Gifts are a part of life for most of us, but there isn’t a straightforward answer to the question of whether gifts are tax deductible. The answer, ultimately, depends on the type of gift, the recipient, and whether it was given by a business or an individual.
Tax-deductible gifts are those that can be subtracted from your income. Say your business has $100,000 in taxable income, for example, but it gives away a tax-deductible gift worth $10,000. That deduction reduces the business’s taxable income by $10,000, and this means the company only has to pay tax on $90,000 of income.
The process works the same for gifts tax deductible to individuals. Imagine that a couple filing jointly has $60,000 in taxable income after accounting for all their other deductions and credits. They claim a tax-deductible gift for $3,000, reducing their taxable income to $57,000 and lowering their tax liability at the same time. This guide looks at how deductible gifts affect your tax liability, and it explains which gifts are tax deductible and which are not.
How to Know Which Gifts Are Tax Deductible
Only certain gifts are tax deductible, and even those face limits. Here are the three main types and an explanation of when you can deduct them from your taxes.
Gifts to Individuals
Gifts you give to individuals are not tax deductible. That includes any gifts you give family and friends for birthdays or holidays, for example.
There are a few rare exceptions to this rule. Say you give your adult child $1,000 to put in an Independent Retirement Account (IRA), for example. Your child has the right to claim a deduction for that contribution if they meet the other requirements. You don’t get to claim a deduction, though.
Gifts to Charities From Individuals
You can get a tax deduction for gifts made to qualifying charities if you itemize. People who claim the standard deduction cannot claim one at the federal level for charitable gifts, but they may be able to get one on their state return. The rules vary from state to state.
Itemizers can typically only claim a deduction worth up to 60% of their adjusted gross income (AGI), but for tax year 2020, the Internal Revenue Service (IRS) suspended this rule and allowed taxpayers to deduct up to 100% of their income in qualified charitable donations.
Gifts to Charities From Businesses
Incorporated businesses can claim tax deductions for gifts given to qualifying charities, but sole proprietorships, partnerships, and other pass-through entities cannot claim a deduction for charitable gifts.Â
These businesses, however, can claim a deduction for these gifts on Schedule A of their personal income tax return if they itemize.
Gifts Given by Businesses
Businesses may give gifts to their employees, clients, or others in the course of their trade, and these gifts are tax deductible up to $25 per recipient per tax year. You don’t have to count incidental costs in this limit, such as shipping or engraving, if they don’t add additional value to the gift. Gifts with your company name worth $4 or less also do not count toward this threshold.
Gifts, to recap, are generally only tax deductible if they’re given to qualifying charities or are given by a business and are under the $25 threshold. All other gifts come out of your after-tax income.
The Federal Gift Tax
You may have heard that you can give away a certain amount per person every year without paying a gift tax. This issue is misunderstood, but to help you decide if giving away gifts is financially advantageous in your situation, here is a breakdown of the basics.
Federal Gift Limit
The gift tax limit for tax year 2021 is $15,000 per recipient. You can give away gifts of up to this amount to as many people as you want, and it will not affect your tax liability. Married couples can give away up to twice this amount per recipient.
Tax on Gifts
People who give away over the $15,000 threshold do not face a tax the year they give the gift. They must report the gift to the IRS using Form 709 United States Gift (and Generation-Skipping Tax) Tax Return, though.
Effect of Gifts on Estate Tax
People have to report gifts over the limit so the IRS can calculate the correct estate tax at the time of their death. People only face the estate tax on the value of their estate that exceeds $11.7 million as of tax year 2021.
An estate worth $12.7 million, for example, will face the estate tax on just $1 million. All gifts over the annual gift limit, however, have the potential to increase the estate tax. Say someone gives away $1 million to their child every year for 10 years, and when they die in 2021, they have an estate worth $5 million.
Their estate on its own doesn’t trigger the estate tax, but when the IRS looks at the 709 forms this person has submitted, the agency will note the taxpayer has given away $10 million and add this amount to the value of their estate. The estate is now worth $15 million (on paper), and after subtracting the exclusion of $11.7 million, the remaining $3.3 million will face the estate tax.
You can give away any amount you want each year, but you have to consider that it may affect your estate tax. People who don’t have large estates don’t need to worry. Someone worth less than a million, for example, can give away $20,000 to an individual every year, and although they have to report the gift, they will never face a tax on it.
Contact the Silver Tax Group Today for Gift Tax Advice
People trying to sort through such IRS laws as the gift tax are likely to experience some confusion. The Silver Tax Group has assembled a team of tax pros dedicated to helping people with their tax debt and problems. Want to learn more about when gifts are tax deductible? Need help resolving other tax issues? Contact our offices today with your taxation questions.
