Gift Tax Planning for US Citizens in 2012

US citizens living in Canada should consider gifting assets in 2012 to avoid a planned increase in US estate and gift taxes.

At death, a US citizen living in Canada is subject to both Canadian income tax (through the rules related to a deemed disposition at death) and US estate tax. The US estate tax applies to everything the taxpayer owns (that is, US and non-US assets, including those assets that have been subject to deemed disposition at death in Canada). Estate tax is based on the fair market value (not just the increase in value) of all the property held by the taxpayer at his or her death.

It might be thought that the US estate tax does not increase total tax liability because Canadian income tax will be reduced by an equal amount through federal and provincial foreign tax credits. However, the federal credit is limited to the amount of federal tax, which will be less than the US estate tax because the latter is imposed at a high rate on the full value of assets. Further, there is no provincial foreign tax credit for the US estate tax (at least in Ontario and British Columbia: see CRA document no. 2010-0379381E5, September 14, 2010).

One way for an individual to reduce a potential estate tax liability is to give away property during his or her lifetime. However, the United States also has a gift tax regime that applies to any gifts made to individuals other than a spouse who is a US citizen. Although US gift tax rates are the same as the estate tax rates, gift tax planning is possible because of the existence of three exemptions:

  1. the exemption for certain gifts made to prescribed educational institutions or made for medical payments on behalf of a person other than the taxpayer;

  2. the exemption for gifts of US$13,000 per year to an unlimited number of individuals, and US$139,000 per year to a spouse who, not being a US citizen, is not eligible for the unlimited exemption; and

  3. the "unified exemption" (shared between the gift and estate tax regimes).

For 2012, the unified exemption is US$5.12 million, and any excess is taxed at graduated rates of up to 35 percent. Current legislation calls for this exemption to drop to US$1 million and for the top tax rate to rise to 55 percent in 2013. Therefore, there is a powerful incentive to make gifts in 2012. Since legislative action could reverse these changes (subject to the uncertainties of US politics), some advisers may choose to wait until later in the year.

Even if there was no planned decrease in the unified exemption or an increase in the rates, gifting is attractive for another reason. Although the use of the unified exemption during a taxpayer's lifetime reduces his or her estate tax exemption by an equal amount, the value of the property gifted could increase significantly between the time of the gift and the time of death.

To access the exemption, a taxpayer will need to ensure that any gift is completed before the end of 2012 and file a 2012 US gift tax return within the permitted time--that is, at the same time that the taxpayer files his or her US income tax return.

Christopher Gandhu
PricewaterhouseCoopers LLP, Calgary

Canadian Tax Focus
Volume 2, Number 1, February 2012
©2012, Canadian Tax Foundation