Unit 18 - Estate & Gift Taxes For Individuals

Question 1

What is an estate?

Answer 1

A separate legal entity created when a taxpayer dies

Question 2

What is estate tax?

What is it not??

Answer 2

A tax on the transfer of assets or property from an individuals estate to a decedents beneficiaries after death

Sometimes referred to as a death tax or an inheritance tax

And a state tax is not an income tax

Question 3

Estate tax exemption

Answer 3

Up to $12,920,000 per decedent is free of estate tax.

Anything additional above that is taxable at a progressive rate

Starts at 18% and rises to 40%

Amount transferred tax-free to a spouse do not count towards the exclusion amount

Question 4

2023 annual gift tax exclusion

Answer 4

$17,000

Question 5

What is the difference between an estate tax and a gift tax?

Answer 5

Estate tax applies to transfers of the decedents property after death

The gift tax applies to transfers made while a person is alive

Question 6

Personal representatives, executors, and administrators

What’s the difference?

Answer 6

A personal representative is a living person appointed by the courts to administer and estate after taxpayer has died

Executors are appointed when the decedent has a will

Administrators are appointed when the decedent dies without a will

Question 7

Before estate assets are distributed to beneficiaries… need to determine

Answer 7

Any estate tax liability that needs to be paid

If the assets are distributed to beneficiaries before taxes are paid, the beneficiaries or the executor may be held liable for the tax debt

Question 8

After a taxpayer dies, what tax returns need to be filed by the personal representative of the estate

Answer 8

Form 1040 – final income tax return for the decedent for income received before death

Form 1041 – US income tax return for estates and trust

Form 706 – United States estate and generation-skipping transfer tax return

Question 9

How are the tax returns signed

Answer 9

The personal representative or executor must sign each required return

Signed as – personal representative

Question 10

IRS form 56

Answer 10

Notice concerning fiduciary relationship

First and executor would request an EI for the estate

Then complete form 56 to establish authority as the executor over an estate

Will ensure the executor will receive any important notices from the IRS

Question 11

IRS form 56 – joint return

Answer 11

The final income tax return is a joint return – surviving spouse, signs as surviving spouse

There is no need to file form 56 for the final 1040 return

Question 12

Fees paid to an executor, personal representative, or trustee

Answer 12

Need to be included as gross income on their tax returns

If not in the business of being an executor (relative) The fees are reported on their individual form 1040 as other income on schedule one.

Question 13

A personal representative or executors liability to an estate

Answer 13

They cannot be held liable if an insolvent estate does not have enough assets to cover the income taxes due or debts

But they must be sure that income taxes are paid before any assets are distributed to beneficiaries or they could be liable

Question 14

Final income tax return

What form?

When is it due and what is the filing requirement?

Answer 14

Filed on the same form that would’ve been used if still alive – form 1040

Deadline is April 15 of the year following the taxpayers death

Personal representative must file the final income tax return, and any returns not filed for proceeding years

Question 15

Decedents final tax return – rules for deductions

Answer 15

The decedents year of death is not treated as a short year (able to receive full standard deduction and EITC)

Can claim the same deductions that would apply for any individual taxpayer

Question 16

IRD

Answer 16

Income in respect of a decedent

Taxable income that was earned, but not received by the time of death

IRD is not taxed on the final return of the deceased taxpayer

IRD is reported on the tax return of the person (or entity) that receives the income.

Question 17

IRD paid directly to a beneficiary

Answer 17

Reported on the beneficiaries income tax return form 1040

Question 18

IRD received by the estate itself

Answer 18

Reported on the estates form 1041

Question 19

IRD tax nature

Answer 19

Retains the same tax nature that would have been applied if the disease taxpayer were still alive

Example – short term gain

There is no step up in basis for IRD items

Question 20

Self-employment – partnership income

Answer 20

Will include the distributive share of a partnerships, income or loss through the end of the month in which death occurred

