Part IV · Tax Regimes · No. 04

The gift tax

A federal tax on lifetime transfers without full consideration, integrated with the estate tax through a unified credit. The gift tax catches the transfers the estate tax would miss — and shapes the timing, valuation, and form of every significant inter-vivos transfer of wealth.

The rule

The federal gift tax is imposed under chapter 12 of the Internal Revenue Code on the transfer of property by gift during the donor's lifetime. §2501 imposes the tax; §2503 defines taxable gifts. The donor is liable for the tax; the donee is secondarily liable if the donor does not pay.

The gift tax exists because the estate tax alone would be evaded by the simple expedient of giving everything away before death. The two taxes are integrated: lifetime taxable gifts are added back to the taxable estate for purposes of computing estate tax, and a single unified credit is applied against the combined tax.

The statutory basis

• §2501 — imposition of gift tax.
• §2503 — taxable gifts; annual exclusion.
• §2505 — unified credit against gift tax.
• §2010 — basic exclusion amount (the unified credit equivalent), applied to both estate and gift taxes.
• §2513 — gift-splitting by spouses.
• §2522 — charitable deduction for gifts.
• §2523 — marital deduction for gifts.
• §2511 — transfers in general; reach of the tax.
• §2702 — special valuation rules for transfers in trust to family members.
• §7872 — below-market loans treated in part as gifts.

Scope

Anything of value transferred without full and adequate consideration is a gift for federal tax purposes. The breadth is intentional. A father who transfers a Manhattan apartment to his daughter for nothing makes a gift of the full fair market value. A father who sells the apartment to his daughter for half its value makes a gift of the difference. A father who lends money interest-free to his daughter makes a gift of the imputed interest under §7872.

For luxury-asset transfers the recurring patterns include:

• Transfer of artwork to children or to a trust for their benefit.
• Transfer of fractional interests in art, real estate, or aircraft to family LLCs or partnerships, often with valuation discounts.
• Funding a dynasty trust with cash, securities, or luxury assets.
• Sale of property to an intentionally defective grantor trust for a note bearing the AFR — a gift only to the extent the price falls below fair market value.
• Forgiveness of debt owed by a family member.
• A "net gift," in which the donee agrees to pay the gift tax: the taxable gift is reduced by the tax the donee pays, but the donor realizes income to the extent that tax exceeds the donor's basis (Diedrich v. Commissioner, 457 U.S. 191 (1982)).

Rate and computation

The gift tax rate schedule is the same as the estate tax rate schedule under §2001(c), topping out at 40%. The tax is computed cumulatively: the donor adds the current year's taxable gifts to all prior taxable gifts, computes the tentative tax on the cumulative total, and subtracts the tentative tax on prior gifts and the available unified credit. The result is the tax payable for the current year.

Two principal exclusions reduce the taxable gift base:

• Annual exclusion (§2503(b)). A donor may give up to an indexed amount per donee per year ($19,000 for 2025 and for 2026 under Rev. Proc. 2025-32; indexed in $1,000 steps) free of gift tax. The exclusion applies per donee, so a donor may make annual exclusion gifts to an unlimited number of donees.
• Lifetime exemption (§§2010, 2505). The unified credit shelters a basic exclusion amount that applies cumulatively to gift and estate tax. For 2026 the basic exclusion amount is $15,000,000 per donor (One Big Beautiful Bill Act, Pub. L. 119-21; Rev. Proc. 2025-32), indexed for inflation from 2027 with no scheduled sunset (see "Recent developments" below).

Elections and exceptions

• Gift-splitting (§2513). Spouses may elect to treat a gift by either spouse as made one-half by each. The election doubles the annual exclusion and effectively splits use of the unified credit between spouses.
• Marital deduction (§2523). Gifts to a U.S.-citizen spouse are deductible in full, regardless of amount. Gifts to a non-citizen spouse are limited to an indexed annual exclusion ($194,000 for 2026 under Rev. Proc. 2025-32).
• Charitable deduction (§2522). Gifts to qualifying charities are deductible in full from the gift-tax base.
• Medical and tuition exclusion (§2503(e)). Payments made directly to a medical care provider or to an educational institution for tuition are not taxable gifts, regardless of amount. The payment must be direct; reimbursement to the donee does not qualify.
• Crummey powers. Gifts in trust qualify for the annual exclusion only if the beneficiary has a present interest. The standard solution is the Crummey withdrawal right — a beneficiary's right to withdraw the contribution within a defined period — established in Crummey v. Commissioner, 397 F.2d 82 (9th Cir. 1968).
• §2702 special valuation rules. Transfers to a family member of an interest in trust, where the donor retains an interest, are valued under §2702 — generally with the retained interest valued at zero unless it is a qualified annuity or unitrust interest. The rule constrains intra-family GRAT and similar planning.

