This article addresses various issues that may arise in the preparation of federal gift tax returns. It discusses the basic rules for whether a gift tax return needs to be filed and some general rules that can be used to properly prepare the return. While the issues discussed in this article were identified during the preparation of gift tax returns for prior years, the focus is on gift tax returns that will be filed to report gifts made during 2009 or 2010. Unless otherwise indicated, most of the information provided here is further explained in the instructions for the gift tax return.
Who Must File?
If a donor makes gifts of present interests in property and the total value of those gifts to any donee exceeds the annual exclusion amount, the donor must generally file a Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return. The annual exclusion amount is $13,000 for 2009 and 2010. The annual exclusion is available only for gifts of present interests in property. 1 An outright gift to an individual of property such as cash, marketable securities, real estate, and tangible personal property qualifies as a gift of a present interest. In some situations, transfers of interests in unmarketable assets—such as stock in closely held corporations, interests in limited partnerships, or interests in limited liability companies—may not qualify as gifts of present interests. 2
In general, transfers to a trust are considered gifts of a future interest and do not qualify for the annual exclusion. However, a donor may structure such transfers to qualify for the annual exclusion. The most common way to meet the present interest requirement is by the use of a Crummey withdrawal right. 3 In general, a Crummey withdrawal power refers to the right granted in the trust agreement to named beneficiaries or members of a class that allows those individuals to withdraw from the trust any contribution (or a portion thereof) made to the trust for a limited period of time after the contribution. If properly drafted and implemented through notification to the donee of the withdrawal right, the property subject to the Crummey power is a gift of a present interest and qualifies for the annual exclusion.
If a gift does not qualify as a present interest in property, the donor must file a gift tax return regardless of the amount of the gift. There are, however, special filing requirements for transfers for certain medical and educational expenses and for transfers to the donor’s spouse and to charity.
Medical and Educational Expenses
Transfers made on behalf of an individual directly to a qualifying educational organization as tuition for the education or training of the individual are not treated as a transfer of property by gift for gift tax purposes, and the donor does not report them on Form 709. Similarly, transfers made on behalf of an individual directly to a person or institution that provided medical care for the individual are not treated as a transfer of property by gift for gift tax purposes and are not reported on Form 709. 4
Gifts to 529 plans: Gifts to 529 plans for qualified higher education expenses do not qualify as payments of qualified educational expenses under Sec. 2503(e). However, they do qualify for the annual exclusion (as well as nontaxable gifts for generation-skipping transfer (GST) tax purposes) regardless of the fact that gifts to these plans are transfers of a future interest. 5 Thus, a transfer of the annual exclusion amount to a 529 plan would not otherwise require a donor to file a Form 709.
The donor may want to take advantage of the ability to spread the gift over five years so that one-fifth of the gift is treated as made in the year of the contribution to the plan and one-fifth is treated as if made in each of the following four years. The election, however, is only applicable with respect to contributions not in excess of five times the annual exclusion amount for the year of the contribution. 6 If such an election is made, the donor is required to file a Form 709 for the year of the gift and to check line B of Schedule A, Computation of Taxable Gifts. In addition, the donor must attach an explanation to Form 709 containing:
- The total amount contributed per individual beneficiary;
- The amount for which the election is made; and
- The name of the individual for whom the contribution was made.
For each of the five years, the donor must report one-fifth of the amount for which the election is made. However, during this five-year period, if the donor does not make any other gifts that would otherwise require him or her to file a Form 709, the donor is not required to file a Form 709 in the four years subsequent to making the election simply to report the amount of the gift to which the election applies. The same rule applies if the donor and his or her spouse choose to split gifts in the year the contribution is made.
