Understanding the Lifetime Gift Tax Exemption

Now that the Fiscal Cliff has eroded away, we’re left with permanent rules regarding estate taxes, gift taxes, and the ever-confusing lifetime gift tax exemption.  Rules have been set into permanency by Congress, including indexing both types of exemptions for inflation.  Let’s see what we’ve got, now that the cliff dust has settled

Basics: Gift Tax vs. Estate Tax

The difference here is when money is given.  If it’s given before the giver dies, it’s called a gift.  There is a set amount each year (now indexed for inflation, thank goodness) you’re allowed to give away, tax-free, to anyone you like.  For 2013 the gift tax exemption is $14,000.  You can give as may people as you like up to that amount, and there is no tax.  But if you give someone $14,001 you’ll pay a gift tax on that extra dollar.

Now, similarly, the estate tax is money you give away to your heirs…after you are deceased.  There’s also an exemption amount: for 2013 it’s $5,250,000.  You can give away $5.25 million before you get hit with an estate tax from Uncle Sam.  That’s called the estate tax exemption amount.

How are the Gift Tax Exemption and the Estate Tax Exemption Related?

The amount you give in excess of the gift tax exemption during your lifetime will be tallied up and after you die it will be counted against your estate tax exemption.  This concept is called the unified gift & estate tax.  So, if you give someone $20,000 as a gift one year (during your lifetime, so it’s a gift) and the gift tax exemption is $14,000 then you’re exactly $6,000 over the limit.  You’ll then have to file IRS form 709 to report your Gift Tax Return.  But you still won’t pay a gift tax, since the $6000 can simply be subtracted off your lifetime gift tax exemption, which is currently set at $5.25 million.

Yes, this is your estate tax exemption amount.  In other words, your lifetime gift tax exemption eats into your estate tax exemption amount once you go over the annual gift tax exemption amount (currently set at $14,000 for 2013).

File IRS Form 709 if You Go Over the Annual Gift Tax Exemption

IRS form 709 is found here.  You will have to fill one out each year you go over the gift tax exemption amount.  That way, the IRS can keep tabs on how much you’ve given away, and how much of your Estate tax exemption amount you have left, once you pass away.

The rules for the relationship between the lifetime gift tax exemption and the estate tax exemption have changed a few times in the last few years, so it’s a bit difficult to get clear information on this subject.  Hope this helps!


The IRS Gives You Pass on the AMT if You Don’t Claim Many Adjustments to AGI

Nobody likes it when rich people get away with things.  That’s why the government devised the Alternative Minimum Tax system.  Several decades ago, too many wealthy Americans were hiring expensive accountants and tax lawyers to find loopholes in the tax code to save them thousands of dollars on their income tax return each year.  Lawyers and accountants that nobody else could afford, which made it all the more aggravating for everyone.

The Alternative Minimum Tax Exemption: Sticking to the Original Concept of the AMT

So, the AMT was invented to strip away all those nice deductions and tax credits the lawyers were working so hard to find for the rich people.  With the loopholes stripped away, the wealthy weren’t able to duck out of paying their fair share of income taxes.

Of course this makes figuring taxes all the more complicated.  That’s because now we essentially have to figure them out twice: once under normal rules and then again under the AMT system.  Whichever one benefits the IRS is the one you have to use.

But in keeping with the original concept of the AMT, some people just don’t make enough income to be subject to the AMT.  In comes the alternative minimum tax exemption.  You still have to figure out your AMT taxable income, which is basically taking your regular taxable income and making a few AMT adjustments to it like…

  1. home mortgage interest adjustment
  2. miscellaneous deductions from Schedule A, line 27
  3. medical and dental deductions
  4. expenses for investment interest
  5. depletion
  6. net operating loss deduction
  7. research costs

Then, if your new taxable income under the AMT system, after adding in those deductions and adjustments listed above plus a few more,  is more than the alternative minimum tax exemption, you have to pay some additional tax.  And voila, you are the latest victim of the Alternative Minimum Tax.

So, What Is the Alternative Minimum Tax Exemption?

Like other figures based on income and affected by inflation, this exemption amount changes every year.  It goes up to keep pace with the times.  For tax year 2013 it was $51,900 for single filers.  That means, after you take your normal AGI (Adjusted Gross Income), add back in the required deductions and other goodies you’re not allowed to have under the AMT system, your taxable income is above the alternative minimum tax exemption amount you’ll have to pay some more tax.  However much your taxable income goes over that alternative minimum tax exemption amount, is the additional tax you’ll be forking over to the IRS.

Tax Refund


How to Give Away Thousands Without Paying Taxes

“We make a living by what we get. We make a life by what we give.” Those wise words of Winston Churchill may or may not ring true to you, but if you want to give away lots of money the IRS is here to help with the gift tax exemption.

First of All, What’s a Gift Anyway?

