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Unified Taxes

Unified taxes are a very important concept to understand when structuring your estate plan. The concept of unified taxes is really pretty easy, but most people don’t know how it works. Federal estate taxes and federal gift taxes are definitely two different taxes, but they are “unified.” Gift taxes are assessed on assets that are transferred during an individual’s (donor’s) life. Estate taxes are assessed upon the assets that are transferred after an individual dies. The IRS counts the total assets given during life and after death together in order to determine the total value of your estate and what tax may be due on it.

In the old days, gift taxes were assessed on each gift and the donor had to pay the tax. Then the laws created a “de minimus” gift exclusion (called the “annual exclusion”), which says that a small gift made in a specific year won’t be considered a gift for gift tax purposes. The annual exclusion started out low and has gone up over the years until now it is about $14,000.

You can give each of any number of persons assets up to $14,000 each year, and you don’t even have to report those gifts to the IRS. Be careful, though, or you could get in trouble. If you make out a check for $14,000 and the IRS then asks the question, “Did you give the person a Christmas gift?”, that Christmas gift would put you over the annual exclusion amount. It would count toward your unified taxes AND the receiver would have to pay taxes on their gains as well. So be careful in your gifting.

Amounts over the annual exclusion amount are subject to the gift tax. You need to report those gifts to the IRS. People don’t do the reporting they are supposed to do, and they don’t report the gifts to the IRS. Yes, that’s a problem, but it usually isn’t done intentionally. According to the IRS, gifts are made in ways that you never thought of. For example, when you put your son’s name on the brokerage account so that he could control the account while you were out of the country, you made a gift to your son. If it is just you and the son on the account, you gave him half the account.

Though a tax is calculated and payable on any gift over the annual exclusion amount, money is seldom actually paid by the donor to the IRS. The IRS gives everyone a unified gift and estate tax credit. It is called a unified credit because the credit can be used to pay gift taxes incurred during a person’s life, or the credit can be applied to pay estate taxes on assets transferred at the person’s death. If part of the credit is used to pay gift taxes incurred during a person’s life, then that much less credit will be available to pay estate taxes when the person dies.

A credit can be viewed as funny money that can be used to pay gift taxes and/or estate taxes. It is very different than a tax deduction. When considering gift and estate taxes, the taxes are actually calculated and become payable. However, this tax is automatically paid using the funny money that is “given” in the unified credit. The fact that the estate tax is actually calculated and payable means that technically the property is taxed at the time the person dies. This is important for a number of reasons. For example, the property will get a “step-up” in basis to the value of the asset on the date of death (when it is taxed). That saves the family income taxes when they sell the property after Dad dies. (This step-up in basis is the subject of another article.)

At a person’s death, the federal government taxes all assets that pass from the deceased person’s estate to his or her heirs. The tax is calculated and payable on all property passing at death, but the credit can be used to offset that tax. You (or your estate) won’t have to pay anything until you have used up your credit that counts toward gift and/or estate taxes.

The IRS gives you enough credit to pay the gift and estate tax on property valued up to $5.45 million as of 2016. The amount of funny money (tax credit aka unified credit) you get goes up each year based upon an increase tied to the cost of living.

Married persons each get their own $5.45 million. Whatever portion of the credit is unused after the first spouse dies can be transferred to the other spouse.  If the applicable portability laws are carefully followed, the couple will receive a total credit that would cover the transfer, either by gift or estate, of assets up to $10.9 million. Note that if positive actions are not taken, anything left over from the first spouse’s tax credit will be lost. The remaining spouse will only be able to take advantage of their own $5.45 million.

Most people and married couples have an estate that totals less than $5.45 million, so the taxes aren’t usually an issue. However, it is good to understand the unified gift and estate tax – the unified taxes – and take advantage of the full unified credit that you are entitled to.

2 Comments
  1. I used your material to craft my will, power of attorney, medial power of attorney, living will, and put my property, car and bank accounts into a trust. I took everything to a lawyer, who was quite amused that I could do it. He only had a few changes which involved language used in Texas (and probably not anywhere else).

    My questions: I gave, as a gift, a cruise to my son & family (4) and daughter (1) this past year. From your article, it sounds like I need to declare it on my income tax. Is this true? Can this be used as a deduction on my income tax?

    My insurance policies also have named beneficiaries.

    Since my estate is not over $1M, I am assuming that the estate and income taxes will not apply? Is this correct?

  2. Dolores,
    With a gift, you are allowed to give $14,000 a year per person. If you gave your kids a really nice cruise worth over $14,000 each then you would need to file a gift tax return form. If the cruise was under $14,000 each then you don’t have to do a thing. You are not going to be able to deduct it since it is a personal expense.

    Since your estate is under $1 million you don’t have to worry about estate taxes since they only apply if your estate is over $5.45 million.

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