The bottom line, however, is that the IRS is watching, and you should be very careful and get good tax and legal advice before you make that gift.
As many have written, 2011 and 2012 just might be great years for gifting, but that doesn’t mean there aren’t fundamentals worth considering, as Benny Kass points out in a recent piece for the Chicago Tribune about gifting property.
You likely know that property transfers can be made as outright gifts while you are living or post-mortem after your death. One of the key considerations is the tax consequences.
Lifetime gifting raises the issue of “tax basis,” since "the tax basis of the giver of the property (the giftor) becomes the tax basis of the recipient of the gift (the giftee)." If the property has significantly appreciated in value (and, yes, even in this economy some real estate has appreciated greatly), the recipient receives the same tax basis as the giver. For example, a $100,000 home that has appreciated to $500,000 at the time of its gift still has only a $100,000 tax basis. Further, if the recipient doesn’t own and live in that home for two of the following five years before selling it, then this tax basis will make the ensuing profit from sale a prime target for capital gains upon and other taxes (i.e., the difference between the tax basis and sale price in this example).
It’s a tricky arithmetic.
If the recipient is going to turn around and sell appreciated property, then simply gifting a capital gains tax bill might not be efficient. Perhaps other transfer options might make more sense.
Regardless, if you decide to gift, remember to file a gift tax return. Should you wish to take a “belt and suspenders approach,” you may want to file a gift tax return even if you aren’t likely to incur gift taxes upon the transfer. As the Chicago Tribune article points out, the IRS is in the middle of a campaign to uncover unreported but taxable gifts… by looking specifically at real estate transfers.
A transfer of real property (in particular a primary residence) is a common Medi-Cal Long Term Care Planning technique in California, and we always recommend the preparation of a gift tax return in this situation as well. It is always better to safe than sorry.
For more information regarding this issue or other elder law issues, please visit our website.
Reference: Chicago Tribune (July 29, 2011) “Giving property as a gift requires careful tax planning”