12-1 ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-2 THE GIFT TAX (1 of 2)  Concept of transfer taxes  Unified transfer tax system  Gift tax formula  Transfers subject to gift tax  Exclusions  Gift tax deductions  The gift-splitting election ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-3 THE GIFT TAX (2 of 2)  Computation of the gift tax liability  Basis considerations for a lifetime giving plan  Below-market loans  Tax planning considerations  Compliance and procedural considerations ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-4 Concept of Transfer Taxes (1 of 2)  Excise tax on wealth transfer when adequate consideration not received  Purposes  Raise revenue for federal government  Prevent evasion of estate tax  Recover revenues lost by shifting assets to taxpayer in lower income tax bracket  Redistributing wealth ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-5 Concept of Transfer Taxes (2 of 2)  At press time the  Estate Tax remains repealed for 2010  Carryover basis rules apply  Unified credit for gift tax is $330,800  Top gift tax rate is 35%  After 2010 estate tax and gift tax rules will revert to pre-2001 levels ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-6 Unified Transfer Tax System  Unified rate schedule  Components of transfer tax system  Tax on wealth transfers ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-7 Unified Rate Schedule  Top marginal rate in 2010  35% on amounts >$500K  Unified credit reduces tax $ for $  See unified transfer tax rates on inside back cover of book ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-8 Components of Transfer Tax System  Gift tax: Inter vivos transfers  Transfers while alive  Estate tax: Testamentary transfers  Property ownership transfers at death  Generation-skipping transfer tax  Property transferred to a second or younger generation ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-9 Tax on Wealth Transfers  Gifts & inheritances NOT income to recipient  Person making gift has PRIMARY obligation to pay any tax due  Tax applies to act of transferring property  Tax applied against FMV of gift ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-10 Gift Tax Formula (1 of 3) All individual’s gifts for current period - ½ of 3 rd party gifts w/gift-split election + ½ of spouse’s gifts w/gift-split election -Annual exclusion ($13K per donee) - Marital deduction (unlimited) -Charitable contrib deduction (unlimited) = Taxable gifts for current period ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-11 Gift Tax Formula (2 of 3) Taxable gifts for current period + All prior taxable gifts = Cumulative taxable gifts (CTG) Compute tax on CTG w/current rates - Tax on prior gifts w/current rates = Tax on current gifts - Net Unified credit = Tax payable for current period ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-12 Gift Tax Formula (3 of 3)  All taxable gifts made after 1976 accumulated for each donor  Cumulative total determines tax rate applied to current gift  Prior gift taxes paid and/or unified credit may negate or reduce amount of current tax due ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-13 Transfers Subject to Gift Tax  Transfers for inadequate consideration  Statutory exemptions from the gift tax  Cessation of donor’s dominion and control  Valuation of gifts  Gift tax consequences of certain transfers ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-14 Transfers for Inadequate Consideration  Transfer of cash, stock, securities or real estate  Forgiveness of debt  Assignment of a life insurance policy  Transfer of federal, state, or municipal bonds  Transfer of other assets ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-15 Statutory Exemptions from the Gift Tax  Transfers in normal course of business  Qualified transfers for direct payment of educational tuition or medical care  Transfers to political organizations  Property settlements in divorce  Transfers disclaimed by recipient  Incomplete transfers ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-16 Cessation of Donor’s Dominion and Control  Gift does not occur until transfer is complete  Transfer complete when donor has given up “dominion & control”  Leaves donor no power to change gift’s disposition, whether for own benefit or for benefit of another ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-17 Valuation of Gifts  Gift valued at FMV upon transfer  Gift may be for a partial interest or only certain rights  E.g., life estates, remainder interests  FMV of partial interests determined by using actuarial tables and present value calculations ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-18 Gift Tax Consequences of Certain Transfers (1 of 2)  Creation of joint bank accounts  Incomplete transfer until “donee” withdraws funds  Creation of other joint tenancies  All joint tenants own an equal share  Donee’s ownership portion is a completed gift ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-19 Gift Tax Consequences of Certain Transfers (2 of 2)  Transfer of life insurance policies  Ability for donor to change beneficiary results in an incomplete gift  Irrevocable transfer of policy ownership rights is a completed gift  Premiums payments are a completed gift if policy owned by another ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-20 Exclusions (1 of 2)  All gifts valued at FMV  Exclude transfers up to $13,000 per person per donee each year  Indexed for inflation  Husband and wife may each give $13,000 per child w/o tax consequence  Gift must constitute present interest  Future interest gifts not eligible for exclusion ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-21 Exclusions (2 of 2)  Special rule for trusts for minors  Annual exclusion available for gifts to §2053(c) trusts for minors if  Until beneficiary is 21, trustee may pay income and/or underlying assets to beneficiary AND  Remaining income and underlying assets will pass to beneficiary when beneficiary reaches 21.  