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Gifts

If you make large gifts during your lifetime, you may owe federal gift tax. But don’t worry too much about gift taxes: the vast majority of Americans never need to pay it, because most ordinary gifts aren’t taxed.

State gift taxes.

Only two states, Connecticut and Minnesota, impose their own gift tax. Connecticut gift tax is owed when the value of all taxable gifts made by a resident since 2005 (not counting out-of-state real estate) reaches $2 million. Minnesota has a $1 million gift tax exemption.

How Federal Gift and Estate Taxes Work Together

The federal gift tax is part of what’s called the “unified” federal gift and estate tax. Gift tax applies to lifetime gifts; estate tax applies to net assets left behind upon death. The idea is that whether you give assets away while you’re alive, or leave them to your beneficiaries upon your death, they’re taxed the same way, at the same rate. (If there were no gift tax, then anyone could completely avoid the estate tax by giving everything away just before death.)

Currently each of us can give away or leave up to $5.43 million without owing federal gift and estate tax. This increases to $5.45 million in 2016. So, for example, if during your lifetime you give your children your house, worth $1 million, plus another $4 million in stocks and bonds, no federal gift tax will be due. The exemption amount is indexed for inflation and goes up each year. In addition to the lifetime exclusion amount, many other gifts are may not be subject to gift tax—for example, gifts to a spouse. So if you give your $1 million house and $4 million of other property to your children, and another $7 million to your spouse, you still won’t owe any gift tax.

Gift Tax Basics

If a gift is taxable, the person who makes the gift—not the recipient—must pay the tax. Gift tax is rarely paid during the giver’s lifetime, however. That’s because of the lifetime gift and estate tax exemption. Even though you must file a gift tax return if you make a taxable gift, you can choose to either pay the tax or use some of your unified gift and estate tax exemption to defer (and probably avoid) gift tax liability. Usually, a gift tax isn’t paid until someone makes so many taxable gifts that they exceed the lifetime exclusion amount. Although some do, very few people actually ever give away that much money during their lifetime. At someone’s death, ity may be necessary to compute a federal estate tax.

In addition to the property left behind (the estate), the amount of taxable lifetime gifts is included in the total that may be subject to estate tax. Again, no tax is due unless the taxable estate exceeds the exemption amount. What’s a gift? A gift is any transfer for which you do not receive consideration, or, less than “fair market value,” in return. For example, if you hand someone a check for $1,000, that’s a gift. And if your house would fetch $100,000 on the open market but you sell it to your son for $10,000, you’ve made a $90,000 gift. What’s "fair market value?" The fair market value is the price at which an asset would sell when there’s a willing and knowledgeable buyer and seller.

What’s a taxable gift? Lots of ordinary gifts are NOT taxable, including:

  •  Gifts that are not more than the current annual exclusion amount, $14,000 (you can give this amount to any number of different recipients; and you and your spouse can give $28,000 per year per recipient)
  • Tuition, if paid directly to a school (other expenses related to education, such as books, supplies and living expenses, do not qualify for this exemption)
  • Medical expenses you pay directly to medical providers
  • Gifts to your spouse (if your spouse is a U.S. citizen)
  • Gifts to a political organization for its use
  • Gifts to certain charities

What’s the gift tax rate? The current federal gift and estate tax rate is 40%.

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