Pinnacle Estate Planning

By JASON GRAY

Pinnacle Law PLLC

    When it comes to passing wealth to future generations, there are two primary options: gifting assets during your lifetime or allowing your heirs to inherit them after your death. Each approach has distinct advantages and disadvantages, particularly when it comes to taxes.

Lifetime Gifting: The Advantages and Tax Considerations

    Lifetime gifting involves transferring assets to your beneficiaries while you are still alive. This approach can be beneficial for both the donor and the recipient, but it’s crucial to understand the tax rules that apply.

Gift Tax Exemption

    Under current federal law, individuals are allowed to gift a certain amount to others without incurring any gift tax. In 2025, the annual gift tax exclusion allows an individual to gift up to $19,000 per person per year without triggering gift tax or reducing their lifetime exemption. Gifts above this amount may be subject to the federal gift tax, which ranges from 18% to 40%, depending on the value of the gift. However, lifetime gifts in excess of the annual exclusion count against the donor’s lifetime exemption,.

Lifetime gifts can also be an effective way to reduce the taxable value of your estate.   By gifting assets while you are alive, you lower the size of your estate, which may reduce the estate tax burden upon your death. This is especially important for those with estates that exceed the federal estate tax exemption. If your estate exceeds the exemption limit, any portion above that threshold may be subject to estate tax, which can be as high as 40%.

The Drawback: Capital Gains Tax

    While gifting assets can reduce your estate tax liability, it can trigger capital gains tax for the recipient. When you give appreciated assets—such as stocks or real estate—to a family member, the recipient generally takes on your cost basis (the original purchase price of the asset).   This means that if the recipient later sells the asset, they will owe capital gains tax on the difference between the sale price and the original purchase price, potentially leading to a significant tax bill.

    For example, if you purchased a piece of property for $100,000 and it’s now worth $500,000, your child will inherit the property at your original purchase price, not the current market value. If your child later sells the property for $500,000, they would face capital gains taxes on the $400,000 appreciation. This can be a significant tax burden, especially on large gifts of appreciated assets.

Inheriting Assets: The Benefits of Step-Up in Basis

    In contrast to lifetime gifting, inheritance has a key tax advantage known as the “step-up in basis.” When your heirs inherit assets, the cost basis of those assets is typically adjusted to their fair market value on the date of your death. This means that if the asset has appreciated in value over time, your heirs avoid paying capital gains tax on the appreciation that occurred during your lifetime.

    Using the previous example, if your child inherits the same property worth $500,000 at the time of your death, their cost basis would be stepped up to the $500,000 market value. If your child later sells the property for $500,000, there would be no capital gains tax, as there has been no increase in value since they inherited it. This step-up in basis can lead to significant tax savings, especially for assets that have appreciated substantially over time.

Estate Tax Implications

    While inheriting assets can reduce the capital gains tax burden, it doesn’t necessarily shield your estate from estate taxes. If your estate is large enough to exceed the estate tax exemption, the portion of your estate above that threshold will be subject to estate tax. However, unlike gift taxes, the estate tax exemption is not reduced by lifetime gifts, meaning you can pass on more wealth to your heirs without incurring estate tax by waiting until after your death to transfer assets.

Strategic Considerations

    The decision between gifting assets during your lifetime or allowing heirs to inherit them is not straightforward. A strategy that may be advantageous for one family might not work as well for another.

Conclusion

    Ultimately, understanding these tax implications is crucial to making the best decision for your family’s future. Working with a qualified estate planner can help you navigate these complex rules and develop a strategy that aligns with your goals and financial situation.

*This article is for informational purposes only and should not be construed as legal or financial advice.