Gift Tax – How it Works and Who Pays

We often get questions from our clients about gifting and the potential tax implications. A gift of money or property is not deductible on your personal income tax return nor does the recipient report the gift as income on his or her tax return. However, gifts may be subject to the federal gift tax. The gift tax is a tax on transfers of money or property to other people while getting nothing (or less than full value) in return.

Two Factors to Consider

Two factors determine how much you can give away before owing taxes on the gifted amount: the annual gift tax limit and the lifetime gift and estate tax limit. For 2024, the annual gift tax limit is $18,000, up from $17,000 in 2023. Since the exclusion amount is per recipient, this means that a married couple could give a married child and spouse up to $72,000 in 2024 without reducing their lifetime exemption. Gifts exceeding the annual limit should be reported on Form 709 but are not necessarily taxable.

Gifts over the annual threshold eat away at your lifetime estate tax exemption. Once your lifetime exemption is exhausted, you may begin to owe gift taxes. With the estate tax exemption at $13,610,000 per person in 2024, most taxpayers do not need to worry about paying estate and gift taxes. Keep your eye on the calendar though – beginning in 2026, the lifetime exemption is set to revert back to about half of current levels.

The following are not taxable gifts:

  • Gifts that are not more than the annual exclusion
  • Gifts consisting of direct payments to providers for medical and education expenses
  • Gifts to your spouse
  • Gifts to a political organization

As each person’s gifting scenario is different, please reach out to your tax advisor at KT to discuss your specific situation.

March 26, 2024

Bonus Depreciation Update

Under current law, bonus depreciation is limited to 80% of the cost of eligible property placed into service in 2023. As of the date of this publication, there is pending legislation (The Tax Relief for American Families and Workers Act of 2024) which includes a provision that would retroactively change bonus depreciation back to 100% as of January 1, 2023. The bill passed in the U.S. House of Representatives on January 31, 2024, and has yet to be voted on in the Senate. The future of the bill is unclear at this time.

To qualify for bonus depreciation, the property placed into service must have a useful life of 20 years or less. Some examples of qualifying property include qualified leasehold improvements, computer software, vehicles, and equipment.

Bonus Depreciation vs. Section 179

Bonus depreciation has some advantages over the Section 179 deduction, which is another method available for depreciating assets at an accelerated rate. While the Section 179 deduction is limited to $1,160,000 for 2023, there is no dollar cap on bonus depreciation.

For tax year 2023, bonus depreciation is 80% of the cost of the qualified assets placed into service. This means that if a taxpayer purchases (and places into service) a $100,000 qualified asset, they can deduct $80,000 of bonus depreciation on top of the regular depreciation, which equates to about 84% of the asset’s cost.

Bonus depreciation can also reduce taxable income below zero, meaning it can create losses to offset other income and even create a net operating loss. In contrast, Section 179 cannot be used to reduce income below $0.

Bonus Depreciation is Automatic

Bonus depreciation is automatic unless the taxpayer elects out. If the taxpayer elects out of using bonus depreciation on an asset, they must do so for all property with the same useful life placed into service during the year. For example, if a taxpayer purchases two 5-year assets and does not want to use bonus depreciation on one, they must elect out of using bonus depreciation on both, since both are 5-year property.

The Tax Cuts and Jobs Act of 2017 introduced a gradual phase out of bonus depreciation. Beginning in 2023, the deduction was reduced from 100% to 80% of qualifying expenses. After 2023, the deduction will proceed to decrease by increments of 20% each year until it is fully phased out in 2027. Changes such as this highlight the importance of utilizing tax planning in the coming years.

Please reach out to your tax advisor at KT to discuss your specific situation.

February 20, 2024

2022 – Last Year for 100% Bonus Depreciation?