Gifts to the Donor’s Spouse
The donor is not required to report on a Form 709 any outright gift to the donor’s spouse who is a U.S. citizen. 7 Similarly, gifts to certain types of trusts for the benefit of the donor’s spouse are not required to be reported on a Form 709. Such trusts must provide that the spouse is entitled to all the income from the trust for life (payable at least annually), the spouse has a general power to appoint the assets in the trust, and no part of the trust may be subject to another person’s power of appointment. 8
If the transfer is to a qualified terminable interest property (QTIP) trust, the donor must report the transfer on Form 709. The QTIP election can be made only on a timely filed Form 709. 9 Note that relief under Regs. Sec. 301.9100-3 is not available to obtain an extension of time to make a QTIP election for an inter vivos transfer. 10
If the donor’s spouse is not a U.S. citizen, the gift tax marital deduction is not available, but the donor is entitled to an annual exclusion equal to $133,000 for 2009 and $134,000 for 2010 instead of the normal annual exclusion amount of $13,000. 11 Thus, the donor must report present interest gifts to a noncitizen spouse that would otherwise qualify for the marital deduction only if the total gifts during 2009 exceed $133,000 (or $134,000 for 2010). Any gifts to a noncitizen spouse that are not gifts of a present interest must be reported on Form 709. In addition, the donor must report gifts to a noncitizen spouse of present interests in excess of $13,000 on Form 709 if the gift would not otherwise have qualified for the marital deduction if it had been given to a citizen spouse. 12
Gifts to Charity
No gift tax return is required if the only gifts made during the year are deductible gifts to charity (i.e., the donor’s entire interest in the property is transferred to qualifying charities). If, however, the donor is otherwise required to file a gift tax return in a year in which the donor makes gifts to charity, all the gifts to charity must be reported, according to the Form 709 instructions.
If only a partial interest in the property was transferred to charity, or if the property was transferred in part to charity and in part to a noncharity, a gift tax return must be filed. If the property was transferred to a charitable remainder trust and the donor (and/or the donor’s spouse, who is a U.S. citizen) is the only noncharitable beneficiary of the trust, a gift tax return must be filed if the gift to the charity is a completed gift (e.g., the donor does not retain the right to change the charitable remainderman).
Transfers That Are Not Gifts
Sometimes transfers that are not designed to be gifts are reported on Form 709 in order to start running the statute of limitation on whether the transfers are not gifts. 13 Consideration should be given to reporting certain transfers on a gift tax return as “not a gift,” such as transfers to a grantor retained annuity trust (where the value of the remainder interest is zero) and sales to family members and to grantor trusts of assets that do not have a readily ascertainable market value.
Who Is the Donor?
The donor is the individual who makes a transfer of property by gift. If a trust, estate, partnership, or corporation makes a gift, the individual beneficiaries, partners, or shareholders are considered the donors. 14
If the donor is married, the donor and the donor’s spouse may want to elect to split the gifts to third parties so that each spouse is treated as having made one-half of the gifts. To qualify for gift splitting:
- Both spouses must be citizens or residents of the United States;
- At the time of the gift, they must be married and both be alive; and
- In the event of a divorce or death after the gift, neither spouse can have married another person during the year. 15
Community property and property held by spouses as joint tenants or tenants by the entirety are generally considered as owned one-half by each spouse. Thus, spouses do not need to elect to split gifts with regard to these types of property. However, if either spouse transfers property other than these types (e.g., separate property) and the spouses wish to split these gifts, they will be required to make the election and to split all the gifts made by them to third parties during the year, even the gifts of community or jointly held property. 16
If the donor transfers property in part to his or her spouse and in part to third parties, the spouses may split the interest gifted to third parties if the interest is ascertainable at the time of the gift and severable from the interest transferred to the spouse. 17 The ability to split gifts and the extent to which the spouse may split them are affected when the donee spouse is a current or potential beneficiary of the trust and/or has a Crummey withdrawal right with respect to transfers to the trust.
If the spouses make the election to split gifts, they must split all gifts to third parties by either spouse during the year. 18 Each spouse will be treated as the transferor of one-half of the gift for purposes of the GST tax. 19 This is true even if the spouses are not treated as making one-half of the gift for gift tax purposes because of the donee spouse’s interest in the transfer. 20 If a gift is made to a 529 plan, the election to split the gift is made first, and each spouse can then decide whether to make the election to spread the gift over five years.
The spouses make the election to split gifts by completing lines 12–18 of Part 1 of the Form 709. Generally, both spouses must file a gift tax return. The election to split gifts must be made on the first gift tax return (whether timely or late) filed by either spouse for the year in which the transfers were made. The spouses may elect gift splitting on a late-filed gift tax return as long as neither spouse has previously filed a gift tax return for that year. However, they may not elect gift splitting if the IRS has sent a notice of deficiency for the gift tax to either spouse, regardless of whether a gift tax return has been filed for that year. 21
Who Is the Donee?
