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(Continued from previous article) Having understood what credits are in the context of federal estate taxation, we can now move on to discuss the exemptions and tax rates that are applicable to this particular federal transfer tax. Before we move on, however, we should address the fact that there are still some people out there who are quite confused with regards to the difference between estate tax exemptions and estate tax credits – the difference while having a rather complex basis, is really quite simple: the estate tax credits are always subject to change value-wise, whereas the estate tax exemptions are fixed (which means that it is rarely, if ever, subject to increasing or decreasing based on the value of the property).

Moving on: it was mentioned before that a fraction of the value of the estate is not subject to taxation (that is, excluded) by the federal government, and for the past two years and going on to the present – 2008 – the exclusion amount is set at two million American dollars. Any property whose total taxable value happens to be above two million American dollars will warrant federal estate taxation, but only for the value that is in excess of the two million dollars.

The current tax rate is set at forty-five percent. Given this, the calculation of the estate tax could be illustrated as follows: you have arrived at a taxable estate value of four million American dollars last year (2007). The maximum exclusion at that point is two million, so the federal government can only tax two million dollars of that particular amount. The tax rate that year is, like this year, set at forty-five percent. As such forty-five percent of two million dollars – that would be nine thousand American dollars – would be paid to the federal government for this. This leaves the inheritor only one million, one hundred thousand US dollars.

Of course, legally avoiding this tax is another favorite means of tax evasion among the populace, and indeed there are some professionals out there who make a living out of finding loopholes in the system – which could be rather easy, considering the innate complexity of this particular means of federal taxation. One of the most popular ways of doing this is by creating a living trust or will that legally combine the applicable exemptions of a married couple. Another way, while not exactly avoiding paying the tax, involves a means of liquidating certain property for the purpose of paying the tax by the time of the passing. Another means of minimizing the risk of paying substantial amounts to the federal government includes the use of an irrevocable life insurance trust that parents leave to their children. There are so many ways by which a person can find ways to escape paying the full amount of this tax, which is why it’s so astounding that so many people are STILL pushing for its elimination.

In any case, the estate tax is merely the first type of transfer tax that we have discussed; so it would be best to move on to another type of transfer tax, one that was mentioned once or twice in the discussion of the estate tax: the gift tax.

The gift tax, as the name suggests, is a tax levied on GIFTS – meaning to say, any property whose ownership is transferred from one person to another as an intended present or gift will be levied with a gift tax. The tax is to be paid by the one GIVING the gift, not the one RECEIVING it (which many think is against the principle of encouraging goodwill, but that’s going off-topic at the moment). The taxed gift in question is required to be a gratuitous gift (complete or in part), meaning that the person giving the gift should not be receiving anything in return from the person accepting the gift or, at the very least, not receiving anything that is not of much less value than the gift bestowed.

Of course, this means (generally speaking) that the transfer of property titles must happen BEFORE the one who is giving the gift passes away, otherwise, the property would be subject to the estate tax and not the gift tax. Of course, this may mean that any property that may be subject to the estate tax could be “gifted” during the lifetime of the “giver” thus, avoiding the significantly larger levies of the estate tax if not eliminating it completely. But the United States Congress had managed to limit this tactic with a few adjustments to the tax laws in 1976. Today, certain gifts – like gifts given within the three years prior to the passing of the decedent and gifts the decedent maintains some form of control over (as was mentioned before) – are now included in the estate tax, thus eliminating any last-minute attempt at circumventing the payment of estate tax.

Going back to the gift tax: technically, ANY gift could be subject to a gift tax. There are, of course, certain gifts that cannot be taxed, just as there are certain properties that cannot be taxed. One of the most popular “gifts” that are not subject to taxation would have to be – you guessed it – any gifts to charities or charitable organizations. But not to worry, that’s not the only gift that is not subject to taxation. Any gift that you would give to your husband or wife cannot be taxed, and tuition or medical expenses paid directly to the related establishments cannot be taxed by the federal government. Donations to political groups are also exempted from gift taxation, as are gifts that don’t go over the cost of the annual exclusion (unless this is a gift of future interest – bonds and the like are examples of this). The aforementioned annual exclusion, by the way, is thankfully separate for each of the individual person that you give a gift to – in 2007, you can give as much as twelve thousand dollars worth of gifts for each individual you know without being subject to the gift tax. This annual exclusion value may rise or fall, depending on the cost of living situation currently experienced.

Apart from those exclusions from the gift tax, there are also gift tax exemptions. Again, any number of gifts for a person valuing less than the annual exclusion ere excluded from this tax, and another upshot of this is that married couples can combine their annual exclusion, thus doubling the maximum value applicably gifted to a single individual. Also, there is a particular credit – the unified tax credit – that disallows taxation on gifts until a total of one million American dollars are spent as a gift from one person to another. (To be continued in next article)