Valuation

The gift-tax base is the fair market value of the property on the date of the gift, defined by Treas. Reg. §25.2512-1 as "the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell, and both having reasonable knowledge of relevant facts."

For luxury-asset transfers, valuation is the principal field of dispute with the IRS. The Service maintains:

• An Art Advisory Panel — see the Art Advisory Panel entry — which reviews charitable-deduction and gift/estate appraisals of art at and above defined dollar thresholds.
• Engineering and valuation specialists — internal IRS appraisers and engineers who review appraisals of closely held interests, real property, and other assets.
• External appraiser standards — qualified appraiser and qualified appraisal definitions at Treas. Reg. §1.170A-17 (charitable), and the "adequate disclosure" rules for gift-tax returns at Treas. Reg. §301.6501(c)-1(f), which start the statute of limitations on a reported gift.

Disputes routinely arise around valuation discounts — particularly for fractional interests in art, family-limited-partnership interests holding real estate or marketable securities, and minority interests in closely held entities. The courts have generated extensive case law on the permissible level of discount: Estate of Bonner v. United States, 84 F.3d 196 (5th Cir. 1996), holding that fractional interests held outright and through a QTIP trust are valued separately (without merger), so fractional-interest discounts can apply; Estate of Elkins v. Commissioner, 767 F.3d 443 (5th Cir. 2014), on art fractional interests at substantial discounts; and the long line of family-limited-partnership cases on minority and marketability discounts.

Interaction with other regimes

• Estate tax. Lifetime taxable gifts are added back to the taxable estate for tax computation. The unified credit applies once.
• GST tax. A gift to a "skip person" (a grandchild or more remote descendant) triggers GST tax in addition to gift tax. The GST exemption is allocated separately.
• Basis. Donee takes carryover basis (donor's basis) under §1015 for income-tax purposes, with adjustment for gift tax paid attributable to appreciation. Donee's holding period tacks. This is in sharp contrast to the §1014 step-up at death.
• State gift tax. Connecticut is the only state with a separate gift tax, unified with its estate tax. A few estate-tax states (for example, New York) add back certain taxable gifts made within three years of death when computing the state estate tax.
• Income tax on the donor. A pure gift does not trigger gain to the donor. A sale-disguised-as-gift (a transfer for less than fair value) triggers income on the consideration received, with the gift element separately taxed.

Common planning approaches

• Annual exclusion gifting. The exclusion is "use it or lose it." A married couple with four children and four grandchildren can shelter eight donees × two donors × the annual exclusion each year — meaningful numbers compounded over decades.
• Lifetime use of unified credit. A donor with the full 2026 exclusion of $15 million may make $15 million of lifetime taxable gifts without paying gift tax, removing those assets and all subsequent appreciation from the estate.
• Grantor-retained annuity trust (GRAT). Under §2702, a GRAT with a qualified annuity has a low gift value (often near zero in a "zeroed-out GRAT"), allowing growth in excess of the §7520 rate to pass tax-free to remainder beneficiaries.
• Installment sale to defective grantor trust. Sale to an intentionally defective grantor trust for a note bearing the AFR moves future appreciation to the trust with minimal gift element.
• Family limited partnership / LLC. Hold luxury assets in an entity; gift interests in the entity, claiming valuation discounts for lack of control and lack of marketability. The position is heavily scrutinized but well-grounded in case law.
• Charitable lead trust. Combines current charitable gift-tax deduction with deferred transfer to family members at reduced gift value.

Recent developments

The scheduled end-2025 sunset of the doubled basic exclusion amount was overtaken by the One Big Beautiful Bill Act (Pub. L. 119-21, signed 4 July 2025), which set the exclusion at $15,000,000 for 2026, indexed thereafter, without a sunset. The annual exclusion is $19,000 for 2026 (Rev. Proc. 2025-32). The anti-clawback regulation (Treas. Reg. §20.2010-1(c)) continues to protect gifts made under a higher exclusion should a future law reduce it.

Corporate Transparency Act reporting (see beneficial-ownership reporting) no longer applies to U.S.-formed family LLCs and partnerships: FinCEN's March 2025 interim final rule limited the requirement to foreign entities registered to do business in a state. Trusts were not themselves reporting companies.

Reviewed October 2026