Gifts to the Donor’s Spouse
A transfer to a QTIP trust for the donor’s spouse, who is a U.S. citizen, qualifies for the gift tax marital deduction if the donor makes the QTIP election on a timely filed Form 709. 22 The donor makes the election by listing the QTIP property on Part 1 of Schedule A and deducting its value on line 4, Part 4 of Schedule A. The QTIP election is presumed to be made by reporting the gifted property and deducting it.
If the donor’s spouse is a noncitizen, no marital deduction is available on line 4, Part 4 of Schedule A. Gifts that are present interests qualify for the annual exclusion of $133,000 for 2009 and $134,000 for 2010, provided that gifts in excess of the first $13,000 would qualify for the marital deduction if the spouse were a U.S. citizen. 23 The donor claims the annual exclusion for the gift to his or her spouse on line 2, Part 4 of Schedule A.
Outright Gifts to Other Individuals
If the gift is an outright transfer to an individual, the donor reports it on the Form 709 for 2009 in either Part 1 or Part 2 of Schedule A, depending on the relationship of the donor and the donee. 24 Part 1 is for gifts to donees who are not “skip persons” with respect to the donor, while Part 2 is for gifts to donees who are skip persons with respect to the donor.
Individuals in the donor’s family are not skip persons if they are not two or more generations younger than the donor. 25 For example, the donor’s parents, siblings, children, and children’s spouses are not skip persons, so gifts to them are reported in Part 1. If the donee is not related to the donor, the individual is not a skip person if he or she is not more than 37½ years younger than the donor. 26
Persons who are skip persons are the donor’s grandchildren and great-grandchildren and their spouses and unrelated individuals more than 37½ years younger than the donor. 27 Gifts to those individuals go in Part 2 of Schedule A. Gifts made in 2009 and listed in Part 2 may trigger GST tax. In addition, if a gift is listed in Part 2, the donor is required to complete Schedule C.
For gifts to nonfamily members, it is important to ascertain the age of the donee relative to the age of the donor to determine whether the donee is a skip person. There are special rules in the case of certain grandchildren who are adopted by the grandparents and in the case of grandchildren and certain grandnieces and grandnephews whose parent is deceased at the time of the gift. 28
Gifts in Trust to Other Individuals
In the case of a gift in trust, the beneficiaries of the trust are the donees. Gifts in trust made in 2009 are reported in Part 1, 2, or 3 of Schedule A, depending on the terms of the trust and the identity of the beneficiaries. If no skip person could ever be a beneficiary of the trust, the gift to the trust is reported in Part 1. If only skip persons could ever be a beneficiary of the trust, the gift to the trust is reported in Part 2. If it is possible that both skip and nonskip persons could be beneficiaries of the trust, the gift to the trust is reported in Part 3. Gifts to trusts listed in Part 3 generally will have associated GST tax consequences. As a result, various elections with regard to, and allocations of, the GST exemption will need to be considered (as discussed below).
What Constitutes a Gift?
For gift tax purposes, a gift is a gratuitous transfer of property by an individual during his or her lifetime to a donee. 29 It is immaterial whether the transfer is in trust or otherwise, whether the gift is direct or indirect, or whether the property is real or personal, tangible or intangible. 30
A transfer between parties may constitute a gift for gift tax purposes if the property transferred is for less than adequate and full consideration in money or money’s worth. 31 For example, if a father sells his son stock worth $100 for $50, the father has made a gift of $50 to his son. Transfers made in the ordinary course of business do not constitute a gift, regardless of the relative values of the properties exchanged between the parties. However, a transfer between related parties is subject to higher scrutiny for gift tax purposes than a transfer between unrelated parties.
In order to constitute a gift for gift tax purposes, the gift must be complete. In general, a gift is complete when the donor has parted with dominion and control so as to leave the donor without the power to change its disposition. 32 If the donor retains the power to alter the beneficial interests in the property transferred (as opposed to the manner or time of enjoyment of such interest), whether for the donor’s own benefit or that of another, the gift is incomplete until such time as the donor relinquishes or terminates the power other than by reason of the donor’s death. For example, the power of the donor to revoke a gift constitutes an incomplete gift. The gift will be completed once the donor relinquishes his or her power to revoke during life or when the donor dies.
