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How to Protect Your Clients From the Gift Tax

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Mar 16th 2016
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The federal gift tax breaks subject to inflation indexing barely budged this past year. But not to worry: For most clients, it’s still relatively easy to avoid any dire gift tax consequences, with plenty of room to spare.

The two main tax breaks your clients may benefit from are the annual gift tax exclusion and the unified estate and gift tax exemption.

1. Annual gift tax exclusion. Under the annual gift tax exclusion, you can give gifts of cash or property to someone up to a specified amount without paying any federal gift tax. The annual exclusion for gifts made in 2016 is $14,000 per recipient – the same as it was in 2015. This exclusion amount is raised only in increments of $1,000, so it takes a big boost in the inflation rate to move it year-to-year. (It was last raised from $13,000 in 2013.)

Nevertheless, the annual gift tax exclusion enables you to reduce your taxable estate in short order. For example, you can give up to $14,000 free of gift tax to several recipients this year, possibly including your children and grandchildren. What’s more, the annual $14,000 exclusion is doubled for “split gifts” made by a married couple. Thus, if you and your spouse have five grandchildren, you can give each one of them $28,000 in 2016, for a grand total of $140,000 ($28,000 x 5) in tax-free gifts.

By using the exclusion judiciously over time, a couple can easily transfer hundreds of thousands of dollars out of their taxable estates, all on a tax-free basis. In addition, gifts made on behalf of someone that are paid directly to a healthcare provider or educational institution are tax-free without affecting the annual gift tax exclusion amount.

2. Unified estate and gift tax exemption. Even if you exceed the annual gift tax exclusion, you probably won’t owe any gift tax. The excess may be covered by the exemption that now unifies the lifetime gift tax exemption and estate tax exemption. The unified exemption increased from $5.43 million in 2015 to $5.45 million in 2016, a veritable drop in the bucket. But only a thin slice of the upper crust has to worry about exceeding this limit anyway.

Assuming you use part of your unified estate and gift tax exemption for lifetime gifts in excess of the annual gift tax exclusion, the remaining estate tax exemption is reduced by a corresponding amount. For example, if a client gives lifetime gifts of $1 million above the annual exclusion in 2016, the available estate tax exemption is cut to $4.45 million. Again, this is a potential problem for only the wealthiest clients and may be addressed through other estate-planning techniques.

In summary: Despite little movement in these two tax breaks for 2016, most clients will still be protected from gift tax liability.

Related articles:

How to Make the Most of the Federal Annual Gift Tax Exclusion
Giving Gifts to Pay for College: Do it the Right Way

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