The Veridian Blog

Mrs. Lin wants to deed one of her rental properties to her son and her daughter-in-law and then refinance the loan, in their names, to a lower rate.   What are the implications in terms of gift and estate taxes for both Mrs. Lin and her son?  

Gift Tax consequence:

The main rule with gifts is that there is no deduction for the donor and no income reported for the recipient if the transaction amount falls within the IRS’s annual exemption of $13,000 per donor, per recipient.  If any gift is made in excess of $13,000 per year, then it must be reported.  Gift taxes do not, however, need to be paid unless it is a very large amount.  IRS rules allow every person to give $1,000,000 during your lifetime (outside of the $13,000 annual exemption) without ever paying gift tax!  In Mrs. Lin’s case, she is obviously gifting in excess of $13,000 so the remaining value of the house will reduce her $1 million lifetime gift exemption by the market value of the house, less $13,000.  It’s important to note that this amount will also reduce the donor’s estate tax exemption (see below).

Estate Tax consequence:

In addition to the gift tax, the IRS also taxes the gross value of a decedent’s estate (yes, you are taxed even after you die).  Even though there is a $5,000,000 estate tax exemption from now through 2012, some grand estates, especially in the SF Bay Area have exceeded that threshold.  One easy way to reduce the amount of your estate is to gift property during the owner’s lifetime.  But remember that in Mrs. Lin’s case, she has by far exceeded the $13,000 annual exemption – an any excess gift amount reduces the estate tax exemption in the year of her death.  If her house is worth $1.0 million, then she has already used half of her estate tax exemption (if she were to pass away in 2007).  So her strategy of reducing her exposure to estate tax by gifting away her rental property is probably ineffective. 

There are other exceptions to the general gifting rules – such as gifts for education, medical expenses and gifts to spouses.  These types of transactions are complicated legal ones and may involve sophisticated estate planning.  Don’t try it at home without the advice of a reputable estate planning attorney (not me)!