11.4 Gifts and Inheritances

Gifts and inheritances you receive are not taxable. However, distributions taken from an inherited traditional IRA (8.14), and distributions from inherited qualified plan accounts such as 401(k) and profit-sharing plan accounts (7.14), are taxable, except for amounts attributable to nondeductible contributions made by the deceased account owner.

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image Planning Reminder
Gifts You Make
You may have to file a gift tax return if your gifts to an individual within the year exceed the annual gift tax exclusion, which for 2012 was $13,000 (39.2).
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Income earned from gift or inherited property after you receive it is taxable.

Describing a payment as a gift or inheritance will not necessarily shield it from tax if it is, in fact, a payment for your services. Treatment of gifts to employees is covered in Chapter 2 (2.4).

A sale of an expected inheritance from a living person is taxable as ordinary income.

EXAMPLES
1. An employee is promised by his employer that he will be remembered in his will if he continues to work for him. The employer dies but fails to mention the employee in his will. The employee sues the estate, which settles his claim. The settlement is taxable.
2. A nephew left his uncle a bequest of $200,000. In another clause of the will, the uncle was appointed executor, and the bequest of the $200,000 was described as being made in lieu of all commissions to which he would otherwise be entitled as executor. The bequest is considered tax-free income. It was not conditioned upon the uncle performing as executor. If the will had made the bequest contingent upon the uncle’s acting as executor, the $200,000 would have been taxed.
3. An attorney performed services for a friend without expectation of pay. The friend died and in his will left the attorney a bequest in appreciation for his services. The payment was considered a tax-free bequest. The amount was not bargained for.
4. A lawyer agreed to handle a client’s legal affairs without charge; she promised to leave him securities. Twenty years later, under her will, the lawyer inherited the securities. The IRS taxed the bequest as pay. Both he and the client expected that he would be paid for legal services. If the client meant to make a bequest from their agreement, she should have said so in her will.
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