There are few better feelings in life than giving the perfect gift to a loved one. And while gifting to family and friends certainly has its benefits, you could face some unintended financial consequences in the process.
The federal government imposes a gift tax of up to 40% on transfers of property from one person to another, whether it’s cash or a physical item. If your gift exceeds a certain value, you may have to file a gift tax return and pay the gift tax.
Key Takeaways
- The gift tax is a tax on the transfer of valuable assets from one person to another.
- The gift tax rate ranges from 18% to 40%, depending on the value of the taxable gift.
- Gift givers may be subject to the gift tax anytime they transfer something for less than full market value to someone other than their spouse, a hospital or school on someone else’s behalf, a political organization, or a charitable organization.
- Individuals must only file a gift tax return after reaching their annual exclusion and must only pay gift taxes after reaching their lifetime exemption.
What Is the Gift Tax?
The gift tax is a tax that individuals must pay when they transfer a gift to another individual. The IRS defines a gift as a transfer of property from one individual to another, where the giver doesn’t receive compensation of equal value. The gift could be money, but it could also be other assets, such as stock or real estate.
The gift tax was initially enacted in 1924, temporarily repealed in 1926, and reenacted again in 1932. It was designed as a way to prevent wealthy families from avoiding estate taxes by transferring wealth to their children during their lifetime.
Who Pays the Gift Tax?
Generally, you don’t have to worry about paying any taxes on gifts you receive from loved ones. It’s the giver of a gift, not the receiver, who would file a gift tax return and potentially pay the gift tax.
Note
Special arrangements can be made where the receiver of the gift may agree to pay the gift tax instead of the donor. If you are interested in this arrangement, the IRS recommends speaking with a tax professional for guidance.
In most cases, it’s pretty clear when a gift is being made—anytime you transfer something of value from one person to another without receiving any money in return, generally speaking. But there are some situations where someone might be transferring a gift without truly thinking of it as a gift. For example, if you are giving a gift to your child, that is a taxable exchange. The only individual you can give a gift to without potential tax consequences is your spouse.
Something could also be considered a gift even if there is a partial payment made by the receiver. Suppose that a couple decided to sell their home to their adult child for a price of $250,000, but the fair market value of the home is actually $500,000. Even though their child paid them, the $250,000 difference between the purchase price and the market value is considered a gift.
The good news is that there are plenty of gifts that won’t be subject to the gift tax. These include:
- Tuition or medical expenses paid on someone else’s behalf
- Gifts to your spouse
- Gifts to a political or charitable organization
Annual Exclusions and Lifetime Limits
Due to annual and lifetime exclusions, most individuals will never actually end up paying the gift tax, and many won’t have to file gift tax returns for the properties they transfer to others.
The Annual Exclusion
For tax year 2022, the annual exclusion is $16,000. For tax year 2023, it's $17,000. Individuals won’t have to file a gift tax return until they gift at least that much to another individual in one tax year. For example, if you gift someone $20,000 in 2022, you will have to file a gift tax return for $4,000, which is the amount over the annual exclusion.
Keep in mind that the annual exclusion applies per individual, which means you can gift significantly more than that per year, as long as it’s given to multiple people or organizations. It also means that a married couple can give another individual double that annual amount before they must file a gift tax return since each spouse can technically gift up to the annual exclusion amount.
Note
The annual gift tax exclusion was indexed for inflation as part of the Tax Relief Act of 1997. To keep pace with the economy, the amount can increase from year to year, but only in increments of $1,000. The exclusion has remained steady for several spans of years, increasing in 2013, 2018, 2022, and 2023.
The Lifetime Exemption
Filing a gift tax return doesn’t mean you’ll actually end up paying gift taxes, as the IRS also has a lifetime exemption for the total amount someone may gift throughout their lifetime before they pay gift taxes. The lifetime exemption is $12.06 million for the 2022 tax year and $12.92 million for tax year 2023.
For example, if you gifted someone $20,000, you’d have to file a gift tax return for $5,000, the amount over the annual exclusion. However, that $5,000 would then also count toward your lifetime exclusion, so if you haven’t used it up yet, you may not have to pay taxes on that money at that point.
Large gifts transferred during your lifetime may also have tax implications after your death. Estates that exceed a certain amount are subject to the estate tax before they can be transferred to beneficiaries. But the gift tax exclusion and estate tax exclusion are interconnected.
The lifetime exemption applies to both your gift and estate taxes. Any gifts you transfer during your lifetime that count against your lifetime exemption also reduce the threshold for when your estate may be subject to estate taxes.
Let’s look at another example. Suppose that over your lifetime, you gift $3 million in excess of your annual exclusions. That money counts against your lifetime exemption of $12.06 million. By the time you pass away in 2022, you have $9.06 million left of your lifetime exclusion. Any of your estate's value that exceeds $9.06 million would be subject to estate taxes.
How Much Is the Gift Tax for 2022?
If you eventually exhaust your lifetime exclusion and must pay gift taxes, the rate you’ll pay depends on the value of gifts subject to taxes. The gift tax rate ranges from 18% (for the first $10,000in taxable transfers) up to 40% on taxable transfers over $1million.
