How to Avoid Gift Tax? Rules And Exemptions

How to avoid gift tax

Nearly all sources of income are tracked by the Internal Revenue Service so that the right amount of taxes can be collected. As annoying as it may be, it only makes sense that revenue received as a gift is subject to federal tax regulations. But why don’t you have to declare your birthday money every year if there is a national tax on gifts?  The gift tax is one of the more obscure ideas in the American taxation system. Most individuals are aware of it, but they may not be entirely sure what it is, who is responsible for paying it, or when it applies. There are various ways “how to avoid gift tax?”. 

But let us first understand what gift tax is.

What is Gift Tax?

This tax is imposed, in accordance with the IRS, on “any transfer to an individual, either directly or indirectly, where full consideration measured in money or money’s worth is not obtained in return.” 

Depending on the size of the taxable gift, the applicable tax rate ranges from 18% to 40%. Since it is a progressive tax, each bracket only applies to a specific range.

Tax Bracket for Gifts

The following tax brackets would be used by the donor to determine their tax return:

2022 and 2021 Federal Gift Tax Rates
Taxable Amount Exceeding Annual Exclusion Limit ($15,000 per gift) Gift Tax Rate
$0 – $10,000 18%
$10,001 – $20,000 20%
$20,001 – $40,000 22%
$40,001 – $60,000 24%
$60,001 – $80,000 26%
$80,001 – $100,000 28%
$100,001 – $150,000 30%
$150,001 – $250,000 32%
$250,001 – $500,000 34%
$500,001 – $750,000 37%
$750,001 – $1,000,000 39%
$1,000,000+ 40%

A gift may be taxable under this rule if you provide something of value and receive less in return than it is worth. It is significant because it applies when you donate something of value and receive a small sum in return. The law books refer to it as a “de minimis” transaction.

When you receive a gift, Do you Have to Pay Taxes?

when you receive a gift

While not subject to federal income tax, assets you inherit or receive as a gift are not subject to federal income tax. The income will be taxable if the assets generate dividends or rent. Check out IRS Publication 525 for more details. Some states also impose inheritance taxes.

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Annual Gift Tax Exclusion

Everyone is allowed to make gifts up to a specified cash amount each year under tax regulations. The annual exclusion guidelines were created to ensure that common gifts, such as birthday presents, are not taxed.

Each year, the annual exclusion increases to account for inflation. In 2021, you won’t often have to deal with the IRS if you give someone up to $15,000 in a single year. It rises to $16,000 in 2022.

A tax return must be filed if you gift any one person with more than $15,000 in cash or assets such as stocks, real estate, or a brand-new car in a single year. It does not imply that you must pay gift taxes. It simply implies that you must disclose the gift by filing IRS Form 709.

A married couple may give a combined $30,000 to each recipient under the annual gift tax exclusion because the provision is also on a per-donor basis.

Best Ways to Reduce Or Avoid Gift Tax

If saving money on taxes is your main objective, then there are multiple ways to reduce your gift taxes.

Spouse Gifts Deduction

Married couples can freely transfer money and property between the two spouses, thanks to gift legislation. As a result, you normally don’t have to worry about gift tax when giving your spouse any amount of money or property.

This set of regulations explains why it rarely affects households. To be subject to the gift tax, a person needs to provide someone roughly $12 million over the course of their life. Additionally, you would typically have to pay for that all at once. The annual and lifetime exclusions have upper limits routinely increased by Congress and the IRS.

However, the fact that only United States citizens are eligible for the unlimited marital deduction can be confusing for some people. Gifts to non-citizen spouses are limited to $149,000 annually. If there aren’t any exclusions, the gift tax applies to amounts over that.

Tuition Bills

Gift taxes may not apply to all payments made for educational costs. Gifts amount doesn’t cover tuition. This deduction does not apply to gifts used to pay for lodging and board, books, supplies, or other educational expenses; instead, such gifts must be taken into account when calculating the annual exclusion amounts.

The crucial aspect of this exclusion is that the donor must pay the school personally. You will forfeit the exclusion if you give the student the cash, and then they pay the tuition.

Federal taxes won’t apply if you contribute $20,000 toward your child’s or grandchild’s education expenses, then give them an extra $16,000 in the same year.

According to IRC Section 170(b)(1)(A)(ii), payments paid directly to a qualified domestic or international educational institution for an individual’s education qualify for the educational exclusion

Gift Tax Exemption from Medical Expenses

The Tax exemption for funds intended particularly for medical costs is one of the most significant exceptions. However, the contribution must be outright to the hospital or insurance company. The tax cap will still apply to gifts made directly to the recipient with the intention of paying medical expenses.

For instance, you would have to deal directly with the organization on billing if you wanted to pay for your grandparent’s nursing home stay. As a result, you could afford the medical bills monthly without worrying about going over your allotted annual gift limit.

Charity Taxes

Gift taxes do not apply to donations made to eligible charities. As a result, Section 501(c)(3) of the Internal Revenue Code permits you to donate any amount to tax-exempt organizations.

Perhaps when your annual gifts or entire estate fall far below those thresholds, you may still need to file gift tax filings. Even if no tax was owed, the IRS might assess penalties for failure to file a gift tax return.

If you don’t report the gifts, you might wonder how the IRS would find out about them. A few years back, the IRS discovered that people weren’t submitting tax returns on time as required. It then started cracking down on incomplete gift tax forms and looking for presents that needed to be declared.

Of course, if the IRS audits the estate after someone passes away, the auditor will review the deceased’s financial records to look for gifts that weren’t disclosed. But the IRS can also look for unreported gifts you received throughout your lifetime. Additionally, some governments actively seek undisclosed gifts and communicate with the IRS about them.

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What gifts are not subject to gift tax?

For the purposes of the federal gift tax, the following four additional transfers are not considered under it:

  • Annually excluded gifts.
  • Funds to cover certain educational costs.
  • Payment of medical bills.
  • Charity.

What is the Gift Tax on $50000?

You will exhaust your $15,000 annual exclusion if your gift value is $50,000 in a particular year. Although you will need to submit a gift tax return, the good news is that you most likely won’t have to pay any gift taxes. Because it will be counted towards your lifetime exclusion, therefore the additional $35,000 ($50,000 – $15,000) does not affect it.

What happens if I don’t file a gift tax return?

If the IRS doesn’t discover the filing error, it may find it during an estate audit and levy a fine on your estate. Additionally, the penalty and interest will start to mount as of the deadline for filing the gift tax return.

Do I have to pay taxes on a gift from my parents?

If your parents give you a present that is larger than what is allowed, they must pay a gift tax on it. That cap will increase to $16,000 in 2022. However, even if your parent exceeds the annual exclusion cap, filing some documentation might be all that is required. In most cases, your parent won’t have to make an actual tax payment unless the gifts they are sharing during the year exceed their lifetime gift tax exclusion limit.

What’s The Difference Between Gift Tax And Real Estate Tax?

Real estate taxes are yearly levies based on the assessed value of a residence that a homeowner must pay. The fair market value of a residence is multiplied by the specified percentage in each city and state municipality to arrive at the tax assessment value.
When you transfer someone an asset or amount directly or indirectly without expecting anything of the same market value, then it is considered a gift, according to the IRS.

Is capital gain taxes can be counted as a gift tax?

When you gift an asset to someone, then for the recipient, it will be counted as a capital gain. The IRS will apply taxes if the value of the received asset is more than the threshold value.

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Author Details
Financial Advisor , The Bookify
Hi! I am Madeline Ortega, a financial advisor. I offer free financial tips. Since 2016, I have written more than 1,000 articles on managing your small business finances.

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