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IRS Raises Limit On Tax-Free Lifetime Gifts For 2015

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As many estate planners anticipated, the Internal Revenue Service has raised the limit on tax-free transfers during life or at death. Starting in 2015 that amount, known as the basic exclusion, will go up to $5.43 million per person, from $5.34 million this year. Today’s announcement, in Revenue Procedure 2014-61, indicates that there will be no change in the annual exclusion, which allows you to give $14,000 in cash or other assets each year to each of as many individuals as you want without dipping into the basic exclusion.

The lifetime gift tax exclusion (also called the lifetime exemption) and the estate tax exclusion are expressed as a total amount and it is possible to use this basic exclusion (sometimes called the “unified credit”) to transfer assets at either stage or a combination of the two. If you exceed the limit, you (or your heirs) will owe tax of up to 40%.

The IRS expects you to keep a running tally and report these gifts so it will know how much has already been used up when you die. For example, if you have used $1 million of the exclusion to make taxable lifetime gifts, the unused exclusion if you die in 2015 will be $4.43 million, rather than $5.43 million.

The question now, for people who had previously used up the basic exclusion, is whether they want to top them off with the additional $90,000 ($5.43 million minus $5.34 million) available for tax-free gifts next year. Before you do, consider what effect your gift has had on the recipients, whether it went to them directly or to a trust for their benefit. Did they use it for daily living expenses, to build a nest egg, or blow it on a shopping spree for luxury items? If you have second thoughts, don’t make additional gifts even though they might make good tax sense. (See “Why Family Wealth Is A Curse.”)

Another way to use this extra exclusion amount is to benefit a descendant who was born after your initial planning, and is therefore not a beneficiary of earlier gifts – made either with the annual exclusion or the lifetime tax-free amount. This might be a grandchild or even a child, if you didn’t think you would have any more children, and then you did.

Married couples get a special break: they can share the basic exclusion during life (this process is called gift-splitting) and give more to the kids now, tax-free. But of course this reduces how much of the tax-free amount will be available when they die.

But really, this is a decision that applies to a rarefied few. Most people never use the lifetime exclusion amount, especially now that widows and widowers can add any unused exclusion of the spouse who died most recently to their own. This enables them together to transfer up to $10.86 million tax-free. Tax geeks call this portability.

Still, portability is not automatic. The executor handling the estate of the spouse who died will need to transfer the unused exclusion to the survivor, who can then use it to make lifetime gifts or pass assets through his or her estate. The prerequisite is filing an estate tax return when the first spouse dies, even if no tax is owed. This return is normally due nine months after death with a six-month extension allowed. But you can get an extension of time until Dec. 31, 2014 if your spouse was a U.S. citizen or resident and died between Jan. 1, 2011 and Dec. 31, 2013. You can find other details about this limited-time extension here.

All these rules now apply to same-sex married couples. (See my post, “Same-Sex Married Couples Will Get Federal Tax Breaks, No Matter Where They Live.”)

A common source of misunderstandings is how the lifetime exemption amount relates to the annual exclusion. Here’s what you need to know: We can each give another person $14,000 per year without it counting against the lifetime exemption. Spouses can combine this annual exclusion to double the size of the gift. Don’t confuse it with the basic exclusion – that $5.43 million discussed above. For more information about tax-free gifts, see my post, "Gift Rap: A Glossary For Generosity."

If your spouse is a U.S. citizen, there’s an unlimited marital deduction for most gifts, even if they exceed the annual exclusion amount. A different rubric applies if your spouse is not a U.S. citizen. In that case, according to today's announcement, the yearly limit on tax-free gifts to him or her next year is $147,000, up from $145,000 for 2014. Additional gifts to a non-citizen spouse count against your $5.43 million basic exclusion.

Archive of Forbes Articles By Deborah Jacobs

Deborah L. Jacobs, a lawyer and journalist, is the author of Estate Planning Smarts: A Practical, User-Friendly, Action-Oriented Guide, now available in the third edition.