IRC 102: Tax Rules for Gifts and Inheritances Explained
Understand how IRC 102 defines the tax treatment of gifts and inheritances, including key exclusions, exceptions, and reporting requirements.
Understanding how gifts and inheritances are taxed can be confusing. While many assume receiving money or property automatically triggers a tax bill, U.S. tax law treats these transfers differently than regular income. An important exclusion often benefits individuals without them realizing it.
This article breaks down the key rules under Internal Revenue Code Section 102, which governs the taxation of gifts and inheritances, providing essential knowledge for anyone receiving or giving significant assets.
Purpose of IRC 102
Internal Revenue Code Section 102 excludes the value of property received as a gift, bequest, devise, or inheritance from the recipient’s federal gross income.1Legal Information Institute. 26 U.S. Code § 102 – Gifts and Inheritances Generally, you do not need to report the value of assets received this way as income on your federal tax return.
This exclusion is notable because gross income, as defined broadly under the tax code, includes “all income from whatever source derived,” unless specifically excluded.2Legal Information Institute. 26 CFR § 1.61-1 – Gross Income Without Section 102, gifts and inheritances might otherwise be considered taxable income to the recipient. This provision prevents such treatment, reflecting tax policy considerations like avoiding double taxation (since the transfer might be subject to estate or gift tax for the giver) and aligning with social norms about these transfers.
Types of Transfers It Covers
Section 102 applies to property acquired through gifts, bequests, devises, and inheritances. This covers a wide range of assets, including cash, stocks, bonds, real estate, and artwork.
A “gift” is a transfer made during the donor’s lifetime, stemming from what the Supreme Court in Commissioner v. Duberstein described as “detached and disinterested generosity.” The focus is on the giver’s intent, assessed objectively; it should not be compensation for services or made with an expectation of receiving something equivalent in return.
“Bequest,” “devise,” and “inheritance” relate to transfers at death. A bequest typically involves personal property (like cash or securities) passed through a will, while a devise usually refers to real property transferred via a will. An inheritance is property received when someone dies without a will (intestate), distributed according to state law. Regardless of the method, the value received by the beneficiary is generally excluded from their gross income.3Electronic Code of Federal Regulations. 26 CFR 1.102-1 – Gifts and Inheritances
Exceptions to the Exclusions
The exclusion for gifts and inheritances is not absolute. Certain related amounts can still be subject to federal income tax.
Income generated from the gifted or inherited property is one primary exception. While the value of the property itself (like stock shares or a rental building) is excluded, subsequent earnings are generally taxable to the recipient. For example, interest paid on inherited bonds or rent collected from inherited property after receipt must be included in the recipient’s gross income.4Legal Information Institute. 26 CFR § 1.102-1 – Gifts and Inheritances This applies whether the gift was the property itself or specifically the income produced by it.
Another exception involves transfers from employers to employees.5Internal Revenue Service. IRS PMTA 2001-0591: Employer Payments to Surviving Spouse Under IRC 102 The tax code generally presumes such transfers are compensation, not gifts motivated by generosity. Therefore, items like cash bonuses or valuable awards from an employer are usually taxable income to the employee, unless they qualify under specific, limited exclusions for minor fringe benefits or certain achievement awards. An exception might exist in rare cases involving family relationships overlapping with employment, but requires strong evidence that the transfer relates primarily to the family connection.
Furthermore, the rules for “Income in Respect of a Decedent” (IRD) under Internal Revenue Code Section 691 interact with inheritances. IRD includes income the deceased person had earned or was entitled to but had not received before death, such as unpaid salary, bonuses, or distributions from traditional retirement accounts. When a beneficiary inherits the right to receive this income, the amounts are generally taxed as income to the beneficiary when received, retaining the same character (e.g., ordinary income) it would have had for the decedent. This differs from the tax-free receipt of the inherited property’s value itself.
Tax Return Reporting
Recipients of gifts or inheritances generally do not report the value of the received property as income on their federal income tax return, Form 1040. The act of receiving the asset typically has no immediate federal income tax consequence for the beneficiary.
Instead, reporting responsibilities often fall on the person giving the gift or the estate of the deceased. For lifetime gifts, the donor must generally file Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return, if gifts to any one person (other than a U.S. citizen spouse) exceed the annual exclusion amount ($18,000 per recipient for 2024).6Internal Revenue Service. Instructions for Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return The annual exclusion amount is adjusted periodically for inflation.7Internal Revenue Service. IRS Provides Tax Inflation Adjustments for Tax Year 2024 Filing may be required even if no tax is due because of the lifetime gift and estate tax exemption.8Internal Revenue Service. Frequently Asked Questions on Gift Taxes Form 709 is typically due by April 15th of the year after the gift.
For transfers at death, the executor of the estate files Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return, if the estate’s value plus prior taxable gifts exceeds the federal estate tax exemption ($13.61 million for deaths in 2024). If the estate is below this threshold, Form 706 is usually not required unless needed to elect “portability” of the unused exemption for a surviving spouse. Form 706 is generally due nine months after death, though extensions are possible.
A specific reporting requirement applies to recipients of certain foreign gifts and inheritances. U.S. persons receiving gifts or bequests from foreign sources may need to file Form 3520, Annual Return To Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts. Reporting is generally required for aggregate gifts over $100,000 from a nonresident alien individual or foreign estate, or over $19,570 (for 2024, adjusted annually) from foreign corporations or partnerships. Form 3520 is informational and doesn’t mean tax is due on the gift, but failure to file can lead to penalties. It shares the April 15th deadline with income tax returns.
Therefore, while reporting may be required from the donor (Form 709), the estate (Form 706), or the recipient for large foreign gifts (Form 3520), the value of the gift or inheritance itself is generally excluded from the recipient’s income and not reported on their Form 1040. Subsequent events, like selling inherited property or receiving distributable income from an estate or trust (reported via Schedule K-1), trigger separate reporting requirements related to capital gains or income distributions, not the initial receipt of the asset’s value.