Chapter 12: The Gift Tax

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Chapter 12The Gift Tax
Chapter 12 The Gift Tax
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THE GIFT TAX(1 of 2)

• Unified transfer tax system
• Gift tax formula
• Transfers subject to gift tax
• Annual exclusion
• Gift tax deductions
• Gift-splitting

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THE GIFT TAX(2 of 2)

• Tax computation
• Basis of property received
• Below market loans

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Unified Transfer Tax System

• Excise tax on wealth transfer when adequate
  consideration not received
• Components of transfer tax system
• Purpose of transfer taxes
• Tax on wealth transfers
• Cumulative and progressive tax
• Unified rate schedule

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Components of Transfer Tax System

• Gift tax Inter vivos transfers
• Transfers while alive
• Estate tax Testamentary transfers
• Property ownership transfers at death
• Generation-skipping transfer tax
• Property transferred to a second or younger
  generation

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Purpose of Transfer Taxes

• Raise revenue for federal government
• Prevent evasion of estate tax
• Recover revenues lost by shifting assets to
  taxpayer in lower income tax bracket
• Redistributing wealth

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Tax on Wealth Transfers

• Gifts inheritances NOT income to recipient
• Person making gift has PRIMARY obligation to pay
  any tax due
• Tax applies to act of transferring property
• Tax applied against FMV of gift

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Cumulative Progressive Tax

• All taxable gifts made after 1976 accumulated for
  each donor
• Cumulative total determines tax rate applied to
  current gift
• Prior gift taxes paid and/or unified credit may
  negate or reduce amount of current tax due

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Unified Rate Schedule

• Top marginal rate in 2005
• 47 on amounts exceeding 2M
• Top marginal rate decreases to 46 in 2006 on
  amounts exceeding 2M
• 45 in 2007 on amounts gt 1.5M.
• Top marginal rate after 2009 is 35 on amounts
  exceeding 500K
• Unified credit reduces tax for
• See unified transfer tax rates on inside back
  cover of book

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Gift Tax Formula(1 of 2)

• All individuals gifts for current period
• - ½ of 3rd party gifts w/gift-split election
• ½ of spouses gifts w/gift-split election
• - Annual exclusion (12K per donee)
• - Marital deduction (unlimited)
• - Charitable contrib deduction (unlimited)
• Taxable gifts for current period

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Gift Tax Formula(2 of 2)

• Taxable gifts for current period
• All prior taxable gifts _
• Cumulative taxable gifts (CTG)
• Compute tax on CTG w/current rates
• - Tax on prior gifts w/current rates _
• Tax on current gifts
• - Net Unified credit _
• Tax payable for current period

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Transfers Subject toGift Tax

• Transfers for inadequate consideration
• Transfers NOT subject to gift tax
• Completed transfers
• Gift tax consequences of certain transfers

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Transfers for Inadequate Consideration

• Transfer of cash, stock, securities or real
  estate
• Forgiveness of debt
• Assignment of a life insurance policy
• Transfer of federal, state, or municipal bonds
• Transfer of other assets

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Transfers NOT Subject toGift Tax

• Transfers in normal course of business
• Qualified transfers for direct payment of
  educational tuition or medical care
• Transfers to political organizations
• Property settlements in divorce
• Transfers disclaimed by recipient
• Incomplete transfers

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Completed Transfers(1 of 2)

• Gift does not occur until transfer is complete
• Transfer complete when donor has given up
  dominion control
• Leaves donor no power to change gifts
  disposition, whether for own benefit or for
  benefit of another

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Completed Transfers(2 of 2)

• Gift valued at FMV upon transfer
• Gift may be for a partial interest or only
  certain rights
• E.g., life estates, remainder interests
• FMV of partial interests determined by using
  actuarial tables and present value calculations

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Gift Tax Consequences ofCertain Transfers (1 of
2)

• Creation of joint bank accounts
• Incomplete transfer until donee withdraws funds
• Creation of other joint tenancies
• All joint tenants own an equal share
• Donees ownership portion is a completed gift

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Gift Tax Consequences ofCertain Transfers (2 of
2)

• Transfer of life insurance policies
• Ability for donor to change beneficiary results
  in an incomplete gift
• Irrevocable transfer of policy ownership rights
  is a completed gift
• Premiums payments are a completed gift if policy
  owned by another

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Annual Exclusion(1 of 2)

• All gifts valued at FMV
• Exclude transfers up to 12,000 (in 2006) per
  person per donee each year
• Indexed for inflation
• Husband and wife may each give 12,000 per child
  w/o tax consequence
• Gift must constitute present interest
• Future interest gifts not eligible for exclusion

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Annual Exclusion(2 of 2)

• Special rule for trusts for minors
• Annual exclusion available for gifts to 2053(c)
  trusts for minors if
• Until beneficiary is 21, trustee may pay income
  and/or underlying assets to beneficiary AND
• Remaining income and underlying assets will pass
  to beneficiary when beneficiary reaches 21.
• Gifts to Crummy trusts also eligible for annual
  exclusion
• More flexible than 2053(c) trusts

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Gift Tax Deductions(1 of 6)

• Martial deduction
• Unlimited tax-free transfers between husband and
  wife

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Gift Tax Deductions(2 of 6)

• Marital deduction (continued)
• Nondeductible terminal interests ineligible for
  martial deduction
• Terminal interest is an interest that ends when
  some event occurs (or fails to occur) or a
  specified time passes
• Nondeductible if interest (or power of
  appointment) reverts back to donor or passes to a
  third party upon termination of interest

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Gift Tax Deductions(3 of 6)

• Marital deduction (continued)
• Transfers of qualified terminal interest property
  (QTIP) eligible for marital deduction
• QTIP is property
• Property transferred by donor-spouse in which
  donee has qualifying income interest for life AND
• A special election has been made

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Gift Tax Deductions(4 of 6)

• Marital deduction (continued)
• Qualifying income interest for life
• Spouse entitled to ALL income from property
  annually or more often AND
• No person has power to appoint any part of
  property to any person other than donee-spouse
  unless power cannot be exercised while spouse is
  alive

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Gift Tax Deductions(5 of 6)

• Charitable contributions
• Contributions in excess of 12,000 NOT reported
  on gift tax return if income tax deduction
  available and entire interest is gifted

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Gift Tax Deductions(6 of 6)

• Charitable contributions (continued)
• If charity is a qualified organization, amount of
  gift above 12,000 allowed as a deduction
• No gift tax due since taxable amount zero

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Gift-Splitting

• Spouses may elect to treat gifts to third parties
  as coming ½ from each spouse regardless of who
  actually made the gift
• Allows the couple to give up to 24,000 per donee
  per year w/o gift tax consequences

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Tax Computation(1 of 2)

• Large gifts
• Tax rates progressive, from 18 to 47 (tax base
  over 2M) in 2005.
• In 2006 the 47 is reduced to 46.

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Tax Computation(2 of 2)

• Unified credit
• 345,800 against gift tax
• Shelters 1M of taxable gifts from taxation
• The unified credit for ESTATE tax purposes
  increases above 345,800 between 2002 and 2009
  (is 780,800 in 2006 2008 and thus shelters
  2,000,000 from estate tax).

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Basis Considerations

• Property received by gift
• Carryover basis rules apply
• Donees basis may be increased by some of the
  related gift taxes paid
• Property received at death
• Basis equal to FMV on either date of death or
  alternate valuation date

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End of Chapter 12
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