You may be surprised to hear that gifts to your children, or to just about anyone else for that matter, are potentially taxable. The reason why you do not hear from the Internal Revenue Service when you give your children birthday gifts is because there are credits or exclusions.
Annual Gift Tax Exclusion
We have an annual gift tax exclusion that allows you to give most gifts free of the gift tax. The amount of this exclusion in 2014 is $14,000.
As a taxpayer you can give as much as $14,000 to any number of people within a calendar year free of the gift tax. This is $14,000 per person, not $14,000 total.
Each taxpayer is entitled to this exclusion. As a result, a married couple could combine exclusions and give as much as $28,000 to any number of individuals tax-free within a year.
The utilization of the annual gift tax exclusion can be part of tax efficiency strategies for those who are subject to the federal estate tax. You divest yourself of assets throughout your life, giving tax-free gifts to people who would otherwise be inheriting these resources someday.
This can be done through direct acts of gift giving, but there are other options available to you. Many individuals will utilize family limited partnerships to protect assets and gain tax efficiency. You could give shares in the partnership to family members tax-free as long as they did not exceed $14,000 per gift, per year.
The annual gift tax exclusion can also be utilized to fund certain types of trusts in a tax-free manner on an incremental basis over a number of years.
Unified Lifetime Gift and Estate Tax Exclusion
There is a unified lifetime gift and estate tax exclusion in addition to the annual exclusion. The gift tax and the estate tax are unified. The amount of the unified exclusion is $5.34 million in 2014.
If you gave a gift to someone that exceeded $14,000 this year, you could still give the gift tax-free. However, you would be forced to use a portion of your unified lifetime exclusion. For example, if you gave a $100,000 tax-free gift, $14,000 could pass tax-free using the annual gift tax exclusion.
You could then use $86,000 of your unified lifetime gift and estate tax exclusion to give the rest of the gift in a tax-free manner.
In closing we would like to point out the fact that you do not have to use any type of exclusion to give tax-free gifts to your spouse. There is an unlimited marital deduction. You can give unlimited gifts to your spouse without incurring any gift tax exposure.
The same is true of the estate tax. Because the two taxes are unified, the unlimited marital deduction extends to the estate tax as well. You can bequeath unlimited resources to your spouse tax-free.