One important estate planning objective shared by most taxpayers is to maximize the amounts that may be transferred to their heirs with as little estate1 and gift2 taxes possible. Yet as clear as this objective may be, many clients with sizeable estates allow a rather valuable tax benefit to be lost year after year by not establishing a formal gifting program designed to use the "annual gift tax exclusion."
Under federal gift tax laws, each individual is permitted to gift up to $14,000 in cash or other property each calendar year per donee as the taxpayer may desire without any gift tax. This exclusion amount is indexed for inflation. This exclusion from gift tax is commonly referred to as the gift tax annual exclusion, or more simply, as the annual exclusion. The annual exclusion is an administratively easy tax benefit to use. For example, as long as the taxpayer has not made any gifts during the calendar year to any individual(s) that total more than the annual exclusion, the taxpayer does not even have to file a gift tax return with the Internal Revenue Service.
As easy as it may be to take advantage of the annual exclusion, many individuals with sizeable estates fail to establish formal gifting programs to use this exclusion. And, unlike the lifetime gift tax exemption amount ($5,430,000 for 2015), which may be used at any time during an individual's lifetime or at death, any annual exclusion that is not used during the calendar year is lost. One reason many taxpayers may not fully utilize their annual exclusions may be because of the mistaken belief that the use of the annual exclusion would have a minimal impact on their overall estate tax liability. But for taxpayers with estates at the 40% highest marginal estate tax bracket, each $14,000 annual exclusion that is not used represents a significant lost gift and estate tax savings. When you consider the additional taxes that would have been imposed on the taxpayer on the future appreciation of those assets if they had not been gifted, the potential tax savings becomes even greater. If one were to multiply that amount by the number of children, grandchildren and other heirs to whom a taxpayer may want to make gifts and then further multiply that by the number of remaining years in the taxpayer's life, the lost tax savings can be rather sizeable.
Although there are certain conditions a gift must satisfy to qualify for the annual exclusion, an outright gift of property to an individual with no strings attached would be the easiest gift to qualify for the annual exclusion. If the intended beneficiary of a gift is a minor, then qualifying gifts may be made to a custodial account established for the benefit of the minor under the Uniform Gifts to Minors Act or the Uniform Transfers to Minors Act. If the gift will be made to a trust, then qualifying the gift for the gift tax annual exclusion becomes more complicated. In all cases, anyone desiring to set up an annual exclusion gifting program should first consult their legal and tax advisors to ensure the gifts qualify for the annual exclusion.