If there’s an area of taxation that’s more misunderstood than the gift tax, you’d be hard-pressed to find it. The fact is that myths and misconceptions about this tax and its limits are more common than most people would ever guess. There are still untold millions of American who confidently assume that they’re free to just give away as much of their property as they’d like without ever confronting any tax issues. That misconception, and others, can create problems that can be difficult to resolve. To better understand these issues, there are four important facts about the gift tax limit that you need to know.
What is the Gift Tax Limit?
When you hear someone refer to the gift tax limit, that person is actually referring to the limit on gifts that you can make without incurring taxes. While some are under the assumption that gifts are never taxable, that is simply not the case. In fact, the IRS has rules that define when gifts are taxable, and when they are not – and the limits on just how much you can give before the gift is subject to a tax levy. To make it even more complicated, these gift tax limits are often referred to as exclusions or exemptions, and they come in two basic forms: the lifetime gift tax exemption, and the annual gift tax exclusion.
The Lifetime Gift Tax Exemption
The lifetime gift tax exemption is an amount that represents the total value of all the gifts you are permitted to give away in your entire life without being subject to gift taxes. When you die, though, the value of any gifts that you gave away during your life will be deducted from the total allowable lifetime limit and will effectively reduce the amount of estate wealth that can be kept free from estate taxes. Your lifetime gift tax exemption is thus tied to the estate tax exemption. Both amounts are currently set at $5.49 million, and have been indexed for inflation.
The Annual Gift Tax Exclusion
The annual gift tax exclusion is something else entirely. This limit is set at $14,000 per person, per year. That means that you are entitled to give away, without tax consequences, as much as $14,000 to any given person each year. You can give this amount to as many different people as you would like in any given year, and your spouse is permitted to match the gift. Using this gifting method, you and your spouse can give away $28,000 to multiple individuals each year. And you can repeat that gifting each year, enabling you to substantially reduce the size of your estate.
The Gift Tax Limit’s Impact on Estate Taxes
It’s easy to see how proper use of the gift tax limit can impact the estate taxes that your estate might owe when you die. By giving away large portions of your wealth each year, you can effectively transfer much of your wealth to your heirs while you’re still alive. This can not only reduce the size of your taxable estate, but enable you to witness how your wealth transforms your heirs’ lives. Along with irrevocable trust strategies, this type of gifting can help to ensure that more of your wealth remains in the hands of your loved ones rather than getting sent off to the federal government.
How the Gift Tax Limit Can Impact Medicaid Eligibility
The gift tax limit can pose complications for older Americans who might have to rely on government programs to help cover the costs of nursing home care. Sometimes, seniors give away wealth too late in life, and then discover that they need long-term care. Then, when they go to apply for Medicaid, they discover that at least some of those asset transfers trigger penalties under the program’s five-year look-back provisions.
For seniors who face that complication, the consequences can sometimes be devastating. For example, if you gave away a large sum of money to several relatives in the last few years prior to applying for Medicaid benefits, those gifts could be flagged by the government and trigger an ineligibility penalty. And if those gifts reduced your assets below the $2,000 limit you need to meet to qualify for benefits, that ineligibility penalty could place you in a difficult spot in which you not only can’t receive Medicaid benefits for months or years, but also don’t have the resources to pay for care on your own.
There Are Gifts That Don’t Count Toward the Gift Tax Limit
As important as it is to understand the gift tax limit and how it works, it’s just as important to remember that there are some gifts that don’t get counted as gifts at all. There are two specific options that allow you to give away wealth without the gifts counting toward any of your gift tax limits:
- The Educational Exclusion: When you make payments directly to someone’s educational institution to cover the costs of a child’s tuition, those payments don’t count toward your gift tax exclusion. Note that the payment must go directly from you to the institution, as money that is given directly to the student will count as a taxable gift when it amounts to more than $14,000.
- The Medical Exclusion: When you have a loved one with medical expenses or insurance deductibles for medical costs, you can pay those bills if you pay the care provider or insurer directly.
While there are many misconceptions about the gift tax limit, it is a topic that can be better understand once you understand the basic facts. At Frank & Kraft, Attorneys at Law, our team is committed to ensuring that our friends and neighbors in the area have the information they need to better understand these tax issues and how they impact their estate planning and elder law needs. If you have questions about how gift taxes could affect your estate and your loved ones, we’re always here to provide the answers you need and the services you deserve. To learn more, call today at (317) 684-1100 or contact us at our website.
Mr. Kraft assists clients primarily in the areas of estate planning and administration, Medicaid planning, federal and state taxation, real estate and corporate law, bringing the added perspective of an accounting background to his work.