Gift, Estate, and Generation-Skipping Transfer Tax Calculations
The purpose of this article is to give an overview of how the gift, estate, and generation-skipping transfer (GST) taxes are calculated and how exemptions and deductions are applied. The gift, estate, and generation-skipping transfer taxes are excise taxes on the gratuitous transfer of money or property, described in more detail in the following articles:
Although the transfer tax rate is 40%, deductions and tax credits can significantly reduce the tax liability.
Annual Gift Tax Exclusion
There is a gift tax annual exclusion, wherein no tax liability is incurred on the gift if its value is less than the exclusion amount, for each donee, regardless of who the donee is. Therefore, the annual exclusion also applies to the GST tax. In 1997, Congress set the size at $10,000, to be increased in $1000 increments according to inflation. No gift tax return needs to be filed if the gift is less than the annual exclusion.
|2018 - 2021||$15,000|
|2013 - 2017||$14,000|
|2009 - 2012||$13,000|
|2006 - 2008||$12,000|
|2002 - 2005||$11,000|
|1998 - 2001||$10,000|
If you or your spouse gives to a third party, the gift can be considered as made ½ by you and ½ by your spouse. This is known as gift splitting. Both of you must consent to split the gift. If you do, your annual exclusion can be applied to your part of the gift.
In 2020, gift splitting allows married couples to give up to $30,000 to each donee without making a taxable gift.
A gift tax return must be filed for any gift splitting to show that you and your spouse agree to use gift splitting. Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return must be filed even if the value of the gift is within the annual exclusions.
Note that if both you and your spouse give a gift that is less than the annual exclusion, then gift splitting is unnecessary, since you are both entitled to the annual exclusion. Gift splitting would only be necessary when the gift from 1 spouse is more than the annual exclusion to a beneficiary.
Gift Splitting Example
Harold and his wife, Helen, agree to split the gifts that they made in 2020. Harold gives his nephew, George, $25,000, and Helen gives her niece, Gina, $22,000. Although each gift is more than the annual exclusion of $15,000, by gift-splitting they can make these gifts without making a taxable gift. Harold's gift to George is treated as ½ ($12,500) from Harold and ½ ($12,500) from Helen. Helen's gift to Gina is also treated as ½ ($11,000) from Helen and ½ ($11,000) from Harold. In each case, because ½ of the split gift is not more than the annual exclusion, it is not a taxable gift. However, each of them must file a gift tax return.
Note, however, that if both spouses actually gave George and Gina $10,500 each, then a gift tax return would not have to be filed, since they are not splitting the gift but are simply using their own annual exclusion.
Unified Transfer Tax Credit
The law provides a unified tax credit that allows a certain value of property — the exemption amount (aka exemption equivalent) — to be passed free of estate or gift tax. Although most people think of the tax-free amount as being an exemption, the IRS actually calculates the exemption by granting a tax credit equivalent to the exemption. For instance, in 2003, the tax credit was $345,800 that allowed $1,000,000 of property to be transferred tax-free.
The credit is described as unified because it is a lifetime credit that applies to both gift and estate taxes. Each application of the credit during the taxpayer's lifetime reduces the credit for her estate.
|Year||Unified Credit||Applicable |
|Source: Instructions for Form 706 - i706.pdf|
Calculating the Gift Tax
For any year in which a gift is given that exceeds the annual exclusion or for which gift splitting was elected, Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return must be filed.
The gift tax is calculated by adding the value of all gifts given over a lifetime that is above the exclusion and subtracting deductions and exemptions:
- + Fair Market Value of all gifts for tax year.
- - Marital Deduction
- - Charitable Deductions
- - Annual Exclusion Available for each Donee
- - Unlimited Annual Exclusion for Payments to Providers of Educational or Medical Services for the Donee
- = Taxable Gifts for current year.
- + Taxable Gifts from Prior Years.
- Taxable gifts from prior years must be added because the gift tax is cumulative — the tax rate depends on the total value of gifts given over the donor's lifetime.
- = Total Gift Value
- Tentative Tax = Total Gift Value × Applicable Tax Rate
- - Gift Taxes Paid or Deemed Paid
- - Unified Tax Credit
- = Total Tax Due
Calculating the Estate Tax
The federal estate tax is a progressive, cumulative tax with a rate that depends on the size of the tentative taxable estate, which includes the taxable estate plus all gifts given between 1976 and 3 years before the decedent's death. In 2010, there was no estate tax and the top rate for the gift tax was the top marginal rate on income: 35%.
