What Are The Tax Implications of Transferring Assets Before Death?

Transferring assets before death, often referred to as lifetime gifting, can have significant tax implications. These transfers can be subject to various taxes, including gift tax, capital gains tax, and estate tax, depending on the value and nature of the assets transferred. Understanding these implications is critical for effective estate planning and minimizing the tax burden on beneficiaries.

Tax Implications:

Gift Tax:

When assets are transferred during a person's lifetime, the IRS may impose a gift tax. This tax is applicable when the value of the gift exceeds the annual gift tax exclusion (currently around $17,000 per recipient as of 2025). The individual giving the gift may need to file a gift tax return, although gift tax liability can often be deferred using the lifetime gift exemption.

Estate Tax Impact:

Transferring assets before death may reduce the taxable estate, potentially lowering the estate tax liability upon death. However, large gifts can reduce the individual’s lifetime estate tax exemption. The total of taxable gifts made during a person’s lifetime is added to their estate at death for estate tax purposes.

Capital Gains Tax:

If assets are transferred before death and the asset appreciates in value, the recipient may inherit the asset with a stepped-up basis (the fair market value of the asset at the date of death). However, if the asset is transferred during the giver's lifetime, the recipient assumes the giver’s original cost basis, which could result in a higher capital gains tax liability when the asset is sold.

State-Specific Taxes:

Some states impose their own gift or inheritance taxes, which can complicate the transfer of assets. It's important to check the local tax laws to understand any state-specific implications.

Steps to Minimize Taxes:

Use the Annual Gift Exclusion:

To avoid gift taxes, consider giving gifts within the annual gift exclusion limit, which allows you to transfer up to a specified amount to each recipient without incurring gift tax.

Maximize the Lifetime Gift Exemption:

Take advantage of the lifetime gift exemption to transfer larger amounts without incurring gift tax. However, keep in mind that this reduces your estate tax exemption.

Consider Setting Up Trusts:

Placing assets in a trust can provide both tax benefits and asset protection. Certain types of trusts, such as irrevocable trusts, can reduce the size of your estate, thus lowering potential estate tax liabilities.

Consult a Tax Advisor:

Tax laws are complex and constantly changing. It’s crucial to consult with a tax professional or estate planning attorney to develop a strategy that minimizes tax implications.

Example:

If an individual transfers a piece of real estate valued at $500,000 to a child during their lifetime, and the child later sells the property for $600,000, the capital gains tax is based on the original purchase price of the property (assuming no stepped-up basis). If the individual had kept the property until death and transferred it through the estate, the child could benefit from a stepped-up basis, potentially avoiding a significant capital gains tax.

By transferring assets before death, however, the individual might reduce their estate size, potentially saving on estate taxes, but they could also incur gift tax or lose the stepped-up basis advantage for the beneficiary. Proper planning with a tax advisor would help balance these outcomes.