What Is the Value of the Gift?
For a gift of cash, the value of the gift is obvious. If the gift is marketable securities, the fair market value (FMV) per share or bond is the mean between the highest and lowest quoted selling prices on the date of the gift. 33
If the gift is an asset for which there is no ready market, its FMV is the amount that a willing purchaser would pay to a willing seller for the asset, neither being under any compulsion to buy or sell and both having reasonable knowledge of relevant facts. 34 When at all possible, the donor should determine the value of these gifts through a qualified appraisal issued by a qualified appraiser. 35
It is very important for the donor to adequately disclose each gift on Form 709 because the three-year limitation on the period of assessment does not begin to run unless and until the gift is adequately disclosed on a gift tax return. Adequate disclosure generally prevents revaluation of gifts for both gift and estate tax purposes after the three years have elapsed (regardless of whether gift tax was paid or the transfer was reported as a nongift). 36 In general, adequate disclosure requires:
- Description of transferred property and any consideration received;
- Identity of and relationship between the parties;
- If applicable, the trust’s taxpayer identification number and description of its terms or a copy of the trust agreement;
- Description of the method used to determine the property’s FMV, including any discounts taken, or an appraisal; and
- If applicable, an explanation as to why the transfer is not a gift. 37
If any discount is claimed in valuing any gift, the “yes” box on Schedule A, line A, must be checked.
As noted above, the GST tax is generally imposed when an interest in property is transferred to a skip person. The GST tax currently is not applicable to generation-skipping transfers made during 2010, so the following discussion is pertinent to gifts made in 2009. Each individual has a GST exemption that may be allocated during his or her lifetime or at death to any transfers that may generate GST tax. For 2009, the amount of the GST exemption is $3.5 million. The donor’s GST exemption is automatically allocated to certain types of gifts, known as direct skips and indirect skips. 38 In very general terms, a transfer to a trust is treated as a direct skip if the only possible beneficiaries of the trust are skip persons.
A transfer to a GST trust is treated as an indirect skip. A trust is generally a GST trust if skip persons and nonskip persons are possible beneficiaries and one of six exemptions in the definition of GST trust is not applicable. 39 Life insurance trusts generally meet the requirements to be a GST trust, but frequently the donor would not want to allocate GST exemption to the trust. If there are doubts as to whether a trust is a GST trust, consideration should be given to making an election to treat the trust as a GST trust or not as a GST trust. 40 Such an election can allow for certainty in obtaining the desired result.
A donor on a timely filed return can elect out of the automatic allocation of GST exemption rules or can elect to allocate GST exemption to a transfer for which the automatic allocation rules do not apply. GST exemption that is automatically allocated to indirect skips is shown on Schedule C, Computation of Generation-Skipping Transfer Tax, Part 2, line 5. GST exemption that is affirmatively allocated by the donor is shown on Schedule C, Part 2, line 6, and a Notice of Allocation must be attached to the return. If the donor wishes to elect out of the automatic allocation of GST exemption or to elect to treat transfers as if they qualify for the automatic allocation rules, the donor should check the box in Column C of Part 2 or Part 3 of Schedule A and attach the appropriate election statement to the return. If an election in or out of the automatic rules was made on a prior year’s Form 709 and that election affects the current year’s transfers, and if there is no desire to change the prior election, Column C should not be checked on the current year’s Form 709.
Certain direct skips are considered nontaxable gifts for GST tax purposes. Outright gifts to skip persons (to the extent they qualify for the gift tax annual exclusion) are direct skips that are nontaxable gifts for GST tax purposes. 41 In addition, certain gifts in trust (to the extent they qualify for the gift tax annual exclusion) qualify as nontaxable gifts for GST tax purposes. To be eligible for this treatment:
- The trust must be for the benefit of only one skip person;
- The trust must provide that during the life of that person, no portion of the income or corpus of the trust may be distributed to any other person; and
- If the trust does not terminate before the individual dies, the trust’s assets will be includible in that person’s gross estate. 42
Thus, a $13,000 gift in 2009 to a trust in which the grandchild has a Crummey withdrawal right would qualify for the gift tax annual exclusion but would not qualify as a nontaxable gift for GST tax purposes unless the terms of the trust satisfied the previously stated requirements. The amount of the nontaxable gift for GST tax purposes is shown in Schedule C, Part 1, Column C.
