Estate and Gift Tax: Essential Considerations

Navigating the complexities of federal estate and gift tax planning can feel overwhelming.  

The estate planning and tax specialists at Mercer Advisors can help you understand the tax rules as part of a comprehensive wealth management solution. They also offer estate planning strategies and gifting guidance to help reduce your overall tax burden. 

Unlocking the dynamics of federal estate and gift taxes: What you need to know

In the realm of federal estate and gift taxes, the spotlight often falls on the giver or decedent, rather than the recipient. Why? Because typically, the recipient isn’t responsible for federal estate or gift tax payments, regardless of the gift’s size or timing. Instead, it’s the donor or the decedent’s estate that bears the tax burden and reporting obligations. 

These taxes, enshrined in Subtitle B of the Internal Revenue Code (IRC) represent two sides of the same coin, intricately linked yet often misunderstood. Sharing a common lifetime exemption ($15 million in 2026) and tax rates, they are more intertwined than meets the eye. 

Consider the parallels: transfers between spouses, for instance, are exempt from taxation, whether during one’s lifetime or at death, thanks to the IRC provisions. The transfer from one spouse to another is a gift, but it’s a gift that’s fully deductible for gift tax purposes. 

Similarly, a decedent can leave an unlimited amount to their spouse at death without the transfer being subject to estate tax. This is known as the estate tax unlimited marital deduction. 

Here’s another similarity. If someone passes away with a total net worth above the estate tax threshold, their executor must file an estate tax return (Form 706) and pay an estate tax bill at a tax rate of 40% on the excess amount. 

What’s perhaps less well-known is that lifetime gifts above that same threshold will require the donor of the gift to file a gift tax return (Form 709) and pay a gift tax bill at that same 40% rate on the excess amount.  

Designed to complement each other, estate and gift taxes operate in tandem, with strategies benefiting one often impacting the other. 

Picture this: an individual with a $30 million estate opts to gift their entire wealth to their children to avoid estate tax. While their estate tax liability vanishes, the lifetime transfer triggers a hefty gift tax bill at the same 40% rate, payable immediately. In fact, the gift tax was enacted to prevent taxpayers from avoiding estate tax by simply gifting away their wealth before they died. 

Understanding this intricate relationship is pivotal in developing a comprehensive plan to minimize the combined tax burden. 

Navigating estate tax thresholds: Understanding the impact on tax liability

If a taxpayer’s estate is equal to or less than the exemption amount upon their passing, no estate tax is owed. However, for estates exceeding this threshold, only the excess is taxed at a rate of 40%. 

For instance, if a decedent dies in 2026 with an estate valued at $16 million, the estate owes 40% estate tax on the $1 million exceeding the 2026 estate tax exemption of $15 million. 

Now let’s delve into the lifetime exemption amount as applied to the gift tax. Had the same taxpayer gifted their $16 million estate while alive in 2026, they would face 40% gift tax on the same $1 million. Whether transferred during life or at death, only the portion exceeding the exemption is taxable. If the taxpayer had instead gifted $1 million, their lifetime exemption would be reduced to $14 million. Additional gifts can then be made, up to the exemption amount, before any gift tax would be owed. 

While estate and gift taxes are in many ways the same tax applied at different times (the gift tax during life and the estate tax at death), they operate independently.  

In our example, the $1 million exceeding the lifetime exemption would be subject to either gift tax if transferred during life or estate tax if transferred at death — but never both. Understanding these dynamics is key to strategic tax planning. 

Maximizing benefits with the gift tax annual exclusion limit

The gift tax annual exclusion limit is a crucial figure that operates independently from estate tax rules, yet plays a vital role in long-term financial planning. This limit is the maximum amount an individual can gift annually to another person without incurring gift tax liabilities or a gift tax reporting requirement. 

Like the lifetime exemption amount, the gift tax annual exclusion limit is adjusted for inflation, typically increasing by $1,000 every one to three years. As of 2026, the limit stands at $19,000. 

For instance, a $1 million gift falls within the $15 million lifetime exemption as of 2026, rendering it tax-free but necessitating reporting on a gift tax return (Form 709) and impacting the donor’s lifetime exemption. Conversely, gifts within the $19,000 annual exclusion limit require no reporting and do not reduce the donor’s lifetime exemption. 

Taken together, the lifetime exemption and annual exclusion create three categories of gifts (applying the 2025 lifetime exemption and annual exclusion amounts): 

Gift Amount	Taxable	Reporting Requirement	Lifetime Exemption
$19,000 or less	No	No	No effect
$19,001 – $15,000,000	No*	Yes	Reduces exemption
Greater than $15,000,000	Yes (40% on excess)	Yes	All exemption used

*Even though no tax is actually owed, gifts above the annual exclusion amount are commonly called “taxable gifts” in IRS parlance, which can cause confusion. 

Gifts in excess of the annual exclusion amount must be reported using Form 709. These reported gifts are aggregated, and all prior reported gifts must be factored in whenever a new reportable gift is made, and when the donor passes way.  

For example, if someone died in 2026 with an estate valued at $11 million, they would normally not owe any estate tax since their estate is under the $15 million exemption amount. However, if that individual had previously gifted away $5 million in reported gifts, their lifetime gift tax exemption is now only $10 million, and they would owe 40% estate tax on $1 million (their $11 million estate, less their available $10 million lifetime exemption).  

Leveraging portability: Optimizing lifetime tax exemption strategies

The lifetime exemption amount applies individually, granting each taxpayer their own exemption amount. Estate tax laws enacted in 2011 enable married couples to combine their exemptions through “portability.” This lets a surviving spouse inherit the unused exemption from their deceased spouse. This is called the Deceased Spouse’s Unused Exemption (or “DSUE”) amount. 

For instance, if one spouse dies in 2026 without using their exemption, their DSUE of $15 million can transfer to the surviving spouse, doubling their lifetime exemption to $30 million. In each subsequent year, the surviving spouse’s $15 million exemption will increase with inflation. However, the DSUE amount will remain fixed at $15 million. 

Strategic estate planning for high net worth individuals often involves leveraging both lifetime exemptions and portability rules. While preserving the maximum portability amount for the surviving spouse may be advantageous in some scenarios, others might benefit from utilizing or “burning” portions of the deceased spouse’s exemption by funding a credit shelter trust or making gifts to beneficiaries other than the surviving spouse. 

Portability is not automatic. An estate tax return (Form 706) must be filed to make a portability election. This form must be filed within 9 months after the date of death, with a 6-,month extension available upon request.  

If the value of the deceased spouse’s estate exceeds the exemption amount, then the 15 month deadline (9 months plus a 6 month extension) is absolute, and a portability election cannot be made if the deadline is missed. However, If the estate is equal to or less than the exemption, then a 5-year deadline generally applies for the portability election. Consulting with a professional can help you avoid common pitfalls in gift and estate tax planning. 

The bottom line

For individuals and families grappling with federal estate and gift tax concerns, strategic planning by knowledgeable legal, tax, and financial advisors is often crucial to help minimize the overall tax impact.  

Given the complexity of many tax strategies which demand thorough consideration and implementation lead time, we recommend starting the conversation with your trusted wealth advisor now.  

Not a Mercer Advisors client, but interested in learning more about estate tax and gift tax planning as part of a comprehensive wealth management solution? Let’s talk.