The tax treatment afforded gifts and inheritances can be a complicated. This page will provide some basic information. However, I recommend that you consult with me for the appropriate tax treatment given you specific scenario.
Estate Tax and Gift Tax are unified (that means they are integrated into one tax system). The federal Estate and Gift Taxes impose taxes on transferring assets. The GIFT TAX catches transfers made during your lifetime, while the ESTATE TAX catches transfers at death. Transfers while you were alive and at your death are combined and subject to one progressive tax. The rates are the same for both taxes.
Generally, gifts are never taxable to the recipient upon receipt. However, tax may be due from a subsequent sale or disposition of the property.
If property is the subject of a gift (such as a home, car, etc.), the cost basis to the recipient (the one who RECEIVES the gift), will be the same as the basis in the hands of the DONOR (the one who gave away the property) – UNLESS, the fair market value (FMV) of the property was LESS than the DONOR’S BASIS at the time of the gift. In that circumstance, the basis in the hands of the RECIPIENT (used to determine fain or loss on sale or other disposition of the property) will be its FMV on the date of gift.
|NOTE; Since the basis of property received as a gift in the hands of the donor (or it FMV on the date of the gift, if less) will be critical in determining any gain or loss on sale or disposition of the property at a later date, it is important to document this basis upon receiving a gift of property as it may be more difficult to establish in a later year.|
For 2004, a person may give to another person up to $11,000 without any tax consequence to the DONOR (remember – the RECIPIENT does not have any immediate tax consequence upon receiving a gift).
Gifts totaling more than $11,000 to one person during the year are considered a taxable gifts and generate a potential Gift Tax. It does not matter if you give one $12,000 gift or 12 gifts of $1,000 each, or one gift of $10,000 and a “birthday gift” of $2,000. Gifts of a “future interest”, no matter what their value, also are considered a taxable gift.
The rule, therefore, is that gifts beyond the $11,000 limit (there is an exception for gifts that are directly paid by the gift giver for tuition and medical expenses) are considered “taxable gifts.”
Taxable gifts generate a Gift Tax. But Gift Tax is not due until you give away over $1,500,000 (for 2004 and 2005) in your lifetime.
A person may give a gift up to $22,000 to a married couple without any tax consequences.
A couple (such as a mother and father) can give up to $44,000 to another couple (such as son and daughter-in-law) without any tax consequences.
Reporting Gifts to the IRS
Now, what happens if you give money or property to another in excess of the applicable limits given above? You must file form 709 to report the taxable gifts.
As with the income tax return, Gift Tax returns (Form 709) are due on April 15 of the year following the year in which you made the gift. The Gift Tax (if any) is due at the time of filing the return. Extensions are available, but interest will be charged from the regular due date of the return.
As with gifts, the beneficiary of an inheritance almost always has NO TAX to pay upon receipt of the inheritance. There may be tax due, however, upon the sales or disposition of the property after its receipt. All income earned after inheritance and relating to the property is, of course, taxable.
The basis for property inherited is its fair market value (FMV), either on the decedent’s date of death, or six-months later on the alternate valuation date (if the Executor made that election).
|NOTE; Since the FMV of the property on the applicable date (death or alternate valuation date) will be critical in determining any gain or loss on sale or disposition of the property at a later date, it is important to document this value upon receiving an inheritance as it may be more difficult to establish in a later year.|
There are special rules relating to stepped-up basis (where property is valued in the hands of the beneficiary at the current fair market value rather than its basis in the hands of the decedent) in community property states where property is held as community property (rather than as joint tenancy or tenants in common). In certain circumstances, the portion of the property held by the surviving community property spouse will also receive a stepped-up basis.
To illustrate, assume a husband and wife own a home with a value of $400,000, and a basis of $100,000. The husband dies. Absent community property considerations, his one-half of the property gets a stepped-up basis from $50,000 (1/2 of $100,000 cost basis), to $200,000. That means that in the hands of the surviving spouse, the house now has a basis of $250,000 (the decedent’s stepped-up basis of $200,000 + her $50,000 basis).
If she sold the property for, say $700,000, she would have a gain of $450,000 ($700,000 – $250,000).
Assume the same facts except that husband and wife lived in a community property state (like CA), and held the property as COMMUNITY PROPERTY. Upon husband’s death, the entire property is adjusted to its current FMV of $400,000. When the spouse sold the property for $700,000, her gain would be $300,000 ($700,000 – $400,000).
How you hold title to property can have dramatic tax consequences. It is critically important that you consult a tax professional when making these important decisions.