In addition, transfers made on behalf of a skip person directly to a qualifying educational organization as tuition for the education or training of the skip person or to a person or institution that provided medical care for the skip person are nontaxable gifts for GST tax purposes. 43
At stake in the proper preparation of the gift tax return is the ability to obtain finality of the amount of the gift for transfers adequately disclosed on the return and to allocate (or not) the donor’s GST exemption for 2009 transfers. As discussed throughout this article, much information is needed about the donor, the donee, the type of property transferred, and how it was transferred in order to properly complete a gift tax return. In addition, an understanding of the gift tax laws and, for transfers in 2009, the GST tax laws is essential. By gathering the necessary facts and being cognizant of the applicable gift and GST tax rules, tax preparers can complete the correct gift tax return that their clients expect and deserve.1 Sec. 2503(b).
2 See, e.g., Hackl, 118 T.C. 279 (2002); Price, T.C. Memo. 2010-2; Fisher, No. 1.08-cv-00908 (S.D. Ind. 3/11/10).
3 Crummey, 397 F.2d 82 (9th Cir. 1968), established withdrawal rights as qualifying a transfer to a trust for the gift tax annual exclusion.
4 Sec. 2503(e).
5 Secs. 529(c)(2)(A)(i), 2503(b), and 2642(c).
6 Sec. 529(c)(2).
7 Sec. 2523(a).
8 Secs. 2523(e) and (f).
9 Sec. 2523(f)(4).
10 Relief under Regs. Sec. 301.9100-3 is not available when the time to make an election is set by statute.
11 Sec. 2523(i); Rev. Proc. 2009-50, §3.30(2), 2009-45 I.R.B. 617; Rev. Proc. 2008-66, §3.30(2), 2008-2 C.B. 1107.
12 Regs. Sec. 25.2523(i)-1(c)(1).
13 See Sec. 6501(c)(9); Regs. Sec. 301.6501(c)-1(f)(4).
14 See, e.g., Regs. Sec. 25.2511-1(h)(1).
15 Regs. Secs. 25.2513-1(a), (b).
16 Regs. Sec. 25.2513-1(b)(5).
17 Regs. Sec. 25.2513-1(b)(4).
18 Sec. 2513(a).
19 Sec. 2652(a)(2).
20 Regs. Sec. 26.2652-1(a)(4).
21 Sec. 2513(b).
22 Sec. 2523(f).
23 Sec. 2523(i).
24 Because the GST tax is currently not applicable to transfers made in 2010, it is unknown what the 2010 Form 709 will look like.
25 Sec. 2613(a).
26 Regs. Sec. 26.2612-1(d), referring to Sec. 2651(d).
27 Sec. 2613(a).
28 See Sec. 2651(b) and the regulations thereunder.
29 Regs. Sec. 25.2511-1(c).
30 Sec. 2511.
31 Sec. 2512(b).
32 Regs. Sec. 25.2511-2.
33 Regs. Sec. 25.2512-2.
34 Regs. Sec. 25.2512-1.
35 See the definitions of “qualified appraisal” and “qualified appraiser” in Sec. 170(f)(11)(E) and Prop. Regs. Sec. 1.170A-17.
36 Sec. 6501(c)(9).
37 Regs. Secs. 301.6501(c)-1(e) and (f).
38 Sec. 2632.
39 Sec. 2632(c).
40 See Sec. 2632(c)(5); Regs. Sec. 26.2632-1(b).
41 Sec. 2642(c)(3).
42 Sec. 2642(c)(2).
43 Sec. 2642(c)(3)(B).
Justin Ransome is a partner and Frances Schafer is executive director in the National Tax Office of Grant Thornton LLP in Washington, DC. For more information about this article, contact Mr. Ransome at firstname.lastname@example.org.