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!