Transferring Properties Amongst Family Members: The New Tax Trap

Current tax laws provide an unprecedented opportunity allowing for the transfer of $5,120,000. On top of this phenomenal transfer of wealth opportunity, the law also allows each person to make annual gifts up to $13,000 to any donee without having to report to the IRS. To this end, in many of my discussions with clients regarding prior gifts, I have been surprised to find that gifts involving the transfer of real property went unreported to the IRS. In essence, gift tax returns were not filed for gifts in excess of the $13,000 gift exclusion.

The IRS was denied their effort to gain information about Californian residents who transferred real property from parents to children or grandparents to grandchildren that were made for less than fair and adequate consideration. This encompassed all gifts from January 2005 to December 2010. The IRS claim was that an estimated 50-90% of the individuals within this class had not filed the gift tax return form 709, reporting gifts in excess of $13,000 per person, per year.

The court denied the IRS request, stating that it had serious concerns about the summons for multiple reasons; however, in the end the government was able to convince the court of the legitimacy regarding the request for information. The court has since granted relief pursuant to a revised summons which now allows the IRS to access information from the state.

If you have failed to report taxable gifts on transfers of property, then you might want to reconsider this decision. Currently there is no penalty for late filing if no tax is owed on the gift. If you file you begin the three year statute of limitations for revaluing the gift.

Entities which hold real estate such as corporations, LLCs, etc., of which gifts have been made without filing the requisite gift tax return may also become problematic. The California Board of Equalization is currently in the process of amending there statutes to require legal entities which hold real estate to file a change of ownership statement within 90 days of the date of a change of ownership or control in the entity.

This is the perfect time to clean up any unreported gifts, especially if you are going to take advantage of your current $5,120,000 lifetime gift exclusion. You will want to make sure you have captured all prior unreported gifts since gift exclusions are cumulative. In all likelihood there will not be any penalties, but it is imperative you accurately report since the IRS will now be working with the states to find those tax payers who have not been in compliance.