Simple gifts for friends

The gift tax only kicks in after lifetime gifts exceed $5.34 million in 2014

The first thing to know about the federal gift tax is that gift givers—not gift recipients—have to pay it. Thankfully, you won’t owe the tax until you’ve given away more than $5 million in cash or other assets during your lifetime. The lifetime exclusion will be raised to $5.43 million in 2015. If you’re married, your spouse is entitled to a separate $5.43 million in 2015. So actually owing the gift tax is not a concern for most folks. But you may still have to file gift tax returns even though you don’t owe any tax. So please keep reading.

The annual gift tax exclusion provides additional shelter

The annual federal gift tax exclusion allows you to give away up to $14, 000 in 2015 to as many people as you wish without those gifts counting against your $5 million lifetime exemption. (After 2015, the $14, 000 exclusion may be increased for inflation.)

Say you give two favored relatives $20, 000 each in 2015 and give another relative $10, 000. The $20, 000 gifts are called taxable gifts because they exceed the $14, 000 annual exclusion. But you won’t actually owe any gift tax unless you’ve exhausted your lifetime exemption amount. Assuming you haven’t, the two taxable gifts simply reduce your lifetime exemption by $12, 000 [($20, 000 - $14, 000) x 2 = $12, 000]. The $10, 000 gift is ignored, because it’s below the $14, 000 annual exclusion.

If you give three individuals $14, 000 each in 2015, these gifts are ignored because they don’t exceed the annual exclusion.

Gift taxes and estate taxes are connected

You have a $5.43 million federal estate tax exemption for 2015, thanks to the 2010 Tax Relief Act signed into law recently by President Obama. You can leave up to that amount to relatives or friends free of any federal estate tax. If you’re married, your spouse is entitled to a separate $5.43 million exemption. Beginning in 2011, the gift tax and the estate tax was reunified with an exclusion amount of $5.43 million for 2015.

Gifts made during your lifetime will reduce your taxable estate. However, gifts in excess of the annual exclusion also reduce your estate tax exemption. In the earlier example, the two $20, 000 taxable gifts made in 2015 would reduce your estate tax exemption by $12, 000 to $5, 418, 000 ($5, 430, 000- $12, 000), based on the recently enacted changes in estate law. The $10, 000 gift in 2015 and the three $14, 000 gifts in 2015 would not reduce your estate tax exemption.

Bottom line: Making annual gifts up to the exclusion ($14, 000 in 2015) is a good way to reduce your taxable estate without any negative side effects.

Special rule for 529 plan contributions

Contributions to a 529 college savings plan are gifts to the future student. However, a special rule allows you to make a lump-sum contribution and spread it over five years for gift tax purposes. For example, you can contribute $70, 000 in 2015 to jump-start a 529 college savings account for your child. If you’re married, your spouse can do the same. You can spread the gift over 2015-2019 without incurring any gift tax and without reducing your $5.43 million lifetime gift tax exemption or your $5.43 million estate tax exemption. Your spouse can spread his or her $70, 000 gift over five years as well. The only caveat: You can’t make any additional gifts to the same recipient during those years without using part of your $5.43 million exemption.

Some gifts are tax-exempt

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