Estate Tax Vs. Gift Tax
Property and funds transferred from one individual to another might be subject to taxation. Parents who give money to an adult child might owe a gift tax, while property inherited after someone dies might be subject to an estate tax. Because these taxes deal with property transfers rather than income, the Internal Revenue Service (IRS) requires that they be filed on separate forms -- Form 709 for the gift tax and Form 706 for the estate tax.
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Gift Tax
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The IRS defines a gift as transferring property for less than its value. For example, if you sell something to someone at a discounted price, the IRS considers the difference between the amount you received and the value of the property you sold a gift. Giving cash, using income from a property without receiving something of equal value and making interest-free or reduced-interest loans can all be considered gifts if their value is great enough.
Tax-Free Gifts
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If the total of all gifts that you give to someone totals less than the annual exclusion amount -- $13,000 for each donee, as of 2009 -- you will not owe a gift tax. If both spouses make a gift to the same donee, the exclusion amount is $13,000 for each spouse. For example, this means parents could give each of their children $26,000 a year ($13,000 from each parent), without owing gift taxes. Other gifts that aren't taxed are gifts to your spouse, gifts to qualifying charities, gifts to political organizations and tuition or medical expenses that you pay for someone else, according to the IRS.
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Estate Tax
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If property or money is inherited, an estate tax might be due. The total of everything that the deceased owned is considered his estate. From the total or gross estate, deductions are made to arrive at the taxable estate. This is the amount to which the IRS will assess an estate tax before the property is transferred. As of 2010, there are credits that allow estates valued below $1 million to be considered tax-free. Because of this, the IRS says that the estate tax affects only the wealthiest 2 percent of Americans.
Estate Deductions
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The gross estate generally includes everything a person owned at the time of her death. Lifetime gifts and lifetime estates in which the gift or property ownership ends at death are excluded from estate computations because the deceased person no longer receives the gift or owns the property. One example would be a life annuity that pays only until the person who owns it dies.
Deductions that may reduce the estate tax include property left to a spouse or charity, mortgages, debt and estate administration fees or losses during the estate administration.
Fair Market Value
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Both gifts and property in an estate must be assessed at "fair market value." This is the value of the property if the seller were to sell it without needing to and if the buyer had knowledge of relevant facts about the property. In other words, it would be the price at which "such item is most commonly sold to the public," according to the IRS. It is this value that is used in determining gift and estate taxes.
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