Almost every week I get a client asking me how much he can gift before he has to pay gift tax or before the person to whom he gives the gift has to pay gift tax. Most people believe that they can only gift a limited amount of money to a person before some form of tax is owed. The amount that I commonly hear ranges from $10,000 to $14,000 a year.
If you believe that you can only gift an amount in this range every year before you pay a tax or before the person to whom you gift the money pays a tax, you aren’t alone. But the fact of the matter is, it is highly unlikely that you will ever pay a tax on a gift that you make. In fact, it is so unlikely that a tax will be owed on a gift that any person will make that it is more accurate to say there is no tax for making a gift than to say there is a tax.
Technically, there is a federal gift tax that can be imposed on certain gifts. There is no New Jersey state gift tax laws, so New Jersey never imposes a tax on a gift.
Under the federal law, a person can gift $14,000 a year to an unlimited number of people without reducing his lifetime exclusion against gift tax. The $14,000 amount is commonly called the “annual exclusion” gift amount. In other words, Mr. Smith could gift $14,000 a year to everyone on earth without reducing his lifetime exclusion against gift tax. The recipient of the gift does not have to be related to Mr. Smith.
The reason why I say that effectively there is no gift tax is due to the amount of the lifetime exclusion. For 2016, the lifetime exclusion amount against federal gift tax will be $5,450,000. The lifetime exclusion is an amount that a person can gift over their lifetime in addition to the other amounts that he can gift tax free.
If Mr. Smith gifted $14,000 to ninety-nine people and gifted $15,000 to one person, Mr. Smith’s lifetime exclusion amount would be reduced from $5,450,000 to $5,449,000. Since the one gift that Mr. Smith made exceeded the annual exclusion amount by $1,000 that $1,000 would reduce his lifetime exclusion amount by $1,000.
Unless you intend to gift more than $5,450,000 in your lifetime, you do not have to worry about gift tax. Since most people will never gift anywhere near $5,450,000 over the course of their lifetimes, most people will never pay gift tax.
The recipient of a gift never pays gift tax.
Technically, if you gift more than $14,000 a year to any one person, you must file a gift tax return, which is IRS form 709, but no gift tax will be owed. If you do no file a gift tax return, the penalty for not filing is based upon the tax that would have been owed, but since a tax would not be owed in the vast majority of cases the penalty is not very harsh.
Now there may be other reasons why you should think twice before making a gift. If you are seventy years of age or older, the possibility that you will been long term care is very real.
Any gifts that you have made during the past five years could affect your eligibility for the Medicaid program. Medicaid is a federal-state medical payment program for needy individuals. Gifts made up to five years prior to filing an application for Medicaid can result in a person being rendered ineligible for Medicaid for a period of time.
But worrying about paying a tax is not a real reason to worry about making a gift. If you don’t believe me, ask yourself this simple question: How many people do you know who have ever paid a gift tax on a gift that they have made? I bet you don’t know anyone. On the other hand, how many people do you know who have paid income tax? I bet almost everyone you know.
From a practical standpoint, there is no tax on gifts.