per donee. Therefore, a husband and wife with three children may gift each of them (or anybody else) $22,000 per person, per year ($66,000 total).

The annual gift-tax exclusion applies to gifts of a present interest, an actual and complete transfer, but not to gifts of a future interest, such as a gift to a trust (discussed below).

Donee’s Tax Treatment

The donee receives a carryover basis which is the same basis that the donor had in the property or the fair market value of the property, whichever is lower. For example, if the donor’s basis in a share of gifted stock is $40 and the fair market value is $100, the donee’s basis is $40 and an immediate sale of the stock will produces a $60 gain.

If the stock’s fair market value drops to $25 when the gift is made, donee’s basis is $25 and an immediate sale at $25 produces no gain or loss. In these circumstances, it is usually advantageous for the donor to sell the stock, recognize a $15 loss and gift the donee cash proceeds of $25.


Lifetime Estate and Gift Credit

Now the confusing part: In addition to the annual gift-tax exclusion, every U.S. taxpayer has a lifetime credit that may be applied to gift and estate taxes, although the application to gifts is limited to $1 million, even though the credit is $1,500,000 for tax years 2004 and 2005. Use of the lifetime credit becomes an issue when the donor makes a gift of a future interest or a present gift of more than $11,000 in a calendar year to the same beneficiary.

For example, assume father makes a $100,000 cash gift to his daughter during calendar year 2004. The annual gift-tax exclusion covers the first $11,000, so the excess gift is $89,000. The donor has the option of paying gift taxes on the $89,000 or reducing his lifetime credit. If he chooses to reduce the lifetime credit, the overall credit is reduced from $1.5 million to $1,411,000 and the gift-tax portion of the credit is reduced from $1 million to $911,000.

Gifts in Trust

A gift in trust is considered a gift of a future interest which means the annual gift-tax exclusion does not apply. Not to worry, attorneys have devised a method to make gifts in trust qualify for the annual gift-tax exclusion by providing the donee/beneficiary with the present right to withdraw funds transferred to the trust. Of course, along with the power given to the beneficiary to withdraw the funds comes the not-so-subtle threat that if the beneficiary actually does withdraw the funds, no additional gifts will be made and disinheritance is a real possibility.

Gifts made to a trust for the benefit of one’s children or grandchildren is a common estate-planning technique. Often, life insurance is placed in an irrevocable trust, using the annual gift-tax exclusion to fund the insurance premiums. For these trusts, in general, the beneficiary(ies) is given the present right to withdraw contributions


Joint Accounts

Adding a joint tenant to a bank or investment account is not a gift unless and until the joint tenant actually withdraws money. Joint tenancy is a form of ownership in which the last surviving tenant receives the entire property. Because the donor may withdraw the entire amount at any time, no gift occurs until the donee/joint tenant actually receives funds.

 

Correction to May’s Newsletter. The time period for occupying a residence for purposes of the residence exclusion is 24 of the 60-month period prior to sale. The newsletter mistakenly stated the time period was 50 months.
 





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All contents copyright C 1995-2004 Robert L. Sommers, attorney-at-law. All rights reserved. This newsletter provides information of a general nature for educational purposes only and is not intended to be legal or tax advice. This information has not been updated to reflect subsequent changes in the law, if any. Your particular facts and circumstances, and changes in the law, must be considered when applying U.S. tax law. You should always consult with a competent tax professional licensed in your state with respect to your particular situation. The Tax ProphetR is a registered trademark of Robert L. Sommers.