Gifts to Crummy trusts also eligible for annual exclusion  More flexible than §2053(c) trusts ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-22 Gift Tax Deductions Marital Deduction (1 of 4)  Unlimited tax-free transfers between husband and wife  Nondeductible terminal interests ineligible for martial deduction  Terminal interest is an interest that ends when some event occurs (or fails to occur) or a specified time passes ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-23 Gift Tax Deductions Marital Deduction (2 of 4)  Terminal interests (continued)  Nondeductible if interest (or power of appointment) reverts back to donor or passes to a third party upon termination of interest  Transfers of qualified terminal interest property (QTIP) eligible for marital deduction ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-24 Gift Tax Deductions Marital Deduction (3 of 4)  QTIP is property  Property transferred by donor-spouse in which donee has qualifying income interest for life AND  A special election has been made ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-25 Gift Tax Deductions Marital Deduction (4 of 4)  Qualifying income interest for life  Spouse entitled to ALL income from property annually or more often AND  No person has power to appoint any part of property to any person other than donee-spouse unless power cannot be exercised while spouse is alive ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-26 Gift Tax Deductions Charitable Contributions (1 of 2)  Contributions in excess of $13,000 NOT reported on gift tax return if income tax deduction available and entire interest is gifted ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-27 Gift Tax Deductions Charitable Contributions (2 of 2)  If charity is a qualified organization, amount of gift above $13,000 allowed as a deduction  No gift tax due since taxable amount zero ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-28 The Gift-splitting Election  Spouses may elect to treat gifts to third parties as coming ½ from each spouse regardless of who actually made the gift  Allows the couple to give up to $26,000 per donee per year w/o gift tax consequences ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-29 Computation of the Gift Tax Liability (1 of 2)  Large gifts  Tax rates progressive  From 18%  To 35% on tax base over $500K ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-30 Computation of the Gift Tax Liability (2 of 2)  Unified credit  $330,800 against gift tax  Shelters $1M of taxable gifts from taxation  There is no estate tax in 2010  The unified credit for estate tax before and after 2010 is different than the gift tax amount ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-31 Basis Considerations for a Lifetime Giving Plan (1 of 2)  Property received by gift  Carryover basis rules apply  Donee’s basis may be increased by some of the related gift taxes paid  Property received at death  Basis equal to FMV on either date of death or alternate valuation date ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-32 Basis Considerations for a Lifetime Giving Plan (2 of 2)  Property received at death (cont’d)  If Congress does not reinstate the estate tax for 2010, the decedent’s property will be valued using a modified step-up in basis  Most property will have a carryover basis  Only a limited amount of property will receive a step-up in basis ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-33 Below-Market Loans: Gift and Income Tax Consequences  General rules  Foregone interest is taxable income to the lender and a taxable gift to the borrower  De minimus rules  Rules do not apply to loans ≤ $10,000  For loans ≤ $100,000, income to lender limited to net investment income of borrower ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-34 Tax Planning Considerations Tax Saving Features of Inter Vivos Gifts (1 of 2)  Use of annual exclusion  Removal of post-gift appreciation from tax base  Removal of gift tax amount from transfer tax base  Income shifting ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-35 Tax Planning Considerations Tax Saving Features of Inter Vivos Gifts (2 of 2)  Gift in contemplation of donee- spouse’s death  Transfer assets from healthier spouse to dying spouse if dying spouse’s assets are less than amount shielded by unified credit  Lessening state transfer tax costs  Income tax savings from charitable gifts ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-36 Tax Planning Considerations Negative Aspects of Gifts  Loss of step-up in basis  Important if property subject to depr recapture or not taxed at LTCG rate  Prepayment of estate tax  No estate tax for 2010  Gifts given in 2010 by taxpayer who dies in 2010 would pay gift tax, but would have paid $0 estate tax on same transfer ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12-37 Compliance and Procedural Considerations  Filing requirements  Form 709  Due date  April 15, extendable to October 15  Gift-splitting election  Each spouse consents on other’s 709  Donor liable for gift tax  Undervaluation penalty 20% or 40% ©2011 Pearson Education, Inc. Publishing as Prentice Hall

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