In the eyes of the IRS, a gift is something of value that you give away with no expectations of getting anything in return.  No strings attached.  Or, it can be something of a certain value that’s given in return for something of far lesser value.  You can consider cash a gift, or making an interest-free loan to your sister: that’s also a gift.  How about when your great aunt “sells” her old house to you for $5?  Definitely a gift!

You Mean, The IRS Taxes That Stuff?

Yup, it’s income to someone, so they’ll pay income tax on it.  The gift tax is a definite deterrent to wealthy taxpayers who want to avoid the estate tax: give it all away before you die so nobody pays taxes on it after you’re gone.

But the IRS lets you get away with a little bit of generosity before they hit you with paying taxes on it as income.  This nice gesture on the part of the IRS is called the gift tax exemption.  You are allowed to give $14,000 (for tax year 2013) and nobody pays a dime in taxes to the IRS.

Oh and get this. It’s not the total amount of gifts you give that count toward the gift tax exclusion.  It’s the total amount to one person.  So, you can give away way more than the gift tax exclusion amount, so long as no single person gets more than the exclusion amount.

Wait, How Does That Work?

You can give $10,000 to each of nine grandchildren for a total of $90,000 (yes we’re assuming you’re absolutely filthy rich here!) and not pay any gift tax because each gift was under the gift tax exclusion amount.

But the person receiving the gift must be really receiving it.  You can’t “give” your grandchildren thousands of dollars and really keep it in your own savings account still.  They must have immediate and unrestricted access to that money or the IRS won’t consider it a real gift.  In that case you’ll have to pay gift tax on it.

The Estate Tax Exemption Allows You $5 Million Tax Free

When you die, the IRS gets you one last time with what’s known as the Estate Tax.  For most of your life you’ve paid income tax, Social Security tax, Medicare tax, and taxes at the state and local levels as well.  The Estate tax is one final blow: the money you leave behind has to go to someone, and that is like income.  Therefore, it’s taxed.

The Estate Tax was originally created to keep wealthy families from becoming too large and powerful.  Too much concentration of wealth can eventually mean something bigger: power.  The political influence that comes with enormous amounts of money is a danger to our political system so the estate tax was voted in to keep things balanced.

But most of us don’t leave enough behind to matter to the political structure of the country, so there’s the estate tax exemption.  This tax exemption is definitely your friend.  Here’s why.

The Estate Tax Exemption

Unless you are leaving more than five million dollars behind when you leave this earth, you won’t have to pay any estate taxes to the IRS (state estate taxes may apply, it depends on the state you live in).  That’s because of your new friend, the estate tax exemption.  It means there is a certain amount of money that’s exempt from the estate tax.  Luckily, that threshold is very high: $5 million.

There was a brief period of time recently during what’s now referred to as the Fiscal Cliff, where people thought Congress would set the estate tax exemption amount at $1 million.  Now, that’s a totally different ballgame since there are lots of millionaires these days due to inflation.  But finally at the last moment, Congress set the exemption amount permanently at five million dollars.

And to add icing to the cake, they also decreed that the estate tax exemption amount would also increase annually for inflation.  That’s why even the first year of the new set exemption amount it’s actually more than $5 million.  For 2013 the estate tax exemption amount is $5,250,000.  A whole quarter of a million dollars more.  That’s for people who die in 2013, the estate they leave behind.

If it’s a married couple, they each get the entire estate tax exemption, and when one dies before the other, the unused exemption amount can transfer to the surviving spouse.  That’s called portability. So for a couple that jointly owns their property, the estate tax exemption amount will be $5 million times two, plus whatever inflation amount there is for that year.  That’s if they both die that year.  If one survives longer than the tax year, portability comes into play.


Does Your Group Qualify for the Religious Tax Exemption?

In this country of ours, churches and other religious organizations get tax exempt status.  But before you go off and declare your circle of friends to be the New Church of You, find out what qualifies for the religious tax exemption and what doesn’t.

What Qualifies for the Religious Tax Exemption?

The church or religious group must apply for tax exempt status from the IRS.  The set of rules governing this status are called IRC section 501(c)(3).  Here they are in a nutshell:

  • Basically, the group must have a sole purpose of advancing religion or the study of religion.  The sole purpose can also have scientific goals or other educational goals.
  • If the group earns money, no private person can benefit form this profit.
  • The group cannot have anything to do with politics, like endorsing candidates or contributing to political campaigns.
  • Of course the group cannot have illegal activities as their purpose.  Sorry, Rastafarians!
  • the group cannot attempt to have an influence on national, state or local legislation: separation of church and state, remember!

If your church meets these standards then it automatically gets tax-exempt status.  The religious tax exemption is yours!  But if your religious, educational or scientific group meets the standards it may or may not get tax exempt status.  You would have to apply for the status.   It’s a safer bet to say a church will get the religious tax exemption than other groups.

What Are the Benefits of the Religious Tax Exemption?

