By Attorney Jennifer Kahl September 19, 2019
(Updated July 8, 2021)
Many people are concerned about the potential of the “estate tax.” However, the vast majority of estates will not owe any estate tax.
The Unified Tax Credit
The Unified Tax Credit is the amount that each person can gift before he or she will owe any tax. This amount includes gifts that are made while the person is alive, and gifts that pass to others when the person dies. In this way, the “gift tax” and the “estate tax” are essentially the same thing, and so they share the same credit limit. The Unified Tax Credit is also referred to as the Lifetime Exemption.
Currently, the Unified Tax Credit for 2021 is $11.7 million per person. Married people each have their own $11.7 to give away tax-free, so done correctly, married couples can gift $23.4 million before owing any gift or estate tax.
For example, if Joe gifted $4 million during his lifetime, and there was $8 million in his estate when he died, his total lifetime gifting would be $12 million. That means his estate would owe estate taxes on the $300,000 that exceeds the Unified Tax Credit.
The Annual Exclusion
In order to keep track of everyone’s lifetime/estate gifting (and whether or not they’ve hit their $11.7 million exemption), the IRS requires people to disclose their gifting on their tax return. However, the IRS is not interested in tallying nominal gifting. Therefore, people do not have disclose any gifting that is less than the Annual Exclusion amount. Currently, the Annual Exclusion for 2021 is $15,000 per recipient per year.
For example, if Gary gives $12,000 to each of his three children in 2021, he will not report any gifting on his tax return. The $36,000 that was gifted will not be counted toward Gary’s lifetime exemption of $11.7 million. On the other hand, if Gary gives each child $16,000, he will have to report this on his tax return. The amount that will apply to his lifetime exemption tally sheet is $3,000 (because that is the amount gifted in excess of the annual exclusion).
Many people mistakenly believe that they must pay gift taxes on gifted amounts exceeding $15,000/person/year. However, just because you must report a gift does not mean you must pay taxes on it. The lifetime exemption is so high that the vast majority of people do not need to worry about it.
Other Taxes the Estate May Owe
However, an estate may still owe taxes, even if it does not owe “estate taxes.” For example, if the decedent died with an unpaid tax debt, the estate must pay that debt. Additionally, if the assets within an estate earn income after the decedent is dead (such as dividends, interest, or rent), the estate may need to file a tax return and pay income taxes. Still another example is if decedent owned tax-qualified retirement accounts, such as IRAs or 401(k)s. Since the decedent never paid income tax on those funds, the beneficiary will have to pay income tax on distributions that he or she withdraws from that account.
So, even though most estates do not have to “estate taxes,” many estates do end up with some sort of tax liability. Therefore, the personal representative of an estate should always consult a qualified tax professional to work out any potential tax issues.
Contact our experienced attorneys at The Heritage Law Group to discuss your gifting plans.