Federal Estate and Gift Tax Rules for 2013, Including Examples

January 4, 2013
300px Barack Obama walks through the West Wing Federal Estate and Gift Tax Rules for 2013, Including Examples

Photo credit: Wikipedia

By passing the American Taxpayer Relief Act of 2012 (“ATRA”), President Obama and Congress have agreed on a first step towards solving our fiscal cliff problem.  While neither Democrats or Republicans seem overly “happy” with the new law, their compromise has created a level of stability in federal transfer taxes unseen in well over a decade.

Recall that when an individual transfers assets to another individual or entity, the value of the amount transferred is potentially subject to three federal transfer taxes – the estate tax, the gift tax and the generation-skipping transfer tax.  While ATRA contains very little verbiage about these taxes directly, it instead makes its mark by finally making permanent the provisional tax cuts initiated back in 2001 that have often wavered ever since.

Let’s celebrate by examining the transfer tax rules for 2013 and beyond in some detail.

Estate Taxes

40% Maximum Rate and $5.25 Million Lifetime Exemption

The estate tax is charged on transfers made after an individual dies.

For deaths occurring after December 31, 2012, an estate tax with graduated rates maximizing at 40% is charged on any amount that exceeds the deceased individual’s available lifetime exemption.

ATRA makes permanent the $5 million lifetime exemption set forth in the 2010 Tax Relief Act.  The lifetime exemption is adjusted annually for inflation, including an increase to $5.12 million for 2012 and an increase to $5.25 million for 2013.

Portability Is Now Permanent

Portability allows a surviving spouse to use the decedent spouse’s unused lifetime exemption in his or her own estate.  It is now permanently available to couples dying after December 31, 2010.

Examples

1)  A dies with a $5 million estate in 2013, and did not use any of his lifetime exemption during his life.

  • A’s available lifetime exemption is $5.25 million, which exceeds the value of A’s estate.
    • Result:  A’s estate will owe no estate tax.

2)  B dies with a $6 million estate in 2013.  B generously gave gifts during his lifetime, resulting in the use of $1.25 million of his lifetime exemption.

  • B’s available lifetime exemption is $4 million ($5.25 million less $1.25 million used during B’s life).
  • Therefore, the value of B’s estate exceeds the available exemption by $2 million.
    • Result:  B’s estate will owe estate tax on the $2 million excess – $745,800.

3)  Mr. C died in 2012 with a $3.12 million estate.  His executor filed a timely estate tax return, where he elected to permit his surviving spouse Mrs. C to use his unused lifetime exemption.  Mrs. C dies in 2013 without remarrying.

  • Mr. C did not use $2 million of his lifetime exemption ($5.12 million lifetime exemption less $3.12 million estate).
    • Result:  Mrs. C will have a $7.25 million lifetime exemption (her $5.25 million lifetime exemption plus Mr. C’s portable $2 million unused exemption).

Gift Taxes

40% Maximum Rate and $5.25 Million Lifetime Exemption

The gift tax is charged on any transfer made during the donor’s life that exceeds the donor’s available lifetime exemption.

The gift tax is now permanently unified with the estate tax, so it uses the same rates and schedules as the estate tax, including the 40% maximum tax rate and lifetime exemption amounts.

Annual Exclusion Increases to $14,000

The annual gift tax exclusion is the amount a donor can give to any other individual each year without gift tax consequences.

Gifts exceeding the annual exclusion must be reported to the IRS, and this excess is deducted from the donor’s lifetime exemption.  If none remains, the donor will owe gift tax on the excess.

  • 2012 Annual Exclusion – $13,000.
  • 2013 Annual Exclusion – $14,000.

Examples

1)  D gives two $3.5 million cash gifts totaling $7 million to his two children in the same year.  D never previously gave gifts exceeding the annual exclusion.

  • If these gifts occurred in 2012:
    • Both of D’s $3.5 million gifts exceed the $13,000 annual exclusion by $3.487 million.  The total excess is $6.974 million.
    • D’s lifetime exemption makes $5.12 million of the excess exempt from gift tax.
    • The remaining $1.854 million of D’s gifts are taxable at a maximum rate of 35%
    • Result:  B would owe $629,700 in gift taxes.
  • If these gifts occur in 2013:
    • Both of D’s $3.5 million gifts exceed the $14,000 annual exclusion by $3.486 million.  The total excess is $6.972 million.
    • D’s lifetime exemption makes $5.25 million of the excess exempt from gift tax.
    • The remaining $1.722 million of D’s gifts are taxable at a maximum rate of 40%.
    • Result:  B would owe $634,600 in gift taxes.

2)  E gives $50,000 to his unmarried daughter to help her pay a down payment for a new home.  This is the first time he has given a gift in excess of the annual exclusion.

  • In 2012, E’s gift would have exceeded the annual exclusion by $37,000.
    • 2012 Result:  E’s available lifetime exclusion would be reduced by $37,000 if the gift was made in 2012.
  • In 2013, E’s gift would exceed the annual exclusion by $36,000.
    • 2013 Result:  E’s available lifetime exclusion would be reduced by $36,000 if the gift was made in 2013.

Generation-Skipping Transfer Tax

40% Maximum Rate and $5.25 Million Lifetime Exemption

The generation-skipping transfer tax is an extra tax charged on transfers made to the donor’s grandchildren or later descendants that exceed the lifetime exemption.

This tax is also unified with the estate tax and gift tax schedules, with a maximum rate of 40% along with a lifetime exemption of $5.25 million in 2013.  A discussion about how this tax is applied will be covered in a later post.

Loopholes Still Unclosed For Now

Final point.  President Obama has proposed closing various estate planning loopholes since early in his first term.  None of his proposals were included in ATRA, but may be in play during the next round of tax policy debates.

Interestingly, perhaps the largest estate planning loophole of them all looks as if it will remain available indefinitely.  As described here, when estate and gift taxes are unified, gifting assets during one’s lifetime instead of waiting until after death can save families significant taxes.  ATRA unifies estate and gift taxes permanently (or at least until a President and Congress decide to make a change).

 

 Federal Estate and Gift Tax Rules for 2013, Including Examples
 Federal Estate and Gift Tax Rules for 2013, Including Examples

Scott

Scott R. Zucker, Esq. is the owner of The Zucker Law Firm PLLC, located just outside the Capital Beltway in Annandale, within five miles of the City of Fairfax, the county seat of beautiful Fairfax County, Virginia. The firm focuses mainly on estate planning services for Virginia, Maryland and Pennsylvania clientele, and seeks to do so in an affordable and approachable way. People interested in learning more can contact Scott by phone or email.

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One Response to Federal Estate and Gift Tax Rules for 2013, Including Examples

  1. January 9, 2013 at 8:31 am

    It seems to me that estate taxes are double taxation. The monies taxed upon a citizen’s death have already been taxed whether as income, dividends, etc. How is it that we may be taxed twice on the same monies?

    Also, I find myself wondering whether E could have avoided the annual exclusion altogether by making the $50,000 downpayment directly instead of gifting it to his daughter.

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