The federal government imposes a gift tax on the transfer of money or property to another person, without receiving equal value in return. Although it may seem complex, the majority of Americans will never have to pay gift taxes due to various rules established by the Internal Revenue Service.
If an individual gives money or property to someone who isn’t their spouse or dependent, they might have to pay a federal gift tax. This tax starts at 18% and can go as high as 40% for specific gift amounts. Typically, the donor is responsible for paying the tax, not the recipient. Although recipients aren’t subjected to immediate tax consequences, they may have to pay capital gains tax if they sell any gifted property in the future.
However, not all gifts are subject to this tax. Some gifts are entirely tax-free, such as school tuition and education payments, charitable donations, medical expenses, political contributions, and gifts to spouses and dependents.
Most Americans don’t have to worry about the gift tax because of two crucial IRS regulations: the annual gift tax exclusion and the lifetime exemption.
Annual Gift Tax Exemption
Individuals are permitted by the IRS to offer a particular amount of assets or property annually without any tax implications. As of 2023, the yearly gift tax exemption is $17,000. This implies that an individual can give away up to $17,000 to as many people as they desire without being liable to pay any taxes on the gifts. For instance, a man could offer $17,000 to each of his ten grandchildren this year, and there would be no gift tax consequences. It is noteworthy that in 2022, the gift tax exemption was $16,000.
However, let’s assume the same man decides to give each grandchild $21,000 instead, exceeding his annual exclusion limit by $4,000 per gift. In this scenario, grandpa might be responsible for gift taxes on the $40,000 overage, but we’ll delve more into that later. What about married couples? In 2022, each spouse could give away $16,000 tax-free. As a result, Cynthia and Joe, a married couple, could give up to $32,000 to each of their three nieces and nephews every year.
Lifetime Gift Tax Exemption
If a gift surpasses the $17,000 annual limit in 2023, it doesn’t automatically trigger the gift tax. Additionally, for 2023, the IRS permits an individual to give away up to $12.92 million in assets or property over their lifetime and/or as part of their estate. If a gift goes beyond the annual exclusion limit, the excess amount is subtracted from the person’s lifetime exemption limit, and no taxes are owed.
Let’s consider an example for the 2023 tax year: A woman decides to purchase a $30,000 car for her granddaughter as a college graduation present. Technically, Grandma would exceed the annual $17,000 exclusion limit by a total of $13,000, but she wouldn’t owe any additional taxes. This is because she would report the gift to the IRS using a Form 709 and deduct $13,000 from her $12.92 million lifetime exemption. Consequently, she would still be eligible to give away up to $12,079,000 tax-free.
| How the Lifetime Exemption Limit Works | ||||
|---|---|---|---|---|
| Gift Value | 2023 Gift Tax Exemption Limit | Taxable Amount | 2023 Lifetime Gift Tax Exemption Limit | Remaining Lifetime Exemption Limit |
| $30,000 | $17,000 | $13,000 | $12,092,000 | $12,079,000 |
It’s important to remember that a person’s lifetime exemption limit applies to gifts that a person gives while still alive and property left to heirs after the person’s death.
| Federal Gift Tax Rates | |
|---|---|
| Taxable Amount Exceeding Annual Exclusion Limit | Gift Tax Rate |
| $0 – $10,000 | 18% |
| $10,001 – $20,000 | 20% |
| $20,001 – $40,000 | 22% |
| $40,001 – $60,000 | 24% |
| $60,001 – $80,000 | 26% |
| $80,001 – $100,000 | 28% |
| $100,001 – $150,000 | 30% |
| $150,001 – $250,000 | 32% |
| $250,001 – $500,000 | 34% |
| $500,001 – $750,000 | 37% |
| $750,001 – $1,000,000 | 39% |
| $1,000,000+ | 40% |