Changes to Federal Gift Tax Exemption Could Favor Taxpayers

At the end of 2010, Congress came to a last-minute compromise that affected several aspects of the tax code. The gift tax, an important estate planning tool, was one piece of the tax puzzle that received significant attention. Understanding the updates to the gift tax is imperative for anyone looking to take advantage of the favorable tax rules in play for 2011 and 2012.

Overview of the Gift Tax

The gift tax applies to the value of any type of property given from one person to another (not including spouses, who get different tax treatment for gifts). The donor pays any gift tax; for the recipient, a gift is not included in taxable income, but there may be a capital gains tax if the property is later sold.

Every year, gifts valued at $13,000 or less given to any one person may be excluded from federal gift taxes. But most individuals will not have to pay any gift tax even on those gifts that exceed $13,000, because of the lifetime gift tax exemption. The excess value of gifts over $13,000 is offset by the giver's lifetime exemption. In other words, an individual will only owe payment for a federal gift tax once his or her lifetime exemption is used up.

Increased Exemption

In 2010, the lifetime gift tax exemption was $1 million, or $2 million for married couples, with gifts exceeding that amount taxed at a maximum of 35 percent. Under the legislation passed last year, the top rate remains at 35 percent, but the lifetime gift tax exemption has been raised to $5 million for individuals, or $10 million for married couples.

Another significant change to the exemption is the addition of portability among married couples. If one spouse dies without having utilized the full $5 million of his or her gift tax exemption, the remaining amount can be used by the surviving spouse.

Act Fast

So what do these changes to gift tax exemptions mean? Essentially, many taxpayers could realize a huge benefit by giving away greater proportions of assets under the increased gift tax exemptions, thus avoiding potentially costly estate taxes down the road.

Although the current gift tax rules can be quite favorable to taxpayers, it is essential to move quickly. Exemption amounts and top rates are set for the next two years, but at the end of 2012, the provisions will sunset, and no one knows what Congress will do then.

Talk to a Massachusetts estate planning attorney at our firm to discuss your specific circumstances.