First of all, if your group gets the tax exemption, it can receive charitable contributions and the donors can use it as a tax deduction.  That greatly encourages contributions!  In fact, accepting tax-deductible charitable donations is a top reason for seeking tax exempt status.

Second of all, obviously the religious tax exemption frees the group from having to pay income tax on earnings, whether they be the result of charity, bakes sales or church bazaars.

Thirdly, in perhaps the most hotly debated portion of the religious tax exemption package is the freedom from having to pay property taxes.  This is on the local levels, of course.  As must as a quarter to a half of the typical city in the US is made up of church property.  Lots of tax money not being collecting, is what that means.

What Happens if the Church Runs a Business?

Some churches participate in income-producing activities, even running big successful businesses.  If the business is unrelated to the stated purpose of the tax-exempt organization, then that income will be taxed.  Selling advertising on the Church newsletter would produce taxable income, for example.




A Tax Exemption Just For Being You

Well you can’ t say the IRS doesn’t give out any freebies.  When it comes to tax deductions and tax exemptions there’s one you get just for being a taxpayer: the personal tax exemption.  Everyone automatically gets this exemption, unless they can be claimed as a dependent on someone else’s tax return.  It’s a freebie from the IRS.

How do I Claim the Personal Tax Exemption?

If you’re using tax preparation software then you can hardly miss this one.  The software will just enter the exemption amount for you.  As with most exemptions and deductions, the amount changes each year to keep up with inflation.  For example, the personal tax exemption amount was $3650 in 2010 and $3900 in 2013.  That’s an average of $62.50 per year uptick in the amount.  The software takes care of finding out what the current tax exemption amount is for that year.

If you are preparing your own taxes on paper forms, set down your monocle and take a look at this: the personal tax exemption amount is written right on the tax form.  You can’t miss it!  Line 42 of IRS form 1040 asks you to multiply the number from line 6d by a certain dollar amount.  That dollar amount is the amount that one tax exemption is worth.  Your personal tax exemption is one.  Each dependent would count as additional tax exemptions by the way.

If your tax filing status is married filing jointly then you just claim the personal tax exemption twice, one for each of you.  If you are a dependent of someone then you don’t get the personal tax exemption because the person who claims you as a dependent gets that exemption.

What’s the Personal Tax Exemption Worth?

What’s that worth?  Well remember: the personal tax exemption is a tax deduction.  That means the amount of the exemption is subtracted from your taxable income.  That’s nice, but not as nice as a tax credit where the amount of the credit is subtracted from your actual tax bill.  So, let’s look at that 2010 personal tax exemption amount of $3650.  If you are in the 15% income tax bracket, it’s actually worth a $365  savings on your tax bill.  That’s pretty good too!.  If you are in the higher tax brackets the persona exemption is worth more because you’re paying taxes at at higher rate.  It will be worth over $1000 savings on your final tax bill.  Pretty nice freebie, eh?


What is a Tax Exemption and How do I Get One?

Ha ha- that’s kind of a joke.  Even if you know nothing at all about taxes and the IRS, you can kind of tell that a tax exemption is something you might be interested in getting for yourself.  So…what is a tax exemption and how do I get one?

What is a Tax Exemption?

Being exempt from something means you don’t have to have anything to do with it.  For example, at my job everyone has to fill out a daily log describing what projects they worked on that day.  Nobody likes.  I am exempt because I am a manager.  Nice!  I don’t have to participate.

Same with a tax exemption.  It means you don’t have to pay a certain tax, or your obligation to pay a certain tax is greatly reduced.  In the case of federal income taxes with the IRS, tax exemptions will reduce your taxable income.  That means lower tax bill or greater refund, whichever case you may be.

How Do I Get a Tax Exemption?

When you file your federal income tax return you will claim certain tax exemptions.  Everyone gets at least one!  Each tax exemption is worth a few thousand dollars knocked off your total taxable income.  For tax year 2012, each tax exemption was worth $3,800.  You automatically get the personal tax exemption.  You can also get one for your spouse if you are married filing jointly.  Let’s take a look at the other types of tax exemptions.

Types of Tax Exemptions

  1. The Personal Tax Exemption.  Already mentioned this one: you get it automatically.  You can also take one for your spouse if your filing status is married filing jointly.
  2. Dependent exemptions: these are usually your kids.  Dependents can also be elderly relative that you support, living with you.  You get a tax break for each dependent.  Make sure you fully understand who counts as a dependent and who doesn’t though.  Go to the IRS website’s dependent page here to find out more.  You can also find out more about exemptions with Publication 501.
  3. Other types of exemptions: gift tax exemption, property tax exemption, estate tax exemption for example.  These would be situations where you get a certain amount of gift or estate income tax free before you start getting taxed on it.  Ideally, your gift amount falls below the gift tax exemption amount.  But more on this later.
  4. Tax exemptions for religious organizations.  This is harder to come by since you need to be a recognized church and not many people can claim this.  Religious organizations are tax-exempt.