Question 21

Wages paid to a deceased employees estate, or executor in the year of death

Answer 21

Not subject to income tax withholding

But employment, taxes, such as FICA, must be withheld

Question 22

Wages paid to a deceased employees estate, or executor after the year of death

Answer 22

Generally, not subject to withholding for any federal taxes, including FICA

Question 23

Forms of IRD

Answer 23

Unpaid salaries, wages, or bonuses

Deferred compensation benefits

Dividends declared before death paid after death

Accrued but unpaid interest, dividends and rent

Retirement plan distributions not yet received before death

On sale of property sold not collected until after death

Self-employment accounts receivable

Question 24

When is IRD included in the decedents estate and subject to estate tax?

Answer 24

May happen with a very wealthy person

If the estate was large enough to be subject to the estate tax – result in double taxation

• at the estate level
• when beneficiary receives income

If this happens, the beneficiary can use the IRD deduction on schedule a if itemizing - in same year, they received the income

IRD deduction is not permitted if the estate isn’t subject to estate tax

Question 25

Form 706

What is it?
Due date?
Calculation?

Answer 25

The estate tax return

Do nine months after the death of the decedent – a six month extension is allowed

Only needs to be filed if the estate exceeds $12.92 million . - after deductions for debt/expenses

Which includes any value of lifetime taxable gifts

Estate tax = 18% to 40%

Minus any gift taxes paid

Question 26

Assessment period for estate tax

Answer 26

Three years after the due date for a timely filed estate tax return

Four years for transfers from an estate

Question 27

DSUE

Answer 27

Deceased spousal unused exclusion

A surviving spouse can add any unused exclusion of a deceased spouse to their own estate exclusion

A portability election must be made to claim the DSUE - Portability is not automatic.

Form 706 must be filed in order to make the DSUE election, even if no estate taxes owed

The surviving spouse must be a US citizen – not available to non-resident alien spouses

Question 28

Nonresident aliens – estate tax

What is the threshold?
What is the estate tax return?

Answer 28

$60,000

Only subject to two estate tax for assets located within the US

Form 706 – NA is used for nonresident aliens

Question 29

Form 1041

Answer 29

The annual income tax return for Estates and trust

Investment assets will usually continue to earn income after a taxpayer has died, this income, such as rents, dividends, and interest, must be reported

Most estates are administered and distributed within 12 to 18 months

But some can drag on for years for probate litigation, dispute about a will or between the heirs, etc.

This return needs to be filed each year until the estates assets are distributed, and the estate is dissolved

Question 30

When can a taxable estate be closed?

Answer 30

When the estate obtains an IRS transcript showing the acceptance of the estate tax return

Or it receives a final closing letter from the internal revenue service

Question 31

The following items are reported on form 1041

Answer 31

Current income and deductions, including gains and losses from the disposition of the entities property – excluding certain items, such as tax exempt interest

A deduction for income held for future distribution or distributed to the beneficiaries (income distribution deduction)

Any income tax liability

Question 32

How are expenses of administering the estate deducted?

Answer 32

Either from the estate income on form 1041 and determining its income tax

Or from the gross state on 706 in determining the estate tax liability

Cannot be claimed for both purposes

Question 33

Estates - schedule K –1

Answer 33

Used to report any income that is distributed or distributable to each beneficiary and is filed with form 1041

With a copy given to the beneficiary

The beneficiary individual (not an entity or charity) would report the distributive income on form 1040 schedule E

Question 34

Estates and trust – tax credits

Answer 34

Allowed some of the same tax credits that are allowed to individuals

But not the CTC or the EITC

Question 35

Estates and trust – NIIT

Answer 35

Just like individual taxpayers, estates and trust are subject to the net investment income tax

Reported on form 8960 – net investment tax for individuals, estates, and trust

$14,450 threshold

Question 36

Form 1041 due date

Answer 36

The 15th day of the fourth month, following the end of the entities tax year

Automatic extension of 5 1/2 months if the form 7004 is filed by the original due date

The tax year may be a calendar or a fiscal year for an estate, subject to the election made at the time the first return is filed

An election will also be made on the first return as to the accounting method – cash or accrual for reporting the estates income

Question 37

Form 1041 is required to be filed for any domestic estate that has…

Answer 37

1. Gross income for the tax year of $600 or more.

Or

2. A beneficiary who is a nonresident alien for any amount of income.

If the estate has no income, producing assets, and generates no income, no income tax return is necessary

Question 38

The gross estate

What is it?
What does it include?
What does it not include?