Since the 2017 Tax Cuts and Jobs Act, businesses have been allowed to write-off 100% of the cost of eligible property in the year the property is placed into service by using bonus depreciation. To qualify for bonus depreciation, the property placed into service must have a useful life of 20 years or less and be depreciated using the Modified Accelerated Cost Recovery System method. Property such as qualified improvement property, farm shops, car washes, computer software, vehicles, and equipment are all popular items that qualify for bonus depreciation.

There are many benefits to taking bonus depreciation. Unlike the Section 179 deduction, another method available for depreciating assets at an accelerated rate, bonus depreciation does not have a limitation on the maximum deduction. For tax years 2018-2022, the maximum bonus depreciation has been 100% of the cost of the qualified assets placed into service. For example, if a taxpayer buys (and places into service) a $100,000 qualified asset, they can take a $100,000 deduction in 2022. Bonus depreciation can also reduce income below zero, meaning it can create losses to offset other income and even create net operating losses. In contrast, Section 179 cannot be used to reduce business income below $0. As such, the maximum Section 179 deduction is limited to business income.

Another benefit to bonus depreciation is that it is an automatic deduction, meaning that the taxpayer receives it by default unless they opt out. If the taxpayer elects out of using bonus depreciation, they must do so for all property with the same useful life purchased in the year. For example, if a taxpayer buys two five-year assets and does not want to use bonus depreciation on one, they must elect out of using bonus depreciation on both, since both are five-year properties. This is one downside of bonus depreciation – it is not as flexible and easily tailored to the taxpayer’s needs. It is a one-size-fits-all approach to accelerated depreciation.

One downside to bonus depreciation is that the deduction rules are more volatile. The maximum deduction limit has changed drastically throughout recent years. Before the Tax Cuts and Jobs Act, the maximum bonus depreciation deduction was limited to 50% of the cost of qualified property. Then, from 2018-2022, it jumped to 100%. As it stands now, we are posed to lose the 100% bonus depreciation deduction starting in 2023, when the deduction will be reduced to 80% of qualifying expenses. After 2023, the deduction will continue to decrease by increments of 20% every year until it hits 0%, meaning no bonus depreciation allowed in 2027. The constant changes in the maximum deduction allowed on a year-by-year basis underscore the importance of using tax planning in the coming years.

Some states, such as MN, do not allow bonus depreciation, causing complex calculations on each return. Of course, in Wyoming and South Dakota we have no such hassle, as we don’t have an income tax.

Please reach out to your tax advisor at Ketel Thorstenson to discuss bonus depreciation and your specific tax situation.

March 21, 2023

Gifting – Is it Taxable?

We often get questions from our clients on gifting and its potential tax implications. A gift of money or property is not deductible on your personal income tax return nor does the recipient report the gift as income on their tax return. Gifts, however, may be subject to the federal gift tax. The gift tax is a tax on transfers of money or property to other people while getting nothing (or less than full value) in return.

Few people actually owe gift tax due to the annual gift tax exclusion and currently high lifetime exemption. For 2022, the annual gift tax exclusion was $16,000, and the exclusion will be raised to $17,000 for 2023. The exclusion amount is per recipient which means that a married couple can give a married child and spouse up to $68,000 in 2023 without reducing their lifetime estate exemption. Only gifts over the annual exclusion threshold must be reported on a gift tax return, Form 709.

A gift over the threshold amount simply uses a piece of your lifetime estate tax exemption. With the estate tax exemption at $12,920,000 per person in 2023, most taxpayers do not need to worry about paying estate and gift taxes. Keep your eye on the calendar though – beginning in 2026, the lifetime exemption is set to revert to 50% of current levels.

The general rule is that any gift is a taxable gift; however, there are many exceptions to this rule. Generally, the following are not considered taxable gifts:

  • Gifts that are not more than the annual exclusion.
  • Gifts consisting of direct payments to providers for medical and education expenses.
  • Gifts to your spouse.
  • Gifts to a political organization.

Since tax and gifting implications vary for each individual, please reach out to your tax advisor at Ketel Thorstenson to discuss your situation.

March 7, 2023