The adage that it’s better to give than to receive isn’t always applicable in the tax world. Put simply, a person giving a gift may incur a gift tax while the donee of the same gift generally doesn’t have any federal income tax consequences. Yet there are certain instances where a gift can exceed excludible amounts or result in a taxable transfer of property. When that happens, the end result is that the IRS also becomes a recipient of the gift-giver’s generosity.
The first issue is to establish whether the transfer of cash or property is truly a gift or if it’s income to the donee. The Supreme Court held in Commissioner v. Duberstein, 363 U.S. 278, 287-289 (5 AFTR 2d 1626), that whether a transfer is an excludible gift or taxable compensation is a question of fact to be determined by the trier of fact. Commissioner v. LoBue, 351 U.S. 243, 246 (49 AFTR 832), notes a gift in the statutory sense proceeds from a “detached and disinterested generosity,” while Robertson v. United States, 343 U.S. 711, 714 (41 AFTR 1053), describes payment given “out of affection, respect, admiration, charity or like impulses.”
The most critical consideration in this regard, as the Court agreed to in Bogardus v. Commissioner, 302 U.S. 34, 43 (19 AFTR 1195), is the transferor’s “intention.” As a result, it’s easy to conclude that a transfer between family members such as to children, nieces, or nephews is likely to qualify as a gift, whereas a transfer to an individual who isn’t a family member needs to pass the “intention” hurdle.
After determining that the transfer of cash or property qualifies as a gift, the next issue is to determine the extent to which the transfer is excludible and whether the “gift” must be reported. The most common rule is the annual gift exclusion amount for those gifts that are a present interest. Pursuant to IRC §2503, the annual gift tax exclusion is the first $10,000 (adjusted for inflation) of a gift made to any person by the donor. For calendar years 2013-2017, the annual exclusion amount is set at $14,000. In the case where a donor gives a gift of $14,000 or less to one donee (with no limit on the number of donees), neither the donor nor the donee needs to file a gift tax form with their federal income tax return.
MARRIED COUPLES
The annual exclusion can be doubly beneficial for a married couple since each spouse can give a gift of up to $14,000 to the same person without either spouse incurring a gift tax. But unlike for a single person, the need to file a gift tax return depends on the ownership of the property being gifted by the spouses. If each spouse exclusively owns the property to be gifted and the value of the property gifted by each spouse doesn’t exceed $14,000, then neither spouse is required to file a gift tax return. In the case where each spouse gives a gift from his or her own personal checking account, for example, then no gift tax return is required.
If spouses jointly own the property or cash to be gifted, then the need to file a gift tax return is generally required even though no gift tax is owed. Spouses can elect gift splitting in the case of jointly owned property. In such cases, the tax law treats all gifts during the calendar year as made one-half by each spouse. To qualify for the gift-splitting election, both spouses must be married to each other at the time of the gift, a spouse didn’t remarry during the rest of the calendar year after being divorced or widowed, the spouses aren’t nonresident aliens at the time of the gift, and a spouse doesn’t have a general power of appointment over the property interest transferred.
A gift tax return must be filed by each spouse when the couple elects gift splitting even if the total gift amount doesn’t exceed $28,000 (i.e., $14,000 for each spouse). It should be noted that taxpayers shouldn’t attach an individual gift tax return to their jointly filed federal income tax return. The danger here is that the IRS Form 1040 transcripts won’t have proof of filing. But the IRS does allow a married couple to file both of their gift tax returns together in the same envelope. That will save a little postage, especially if filing via United States Postal Service Certified Mail Return Receipt Requested as proof of filing.
There are two situations where only one spouse needs to file a gift tax return when the couple elects gift splitting. The first situation is when only one spouse makes gifts and the total value of gifts to each third-party donee doesn’t exceed $28,000. The second situation is when only one spouse makes gifts of more than $14,000 to some individuals but not more than $28,000 to any third-party donee and the other spouse makes gifts of not more than $14,000 to third-party donees other than those to whom the donor spouse made gifts. In both situations, the spouse not giving the gift consents to the gift splitting by signing the gifting spouse’s gift tax return.
In general, no gift tax return is required when gifts are given between spouses, per IRC §2523. An exception to this general rule is when a spouse gives a gift of a terminable interest that doesn’t meet the exception of being a qualified terminable interest property. A terminable interest is where the interest transferred to the spouse will terminate or fail due to the lapse of time, the occurrence of an event or contingency, or the failure of that occurrence. Another exception is when the receiving spouse isn’t a citizen of the United States. There’s an annual exclusion amount for gifts that aren’t taxable given to a noncitizen spouse of $149,000 for calendar year 2017. That exclusion amount is adjusted for inflation: It’s $148,000 in 2016, $147,000 in 2015, and $145,000 in 2014.
EDUCATION OR MEDICAL EXPENSES
IRC §2503(e) also provides the exclusion from the gift tax for qualified transfers for educational or medical expenses. A qualified transfer for education expenses includes any amount paid on behalf of an individual as tuition to an educational organization for the education or training of such individual. This doesn’t include contributions made to qualified tuition programs, per IRC §529(c)(2)(A)(ii), or for books, supplies, room and board, and other similar expenses. To qualify under this exception, the payment must be made directly to the qualifying educational organization.
A qualified transfer for medical expenses includes any payment made on behalf of an individual to any person or institution for providing medical care to that individual. As provided in the instructions for Form 709, “United States Gift Tax Return,” medical care includes expenses incurred for the diagnosis, cure, mitigation, treatment, or prevention of disease; for the purpose of affecting any structure or function of the body; or for transportation primarily for and essential to medical care. Medical care also includes amounts paid for medical insurance on behalf of any individual. The medical exclusion doesn’t apply to amounts paid for medical care that are reimbursed by the donee’s insurance.
Overall, there are many ways to give a gift to a person without the donor incurring a gift tax. But be aware that many of those situations where no gift tax results still require the donor to file a gift tax return. And when a gift does result in the tax being paid, the IRS becomes an accidental donee.
© 2017 A.P. Curatola
September 2017