The gross estate includes property in the probate estate, nonprobate property, and any transfers where the decedent retained sufficient control or power over the property. Deductions include charitable gifts, debts, loans, and mortgages, funeral and other death related expenses, state death taxes, and the marital deduction. In broad outline, the estate tax is calculated thus:
- Determine the taxable estate, by taking the decedent's gross estate, which is the value of all property that the decedent owned or had a beneficial interest in, or retained control over at the time of death and certain transfers made within 3 years of the decedent's death, minus various deductions.
- Taxable Estate = Gross Estate – Deductions
- Add adjusted taxable gifts to the taxable estate to determine the applicable tax rate.IRC §2001(b)
- Tentative Taxable Estate = Taxable Estate + Adjusted Taxable Gifts
- The adjusted taxable gifts includes all gifts given after 1976, but does not include any gifts given within 3 years of death, because these gifts are included in the gross estate, and, therefore, are accounted for in the taxable estate.
- Tentative Taxable Estate = Taxable Estate + Adjusted Taxable Gifts
- Apply the tax rate, which is determined by the size of the decedent's tentative taxable estate, on the decedent's tentative estate.
- Tentative Tax = Tentative Taxable Estate × Applicable Tax Rate
- Determine estate tax liability by deducting any credits, including the unified tax credit, with the result being the estate tax due.
Estate Tax Due = Tentative Tax – Credits
From 2013 to 2017, the net effect of the estate tax rules is that a 40% tax rate is assessed on the amount that exceeds the exemption amount. So if the exemption amount is $5 million, and the estate is worth $15 million, then the estate exceeds the exemption amount by $10 million, resulting in a 40% × $10 million = $4 million tax. The estate tax rate for 2018 to 2025 is 35%.
The personal representative of the estate is liable for the tax. If the value of the gross estate is larger than the exemption allowed by law, then the personal representative of the estate must file Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return with the Internal Revenue Service no later than 9 months after the death of the decedent, even if no estate tax would be due. However, the personal representative can file Form 4768, Application for Extension of Time to File a Return and/or Pay U.S. Estate (and Generation-Skipping Transfer) Taxes to automatically extend the time to file by 6 months.
Generation-Skipping Transfer Tax
The GST tax may apply to lifetime gifts or direct skips occurring at your death to skip persons. The GST tax is calculated on the value of the gift or bequest, after subtraction of any allocated GST exemption, at the maximum estate tax rate for the year involved, which, for 2013 to 2017 is 40% and for 2018 to 2025, 35%. Each individual has a GST exemption equal to the applicable exclusion amount for the year involved.
A direct skip is a transfer made during life or at death that is:
- subject to the gift or estate tax,
- of an interest in property, and
- made to a skip person.
A skip person is generally a person who is assigned to a generation that is two or more generations below the generation assignment of the donor. For instance, your grandchild will generally be a skip person to you or your spouse. The GST tax is computed on the amount of the gift or bequest transferred to a skip person, after subtracting any GST exemption allocated to the gift or bequest, at the maximum gift and estate tax rate.
Note that the GST tax is additional to the gift or estate tax. If a GST tax must be paid on a gift, then Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return must be filed and the donor of the gift must pay both taxes.
Transfer Tax = Gift Tax + GST Tax
If a skip person receives money or property from your estate, then Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return must be filed by your executor. In contrast to a gift, the taxes are paid out of the estate, hence reducing its value and reducing the amount received by the beneficiaries.
Transfer Tax = Estate Tax + GST Tax
There is also a unified tax credit for the GST tax that is separate from the unified tax credit for gifts and estates. So using some of the unified tax credit for the GST tax will not lower the available credit for gifts and estates.
Gift, Estate, GST Tax Exemption Portability
In December, 2010, President Obama signed a new tax law allowing the personal representative of a deceased spouse to transfer any unused tax exemption for gifts, estate, or GST taxes from the deceased spouse to the surviving spouse by claiming the transfer in the deceased spouse's estate return, Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return, which must be filed even if there was no estate tax due to claim the transfer.