Gift tax

Have you heard of the gift tax but aren’t sure how it works? Bankrate explains.

What is a gift tax?

Gift taxes are imposed on money or property transferred from one person to another as a gift. For the purpose of this tax, a gift is defined as any a direct or indirect exchange where there is no monetary compensation for goods. Gift taxes are closely related to estate taxes: gift taxes are levied on goods transferred by a living person, while estate taxes fall on items transferred by a donor who has died.

Deeper definition

Gifts subject to tax include stock, real estate, cash, and most other tangible or intangible properties. The gift tax is usually paid by the donor, although the recipient can agree to pay the tax instead under certain circumstances.

There are two major exemptions from the gift tax — annual and lifetime exemptions. The annual exemption is the amount an individual can give to an unlimited number of people per year free from tax. For the 2017 tax year, the annual exemption is $14,000 per recipient.

The lifetime exemption is the total amount an individual can give away over the course of his or her entire lifetime free from gift taxes. For 2017, the lifetime exemption is $5.45 million. There is one catch: the amount gifted under the annual exemption reduces the amount that can be given away by the individual at death free from estate taxes.

Gift and estate taxes were linked by Congress in 1976, limiting donors’ ability to circumvent the estate tax by transferring property while they were still alive. The two taxes are linked under a provision known as the unified tax credit.

There are also special exemptions for tuition and medical expenses. Donors can pay an unlimited amount of tuition for recipients free of tax, however the payment must be made directly to the institution providing the education, not to the person receiving the eduction. Likewise, an unlimited amount of medical expenses can be paid free of gift tax, but the payments must be made directly to the institution providing the medical care.

All gifts from one spouse to another are exempt, as are gifts to political organizations.

Need help with tax planning? Check out Bankrate’s tax calculators.

Gift tax example

Mrs. Bates gave $5,000 to her son Norman in January, another $4,000 in June, and then another $3,000 in December. Since the total amount of gifts made to Norman over the course of the year only equaled $12,000, they are free from any federal gift taxes.

Separately, Mrs. Bates can renovate Norman’s bathroom for $14,000, give each of her three grandchildren stocks worth a total of $14,000 a piece, and give Norman’s friend Marion a diamond ring worth $14,000, and each gift will be free from gift taxes.

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