What Is the Basic Exclusion Amount and How Does It Work?

The basic exclusion amount is a federal tax provision allowing an individual to transfer a specific amount of assets without paying federal gift or estate tax. The Internal Revenue Service (IRS) adjusts this amount annually for inflation, and for 2025, it is projected to be $13.99 million per individual. A person can transfer up to this total amount during their lifetime as gifts or at death as an inheritance, free from federal tax. Any amounts transferred above this exclusion can be taxed at rates as high as 40%.

The Unified Credit and Lifetime Application

The federal tax system treats gifts made during life and transfers made at death under a single, unified framework. The basic exclusion amount is tied to a tax credit known as the unified credit. This credit is applied against the gift or estate tax calculated on transfers, making those transfers tax-free up to the exclusion limit.

The lifetime basic exclusion amount is different from the annual gift tax exclusion. For 2025, it is projected that an individual can give up to $19,000 to any number of people without tax consequences. These annual exclusion gifts do not need to be reported on a gift tax return and do not reduce the amount you can transfer tax-free over your lifetime.

When an individual makes a taxable gift that exceeds the annual exclusion amount to a single person, they must file a federal gift tax return, Form 709. This return reports the taxable portion of the gift, which then reduces the individual’s remaining lifetime basic exclusion amount. For example, if a person gives a non-spouse relative $1,019,000 in 2025, the first $19,000 is covered by the annual exclusion. The remaining $1,000,000 is a taxable gift that reduces their available lifetime exclusion from $13.99 million to $12.99 million.

Application at Death

When an individual passes away, the remaining portion of their basic exclusion amount is applied to their taxable estate. The executor of the estate calculates the value of the decedent’s gross estate, which includes all assets owned at death, such as real estate, investments, and personal property. From this gross value, certain deductions are subtracted, including debts, funeral expenses, and administrative costs, to arrive at the taxable estate.

The next step involves accounting for any lifetime taxable gifts by subtracting the used portion of the exclusion from the amount available in the year of death. This remaining exclusion is then applied against the taxable estate. If the taxable estate is less than the available exclusion, no federal estate tax is due.

For instance, consider an individual who dies in 2025 with a taxable estate of $15 million. If they had previously used $2 million of their basic exclusion for lifetime gifts, their remaining exclusion would be $11.99 million ($13.99 million – $2 million). The estate would then owe federal estate tax on the $3.01 million that exceeds this remaining exclusion. This calculation is reported on Form 706, the United States Estate (and Generation-Skipping Transfer) Tax Return.

Portability for Married Couples

Federal tax law includes a provision called “portability,” which allows a surviving spouse to use any unused portion of their deceased spouse’s basic exclusion amount. This unused portion is referred to as the Deceased Spousal Unused Exclusion (DSUE). Portability combines the exclusion amounts of a married couple, allowing them to shield more assets from federal estate and gift taxes.

For example, if the first spouse to die has a taxable estate of $4 million and dies in 2025, they would use $4 million of their $13.99 million exclusion. The remaining $9.99 million is their DSUE amount. Through portability, this unused exclusion can be transferred to the surviving spouse for their future use.

The surviving spouse can then add this DSUE amount to their own basic exclusion amount. This gives the survivor a larger total exclusion to apply to their own subsequent gifts or to their estate at death. Continuing the example, the surviving spouse would have their own $13.99 million exclusion plus the $9.99 million DSUE, for a total available exclusion of $23.98 million, subject to inflation adjustments.

Electing and Using the Deceased Spousal Unused Exclusion

The transfer of a deceased spouse’s unused exclusion is not automatic; it must be elected. To secure the DSUE amount, the executor of the deceased spouse’s estate must file a complete and timely Form 706. This requirement applies even if the deceased spouse’s estate is not large enough to owe any federal estate tax.

The deadline for filing Form 706 to elect portability is nine months after the date of death, with a possible six-month extension. The IRS has also provided a simplified method for obtaining an extension to elect portability, allowing it to be made up to five years after the decedent’s death in many cases. This relief procedure is intended to help families who were unaware of the filing requirement.

On Form 706, the executor must calculate the value of the DSUE amount and explicitly state that they are electing portability. This calculation requires a full accounting of the deceased spouse’s assets and any lifetime taxable gifts they made. Once the election is properly made, the IRS will recognize the DSUE amount for the surviving spouse’s use.

When the surviving spouse later makes a large gift or passes away, the DSUE amount is the first part of their total exclusion to be applied. It is used before the surviving spouse’s own basic exclusion amount. This ordering rule is important for tracking purposes and ensures that the inherited exclusion is utilized first.

State-Level Considerations and the Federal Sunset Provision

Many states have their own separate estate or inheritance taxes, which operate independently of the federal system. These state-level taxes often have much lower exemption amounts than the federal government’s, sometimes as low as $1 million. The rules for these taxes can also differ significantly.

A primary distinction is that the federal concept of portability does not apply to state estate tax exemptions. A surviving spouse cannot add their deceased spouse’s unused state exemption to their own. This means an estate could be completely exempt from federal tax but still owe a substantial amount of state estate tax.

Furthermore, the current high federal basic exclusion amount is temporary due to a “sunset” provision in the Tax Cuts and Jobs Act of 2017. If Congress does not act, the law will expire at the end of 2025. On January 1, 2026, the basic exclusion amount is scheduled to revert to its pre-2017 level of $5 million, adjusted for inflation, which is estimated to be around $7 million.

This scheduled reduction has significant implications for long-term estate planning. The IRS has issued regulations confirming that individuals who make large gifts using the current, higher exclusion amount will not be penalized if the exclusion is lower at the time of their death. This provides a window of opportunity for individuals to utilize the larger exemption before it is potentially reduced.