What Is Gift Tax Exemption?
The gift tax exemption refers to the amount of money or assets you can give without paying the federal gift tax as permitted by the government. Every year, the limit is adjusted.
The gift tax exemption for the year 2022 reaches over $12.06 million.
It indicates that up to $12.06 million is what you can give as a gift without paying the gift tax on it.
However, for married couples, both spouses can give away a total of $24.12 million for gifts without paying the gift tax since each of them could get an $12.06 million exemption.
The gift tax exemption increased to $12.92 million for the year 2023. For married couples, the limit became $25.84 million.
However, the exception might fall to $6 million by 2026 due to the changes in federal law.
How Does Gift Tax Exemption Work?
The gift tax exemption allows you to give a certain amount of assets or money during your lifetime without paying the gift tax.
The government sets an exemption limit each year, and if you stay under that limit, you don't need to pay the gift tax.
For instance, the lifetime gift tax exemption for 2023 is $12.92 million.
It means you can give away a total of $12.92 million during your lifetime, and you will not have to pay the gift tax.
If you give away more than $12.92 million during your lifetime, you will have to pay a gift tax of the amount over $12.92 million.
What Gifts Are Always Exempt From Taxes?
Several gifts are excluded from taxes. The following are:
- A gift to your spouse provided that they are U.S. citizens.
- A gift to charities that the IRS approves.
- A gift for someone's medical expenses is paid directly to the medical facility.
- A gift for someone's educational tuition that is paid directly to the educational institution.
- A gift to a political organization.
Three Ways to Make Tax-Free Gifts
There are many ways to make gifts that are not subject to gift tax. The three most common methods are:
Annual Gift Tax Exclusion
The annual gift tax exclusion favors giving a certain amount of money each year to another person without paying the gift tax.
For 2022, the annual gift tax exclusion limit is $16,000 per person. In 2023, the limit is $17,000.
It indicates that you can give up to $16,000 or $17,000 (depending on the year) to as many people as you want without paying the gift tax.
Education and Medical Gifts
You can also give money to another person for their education or medical expenses without paying the gift tax on it.
The money must be paid straightaway to the educational institution or medical facility for it to be excluded from the gift tax.
There is no limit to the amount in this kind of tax-free giving.
Lifetime Estate and Gift Tax Exemption
The lifetime estate and gift tax exemption is a provision that allows you to give a certain amount of money during your lifetime without having to pay the gift tax on it.
The lifetime estate and gift tax exemption limit is $12.92 million for 2023.
It implies that you can give up to $12.92 million during your lifetime without paying the gift tax.
How to Calculate the Gift Tax
Gift tax rates are marginal, which at the current state ranges from 18% to 40%.
The larger your gift, the more you pay in taxes when it exceeds the exemption limit.
If you give a gift valued at more than the annual gift tax exclusion limit, you will have to pay the gift tax on the amount over the limit.
For instance, if you give a gift valued at $20,000 in 2023, you will have to pay a gift tax on the $3,000, which is the amount over the annual gift tax exclusion limit of $17,000.
Gift Tax Strategies
You can use many strategies to minimize or avoid gift tax.
Gift Splitting
Gift splitting means that married couples can split the gift between them so they can use the annual gift tax exclusion.
It is a good strategy if you are married and want to give someone an enormous gift.
For instance, if you are married and want to give your child a $34,000 gift in 2023, you can split the gift between you and your spouse so that each of you provides $17,000.
This way, you can both take advantage of the annual gift tax exclusion and not need to pay the gift tax.
Gift in Trust
Another strategy that you can use is to give the money in trust.
It means you can give the money to a trust, and the trustee can then use it to benefit the person you are giving it to.
This type of trust is known as the Crummey trust.
Final Thoughts
The gift tax exemption is a valuable tool that you can use to reduce your taxable estate.
You can give gifts during your lifetime and use them to provide for your family after you die.
It is essential to understand the rules of the gift tax exemption so that you can make use of it and use it to your best benefit.
FAQs
1. What is the gift tax exemption?
The gift tax exemption is a provision in the tax code that allows you to give certain gifts without paying the gift tax on them. Several types of gifts are exempt from taxes, including gifts to your spouse, charitable donations, and gifts for medical or educational expenses.
2. What is the purpose of gift tax exemption?
The gift tax exemption is designed to encourage giving by allowing you to give gifts without paying taxes. It is also a way to reduce your taxable estate.
3. What are some strategies for taking advantage of the gift tax exemption?
Some strategies for taking advantage of the gift tax exemption include annual gift splitting and giving gifts in trust.
4. How do I calculate the gift tax?
To calculate the gift tax, you will need to know the value of the gift and the applicable gift tax rate. The asset's fair market value is the value of the gift at the time it is given. The applicable gift tax rate ranges from 18% to 40% for the year 2023.
5. What happens if I give a gift that exceeds the exemption limit?
If you give a gift beyond the exemption limit, you will have to pay the gift tax on the amount over the limit.
