Jul 25 Gift Tax Returns: An Important Planning Step
With the federal estate tax exemption currently at $12.92 million per U.S. person, individuals have an opportunity to transfer significant wealth. In general, taxpayers are required to disclose any gift exceeding $17,000 (in 2023) on a Form 709 in the year following the transfers.
Since the gift and estate tax are based on the concept of a unified credit, gifts are aggregated and disclosed again on an estate tax return. A well-prepared gift tax return that meets the adequate disclosure requirements outlined in Treas. Reg. Sect. 301.6501(c)-1 will start the statute of limitations running, giving the IRS only three years to challenge a transaction. On the other hand, failure to satisfy the rules for adequate disclosure on a gift tax return could give the IRS an unlimited window to overturn a transaction many years after the fact.
Why is filing a gift tax return so complicated?
Filing a gift tax return appears to be a simple thing. After all, the form the IRS offers to report gifts is short – only five pages! And yet, we often find ourselves producing reams of paper to support the disclosures about the planning that had been done.
Lack of sufficient supporting documentation could prevent the statute of limitations from running and potentially invite follow-up communications from the IRS about the planning transactions. Of course, a “kitchen sink” approach to filing gift tax returns is not just about meeting adequate disclosure requirements to run the statute of limitation. Where a taxpayer can demonstrate a good faith attempt to comply with the rules set for disclosing transactions, the IRS may decide to accept the return as filed and leave the client alone. In such cases, the taxpayer would be able to point to an exhibit that had already been provided in response to most questions that an auditor might ask.
A gift tax return supports the planning.
Strategic planning can protect assets from creditors while allowing the wealth you create to grow into a great legacy for your loved ones, their children, and future generations of your family. Transferring significant wealth is often a long process. We spend time evaluating the opportunities available to our clients in order to construct unique plans that resemble their goals.
A gift tax return is the first time the IRS will learn about the planning that has been done. The process allows a taxpayer to dictate the initial terms of any potential review that the IRS might undertake relative to the planning. Further, by adequately disclosing planning transactions on a gift tax return, the taxpayer starts the clock running on a three-year statute of limitations.
The gift tax return provides advisers with a second, thorough look.
Sophisticated planning is often multi-faceted, involves many documents, and often requires input from advisers in different disciplines: attorneys, wealth advisers, accounting professionals, appraisers, life insurance agents, and others. Sometimes, planning is rushed, and despite our best efforts, things might be missed.
During the gift tax return preparation process, the preparer will have the opportunity to review the documents and hopefully identify anything that might have been missed or need correcting – before the IRS is alerted about the plan. The preparer can then reach out to other advisers to make the necessary corrections so that the gift tax return – and the planning – is complete.
A gift tax return preparer could identify additional steps to bolster the plan.
Recent cases decided by the Tax Court (against the taxpayers) highlight additional steps that taxpayers could take to fortify the planning that had been done. An accounting professional preparing a gift tax return might be particularly well-situated to identify these opportunities:
- Issue a Schedule K-1 from an entity that was transferred as part of the estate plan;
- Use the income tax returns to identify any valuation adjustments that might later be made to the plan if values are changed on audit;
- Make sure that distributions are being made and that the correct taxpayer pays the income tax.
Implementing these steps might be done as part of the gift tax return preparation process. As planning gets more complicated, explaining transactions thoroughly on a gift tax return and supporting it with attendant documents could make administering the plan easier.
Conclusion
Creative planning approaches have created additional and sometimes novel gift tax reporting considerations. Disclosures should be carefully constructed. Preparing a gift tax return is a vital step in the planning process to protect clients and fortify their estate plans.
About the Author
Joy Matak, JD, LLM is a Partner at Sax and Leader of the firm’s Trusts and Estates Practice. She has more than 20 years of diversified experience as a wealth transfer strategist with an extensive background in recommending and implementing advantageous tax strategies for multi-generational wealth families, owners of closely-held businesses, and high-net-worth individuals including complex trust and estate planning. Joy can be reached at [email protected].