Answer 38

Is based upon the FMV of the decedents property – not necessarily equal to the assets cost

Includes :

The FMV of all tangible and intangible property owned partially or outright by the decedent at the time of death

Life insurance proceeds payable to the estate, for policies owned by the decedent, payable to the heirs

The value of certain annuities or survivor benefits, payable to the heirs

The value of certain property that was transferred within three years before the decedents death

Does not include :

Property owned by the decedent, spouse or other individuals

Lifetime gifts that are complete – so that no control over the gifts was retained

Question 39

Form 706 – gross estate deductions

What is deductible?
What is not deductible?

Answer 39

After calculating the gross estate – certain deductions or reductions can be made to determine the taxable estate

These deductions may include :

1. Funeral expenses paid from the estate
2. Administrative expenses for the estate – court fees and legal cost if not already deducted on form 1041
3. Debts Owed at the time of the individuals death
4. Marital deduction – value of property passing to a surviving spouse
5. Charitable deduction – value of property passing to eligible charities
6. State death tax deduction, inheritance, or estate taxes paid to any state
7. Property taxes, but only if they accrue under state law prior to the death.

The following items are not deductible from the estate :

1. Federal estate taxes paid.
2. Alimony paid after the taxpayers death – treated as distributions to a beneficiary.

Question 40

Special rule for medical expenses

Answer 40

Dad’s can be deducted from the total value of the estate on the estate tax return

Any outstanding medical expenses at time of death – considered liabilities of the estate

Paid within one year of death …

Executor has option to treat it as if it was paid when incurred and deduct the expenses on form 1040 instead of on potentially form 706

Results in a better tax outcome to the estate

Question 41

The marital deduction

Answer 41

Allows spouses to transfer an unlimited amount of property to one another during their lifetime or at death without being subject to a state or gift taxes

To qualify, the spouse receiving the assets must be a US citizen and must have outright ownership of the assets after the passing of the decedent

Not allowed if the spouse is not a US citizen, even if they are a legal resident - noncitizen spouses can only receive $175,000 tax-free

Question 42

How are inheritances taxed?

Answer 42

Inheritances are generally not taxable to the beneficiary

Beneficiary may be responsible for related estate tax liability that has not been satisfied

Retirement plans, such as IRA accounts, are different. Any tax deductible contributions would still be subject to income taxes, but no early withdrawal penalty.

Question 43

Basis of estate property

Answer 43

While cash inheritances are not subject to federal income tax, money received from the sale of inherited property may be taxable

The basis of property inherited is one of the following

FMV On date of death

FMV on an alternate valuation, date, if elected

The value under a special use valuation method for real property used in farming or another closely held business, if elected

The decedents adjusted basis in land to the extent of the value excluded from the taxable estate as a qualified conservation easement

Question 44

Jointly owned property

Answer 44

Property jointly owned by a decedent and another person – will be included in full in the decedents gross estate

Unless it can be shown that the other person originally owned or contributed to the purchase price

The surviving owners new basis of property that was jointly owned must be calculated :

• surviving owners basis + value of part of property included in decedents estate - any deductions for depreciation allowed to the surviving owner for his portion

Question 45

Property jointly held between spouses

Answer 45

1/2 of the properties value is included in the gross estate

There is a step up in basis for that one half

The other half is stated at the surviving spouses cost basis, net of any deductions for depreciation allowed on that half

If property is a community property state – entire value will receive a step up in basis to FMV

Question 46

GST

What is it?
Who does it apply to?
How is a calculated?
Exclusion amounts, and tax rate