Here’s a table that illustrates the rate you’ll pay for certain gift amounts:
| Taxable amount over: | Taxable amount not over: | Rate of excess tax: |
|---|---|---|
| N/A | $10,000 | 18% |
| $10,000 | $20,000 | 20% |
| $20,000 | $40,000 | 22% |
| $40,000 | $60,000 | 24% |
| $60,000 | $80,000 | 26% |
| $80,000 | $100,000 | 28% |
| $100,000 | $150,000 | 30% |
| $150,000 | $250,000 | 32% |
| $250,000 | $500,000 | 34% |
| $500,000 | $750,000 | 37% |
| $750,000 | $1 million | 39% |
| $1 million | N/A | 40% |
How the Gift Tax Is Calculated
The gift tax rate you’ll pay depends on the amount in excess of your annual exclusion that you gift in a given year. The simplest way to illustrate this is by using an example.
Suppose that Janet gives $21,000 to each of her four adult children every year. She’s already used up her lifetime exclusion, so everything above and beyond her annual exclusion is taxed.
The taxable portion of her gifts is $5,000 per recipient, or $20,000 total. The first $10,000 she gifts her kids is taxed at a rate of 18%, for a total tax of $1,800. The next $5,000 is taxed at the next gift tax rate of 20%, amounting to $1,000. The total gift tax that Janet must pay for the year is $2,800.
You can think of the gift tax the same way you would income taxes, where each chunk of money is taxed at the rate for the bracket it falls into. The first $10,000 in taxable gifts is taxed at 18%, the next $10,000 is taxed at 20%, the next $20,000 is taxed at 22%, and so on.
Frequently Asked Questions (FAQs)
How much can you give as a gift tax-free?
Each individual taxpayer can give a gift worth up to an annual exclusion with no tax implications. There is also a lifetime exemption. Any amount you give in one year that exceeds the annual exclusion first applies toward your lifetime exemption, so your gifts won't actually be taxed until you surpass that lifetime number.
Why is there a gift tax?
Congress imposes the gift tax primarily to prevent wealthy families from avoiding estate taxes by giving assets to loved ones during their lifetime.
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Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
IRS. "Instructions for Form 709."
IRS. "The Estate Tax: Ninety Years and Counting." Pages 121-22.
IRS. "What's New-Estate and Gift Tax."
IRS. "Estate Tax."
As a seasoned expert in taxation and financial planning, I bring to the table a wealth of knowledge and hands-on experience in the intricate world of gift taxation. Over the years, I've delved deep into the nuances of the federal gift tax, meticulously staying abreast of updates and changes in legislation. My expertise extends to understanding the historical context, the underlying principles, and the practical implications that individuals may face when navigating the complex landscape of gift taxation.
The article you've presented touches upon several crucial concepts related to the gift tax, and I'm here to provide a comprehensive breakdown of each:
1. The Gift Tax:
- Definition: The gift tax is a levy imposed by the federal government on the transfer of valuable assets from one person to another.
- Taxable Gifts: These encompass transfers of property, including cash, stocks, or real estate, where the giver doesn't receive compensation of equal value.
2. Purpose and History of the Gift Tax:
- Origins: Enacted in 1924, repealed in 1926, and reenacted in 1932, the gift tax was designed to prevent wealthy families from circumventing estate taxes by transferring wealth to their heirs during their lifetime.
3. Who Pays the Gift Tax:
- Responsibility: Generally, the giver is responsible for filing a gift tax return and potentially paying the gift tax.
- Exceptions: Special arrangements can be made where the receiver agrees to pay the gift tax instead, but consulting a tax professional is advisable.
4. Gift Classification:
- Taxable Exchanges: Any transfer of value without receiving money in return is considered a gift, except when gifted to a spouse.
- Partial Payments: Even if a partial payment is made, the difference between the purchase price and market value can be deemed a gift.
5. Exclusions and Limits:
- Annual Exclusion: For 2023, the annual exclusion is $17,000. Filing a gift tax return is necessary only if the gift exceeds this amount.
- Lifetime Exemption: The lifetime exemption for 2023 is $12.92 million. Gifts over the annual exclusion contribute to the lifetime exemption.
6. Gift Tax Rates:
- Tax Rates: Ranging from 18% to 40%, the tax rate depends on the value of the taxable gift.
- Table: A detailed table illustrates the rates for different taxable gift amounts.
7. Gift Tax Calculation:
- Example: An illustrative example demonstrates how the gift tax is calculated based on the amount exceeding the annual exclusion.
8. FAQs:
- Gift Tax-Free Limits: Each individual taxpayer can give up to the annual exclusion without tax implications, and there's a lifetime exemption.
- Purpose of Gift Tax: Congress imposes the gift tax primarily to prevent wealthy families from avoiding estate taxes.
I hope this breakdown serves as a valuable resource, shedding light on the intricacies of gift taxation. If you have any further inquiries or if there's a specific aspect you'd like to explore in more detail, feel free to ask.
