Transfer Tax

Transfer Tax Definition

Transfer Tax is defined as a charge imposed on the transferor of a particular asset, including real estate or other revenue-generating assets at the time of transfer of such asset to a transferee and is generally included in the cost of such asset at the time of its sale.

Calculating Transfer Tax

Transfer tax can be a fixed amount or percentage of the original cost of the asset, depending upon the terms and conditions set at the time of the original purchase or as per legal norms. Calculation of Transfer tax depends upon the market value of the asset and the State where it belongs.

  • It includes the legal costs and charges included in such transfer fixed by the legal departments, without any hidden or contingent charges.
  • In case of transfer of property after death, these taxes are referred to as estate taxes, which as per the IRS in the U.S., is applied after a base limit of $11.4 million (as of the year 2019).
  • In case of transfer, while the transferor is alive, these taxes are referred to as inheritance or gift taxes and levied upon acquiring individuals. Inheritance/Gift taxes are levied on asset value greater than $15,000 or cash in such amount to other individuals and are eligible as and when an asset is transferred.

Transfer Tax

Federal Tax Limits for New York in the U.S. (2019)

Transfer Tax - Fedral Tax Limit

Source: Public Leginfo 

Examples of Transfer Tax

You can download this Transfer Tax Excel Template here – Transfer Tax Excel Template

Example #1

Miss Anne wishes to exit from her investments in sovereign bonds by transferring the same to her niece. The current price of this bond is $120, and the transfer tax to be paid is 5% of the current market price as per instrument documents. Considering that Miss Anne paid $100 to purchase this bond, how much tax does she pay, and what is her profit made on this investment (if any) apart from coupons received at earlier intervals?

Solution:

Total amount invested: $100

Current market price of the bond: $120

Transfer tax to be paid: 5% of $120 or $6

Total amount paid by Miss Anne: $100 + $6 = $106

Profit received after transfer of bond: $120 – $106 = $14

Example #2

Mr. John wishes to gift his daughter with a car worth $10,000. However, he is worried that a gift tax may be levied on this transfer as per the government legislation. Can you advise him about the calculation of such a tax on this deal?

Solution:

As the value of this transfer is $10,000, which is below the required threshold of $15,000 in a year to be eligible for payment of gift tax, this transaction is not eligible for any gift tax. No transfer tax is levied on this transaction.

Example #3

After Maria’s death, assets worth $12 million were left behind for her heir. Calculate the estate taxes to be paid by her heir upon inheriting the assets.

Solution:

As per the estate tax minimum threshold of $11.4 million, the transfer is eligible for an estate tax.

Below is the calculation for the same:

$11,400,000: Nil taxes

First $500,000: 3.06% of $500,000 = $15,300

Remaining $100,000: 5% of $100,000 = $5,000

Transfer Tax - Example 3

Hence total transfer taxes to be paid

  • = $15,300 + $5,000
  • = $20,300

Please refer excel sheet for calculation.

Advantages

  • Transfer taxes are an additional revenue-generating source of income for the State, in addition to the other determined sources of income.
  • These taxes may be evenly or proportionately distributed between the transferor and transferee depending upon mutual negotiations, hence do not form burdensome on one of the parties.
  • The limit set on the value of the asset before application of such charge is on a higher side, which avoids smaller transactions to get included in the applicability and thus is helpful to both minimize payment on the side of the transferee and reduce paper-work on the side of collection center.

Disadvantages

  • Due to loopholes in the implementation of such taxes, like a waiver to a spouse in case of estate taxes, eligibility only beyond the base limit, etc., owners of such assets may take advantage and manipulate the payment of such taxes.
  • Serves as an additional cost to the actual value of the asset, which sometimes causes avoidance of such transfers as it increases the cost of the transfer.
  • These taxes are calculated on the current market value of such assets. Hence, transfer tax paid (if any) at the time of acquiring the asset will be different from that paid at the time of passing on and will be higher in value.

Limitations

  • The calculation of transfer taxes is dependent on the value of such assets as of a particular date. Hence, fluctuates in cases of forthcoming events on the land where such asset belongs. For example, consider a villa is to be transferred value of which, as of today, is $2 million. Due to specific political events and outbursts of the crowd, the value goes down in the coming week to $1.5 million or lower, and the owner now wishes to make a distress sale. Even though the profit margin goes down, transfer taxes also go down in such cases.
  • A significant limitation on the part of collection service is the base limits set on the calculation of such taxes.
  • In case of gift taxes, the transferor is charged with such amount and not the receiver of such gift.

Important Points to Note

The base value for such taxes changes every year, although not huge fluctuations. Additionally, it changes with state legislation, varies from location to location. There are a few states which may not even levy such charges on any transfer.

Conclusion

Transfer taxes are a part of the significant revenue-generating fields for the State. This revenue is in addition to other sources and is an additional income to the government. However, loopholes in the execution of such legislation are often taken advantage of by property owners in order to avoid/reduce the payment of such taxes.

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This article has been a guide to what is Transfer Tax and its definition. Here we discuss how to calculate transfer tax along with examples, advantages, and disadvantages. You may also have a look at the following articles –

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