Answer 46

Generation-skipping transfer tax

May apply to gifts made during taxpayers lifetime, or after a taxpayers death – made to skip persons

A person is usually a grandchild or someone who is more than 37 1/2 years younger than the person making the gift

GST is assessed when the property transfer is made

Based on the amount, transferred to skip persons after subtracting allocated portions of the donors available GST exemption

GST exemption is the same as the estate tax basic exclusion amount

GST tax rate is the estate tax rates – maximum of 40%

GST is imposed separately and in addition to the estate and gift tax

Question 47

Gift tax

Answer 47

Imposed on the donor, not the receiver, of the gift - The recipient typically owes no tax and doesn’t have to report the gift unless it comes from a foreign donor

Special arrangements – Donnie may agree to pay the tax instead of the donor

Can apply to both cash and non-cash gifts

Question 48

The following gifts are not taxable and do not have to be reported

Answer 48

1. Gifts to an individual that do not exceed the annual exclusion amount – $17,000 per donee
2. Tuition or medical expenses paid directly to an institution.
3. Unlimited gifts to a spouse – as long as spouse is a US citizen
4. Gifts to a political organization for its own use.
5. Gifts to a qualifying charity.
6. A parent support for a minor child. Including support required as part of a legal obligation, such as a divorce decree.

Question 49

How is gift tax reported

Filing requirements

Answer 49

A gift tax return – form 709

Must be filed if :

1. A taxpayer gives more than the annual exclusion amount to at least one individual – except to a US citizen spouse.
2. Taxpayer split gifts with a spouse.
3. A taxpayer gives a future interest to anyone other than a US citizen spouse.

Question 50

Gift tax return due date

Answer 50

Generally, due by April 15 of the following year

If donor dies during the year – deadline may be the due date (with extensions) for the estate tax return, if earlier than April 15 of the following year

If taxpayers extend their form 1040, deemed to have extended their gift tax returns also

If tax does not extend their individual return – the gift tax return can be extended separately using form 8892 to provide an additional six months to file 709

Question 51

Present interest VS future interest

Answer 51

Present interest – the donee has all immediate rights to the use, possession, and enjoyment of the property or income from the property with no strings attached

Future interest – donee’s rights to the use, possession, and enjoyment of the property or income from the property will not begin until some future date

Question 52

Gift splitting by married couples

Answer 52

If either spouse makes a gift to another person, the gift can be considered as being 1/2 from one spouse and one half from the other spouse

Allows a married couple to give up to $34,000 to a single individual without making a taxable or reportable gift

Both spouses must consent to split the gift

If a couple split a gift, each spouse must file their own gift tax return

Question 53

Basis of property received as a gift

Answer 53

Determining gain or loss on a subsequent disposition of property received as a gift - must consider

The gifts adjusted basis to the donor before it was given to the taxpayer

The gifts FMV at the time it was given

Any gift tax actually paid on the appreciation of the properties value while held by the donor

Question 54

When the fair market value of the gift is the same as or higher than the donors adjusted basis for the gift before it was transferred

Answer 54

The donees bases will be the same as the donors adjusted or transferred basis

Question 55

When the fair market value of the gift is lower than the donors adjusted basis at the time of transfer

Answer 55

When the recipient sells the gifted property

any gain will be calculated based on the donors adjusted basis

Any loss will be calculated using the FMV

If sold for a price between the FMV and gifted basis – no gain or loss recognized

Question 56

The applicable credit

Answer 56

Also referred to as the unified credit

The combination of the lifetime gift, tax, exclusion, and estate tax exclusion

The estate tax exclusion is $12.92 million

The applicable credit amount for 2023 is $5,113,800.

Any portion of the applicable credit amount used to avoid payment of gift taxes, reduces the amount of credit available in later years that can be used to offset gift or estate taxes

Taxpayer exceeds the annual gift tax exclusion amount in any year – can choose to either pay the gift tax or take advantage of the unified credit to avoid paying the tax in the current year