By: Heidi R. Kemp
Emens Wolper Jacobs & Jasin Law Firm
As summer approaches and we head to the middle of the year, it is a good time to revisit the current federal estate and gift tax rules. The exemption and exclusion amounts are indexed for inflation; so, it is important to know whether the amounts have changed for the current year.
The gift tax annual exclusion for 2023 is $17,000. The federal estate and gift tax exemption amount for 2023 is $12,920,000 (or $12.92 million). The estate tax rate is 40% for any amount of estate assets over the exemption amount.
So, what do these things mean? First, you have to always remember there are several types of taxes. Most of you are most familiar with income taxes. But, there is a gift tax and a federal estate tax. Ohio no longer has any type of estate or inheritance tax. Second, you need to understand that gift taxes and estate taxes are completely separate from income tax. But, gift taxes and federal taxes are unified and go hand in hand.
The federal estate tax exemption of $12.92 million means that each person can give that amount away during life or upon his or her death without paying any estate tax. So, if you have assets of less than this amount, you will not have a taxable estate and there will be no estate taxes upon your death. Gift taxes and federal estate taxes being unified means that gifts that you make during your lifetime reduce the amount of exemption you have upon your death. For instance, if you gifted $2,000,000 during your life, you would only be able to shelter $10.92 million at your death. Any amounts above that $10.92 million at your death would be subject to the 40% tax.
With the gift and estate tax exemption being so high, many people do not have to worry about having a taxable estate. But, many people do want to do some gifting and don’t always understand the rules. The first thing to remember about gifting is that it includes ALL gifts you make to a person, such as, cash gifts, presents, paying off debt, etc.
The gift tax annual exclusion means that you may gift $17,000 per person per year without having to even report it to the IRS. This can be an extremely effective way of transferring assets to your children or grandchildren. Let’s say you are married and you have two children, A and B. In 2023, you can transfer $17,000 to A and $17,000 to B. Spouse can also transfer $17,000 to A and $17,000 to B. By doing this, A ends up with $34,000 and B ends up with $34,000 and you and your spouse have gotten $68,000 out of your estate. And, all of this is done without having to report it to the IRS or using any of your $12.92 million exemption.
Now, what if you gift over the annual exclusion amount? Let’s say you gift your child $100,000 in 2023. $17,000 of that is the annual exclusion, leaving $83,000. You will need to file a gift tax return with your personal income tax return to let the IRS know that you have used $83,000 of your exemption amount (leaving you with $12.09 million). You do not have to pay gift taxes on that $83,000. This is an informational return so the IRS knows how much of your exemption you have used by the time you pass away.
Remember that the person receiving the gift does not have to pay gift taxes either. In addition to the annual exclusion, there are rules in place to be able to pay for medical expenses and education expenses directly that do not take away from your annual exclusion or your federal exemption. If you are in a situation where you believe gifting could be beneficial, you should consult with your tax professional and/or your estate planning attorney to discuss reporting issues and strategies.