Gifting Between Spouses

Gifting Between Spouses: No Tax, but Tracking Basis

Transfers of money and property between spouses are among the most tax-favored transactions in the U.S. tax code. An unlimited marital deduction allows married couples to transfer any amount to each other during life or at death without federal gift or estate tax. No gift tax return is required. No exemption is consumed. The transfer is simply not a taxable event.

This unlimited marital deduction is one of the clearest financial benefits of legal marriage—and it is also one that creates a specific downstream tax problem when it's used carelessly. The transfer itself is tax-free. But the tax basis of the transferred property carries through, and basis matters enormously when the property is eventually sold.

THE UNLIMITED MARITAL DEDUCTION

Under IRC Section 2523, gifts from one spouse to another are eligible for an unlimited marital deduction. A spouse can transfer $5 million in stock, $2 million in real estate, or their entire portfolio to the other spouse with zero gift tax consequence and no filing requirement (as long as the recipient spouse is a U.S. citizen—the rules are different for non-citizen spouses).

This applies to:

- Cash transfers between spouses - Transfers of investment accounts or specific securities - Real property transfers between spouses

- Business interest transfers

- Any other property

It does not consume any of the federal lifetime gift and estate tax exemption ($13.61 million per individual in 2024). Marital gifts exist outside the exemption framework entirely.

For married couples managing estate planning, this means the first spouse's death can transfer the entire estate to the surviving spouse without any estate tax. The estate tax question arrives at the second spouse's death—which is why estate planning for large estates uses additional tools beyond the marital deduction to address the second-death tax exposure.

THE BASIS PROBLEM: WHAT CARRIES THROUGH

The marital deduction exempts the transfer from gift tax. It does not reset the transferred property's cost basis. The recipient spouse inherits the donor spouse's original cost basis.

This is the critical distinction: the transfer is tax-free today, but the embedded capital gain in the transferred property is not forgiven—it is deferred to the recipient's eventual sale.

Example: Spouse A purchased stock in 2008 for $30,000. It's now worth $180,000. Spouse A transfers the stock to Spouse B under the unlimited marital deduction. The transfer costs nothing in gift tax. Spouse B now holds the stock with a $30,000 cost basis. When Spouse B sells the stock at $180,000, Spouse B owes capital gains tax on $150,000 of gain—at the applicable long-term capital gains rate (0%, 15%, or 20% depending on income, plus the 3.8% NIIT for high earners).

The gift was free. The embedded gain was transferred, not eliminated.

WHY THIS MATTERS IN ESTATE PLANNING

The carryover basis rule on gifts interacts with a critical estate planning provision: the stepped-up basis at death. Property included in a deceased person's estate receives a new cost basis equal to its fair market value at the date of death. This stepped-up basis eliminates the embedded capital gain that accrued during the decedent's lifetime.

On the stock in the example above: if Spouse A dies holding the stock rather than gifting it, the stock passes to Spouse B with a stepped-up basis of $180,000. Spouse B can sell immediately at $180,000 and owe zero capital gains tax.

The comparison:

- Spouse A gifts stock to Spouse B: Spouse B's basis is $30,000; future sale of $180,000 generates $150,000 in taxable gain. - Spouse A dies holding stock and bequeaths to Spouse B: Spouse B's basis is $180,000; sale at $180,000 generates zero taxable gain.

The tax cost of gifting appreciated assets during life—rather than holding them to death where the step-up eliminates the gain—is substantial. On $150,000 of gain taxed at 15% long-term capital gains rate: $22,500 in unnecessary tax. At 20% plus 3.8% NIIT: $35,700 in unnecessary tax.

For this reason, gifting highly appreciated assets between spouses during their lifetimes is generally a tax mistake, unless there is a specific reason that outweighs the lost step-up benefit.

WHEN INTERSPOUSAL TRANSFERS MAKE SENSE

Despite the basis concern, interspousal transfers serve legitimate purposes in several scenarios:

Income splitting between spouses in different tax brackets: If Spouse A is in the 37% bracket and Spouse B is in the 22% bracket, transferring income-producing assets (dividend-paying stocks, rental property) to Spouse B reduces the tax rate on that income. The transfer is made without gift tax; future income generated by those assets is taxed at Spouse B's lower rate. The capital gain embedded in transferred appreciated assets remains, but for assets generating ordinary income (dividends, rent) rather than capital gains, the basis issue is less relevant.

Medicaid planning: When one spouse needs nursing home care and the other is the "community spouse," interspousal transfers can be part of a Medicaid planning strategy to preserve assets for the community spouse. Medicaid has complex rules about interspousal transfers; these strategies should always be implemented with the guidance of an elder law attorney.

Equalizing estate exposure: For estates approaching estate tax threshold where portability of the exemption between spouses is used, the optimal allocation of assets between spouses can affect estate tax exposure. Interspousal transfers may be used to move assets to the spouse whose estate will benefit more from specific planning strategies.

Community property equalization: In community property states, property acquired before marriage or received by gift or inheritance is typically separate property. A spouse who wants to equalize assets—converting separate property to community property to facilitate community property planning advantages—may transfer separate property to a joint community property account. Community property receives a full stepped-up basis for both halves at the first spouse's death (unlike common law property, where only the decedent's half gets a step-up), making this conversion potentially advantageous for long-held appreciated assets.

TRACKING BASIS IN A MARRIAGE

For practical financial management within a marriage, basis tracking matters for investments in taxable accounts. When property is transferred between spouses, the receiving spouse inherits the original basis—and that basis information must survive both the transfer and any future account changes.

Investment accounts: When securities are transferred from one spouse's individual account to the other's (or to a joint account), the financial institution should maintain the original purchase date and cost basis information. Modern brokerage systems generally do this automatically when transfers are made in-kind (transferring the securities themselves rather than liquidating and transferring cash).

Verify that basis information transferred correctly after any interspousal transfer. Basis data loss at financial institutions is more common than people expect—if a transfer liquidated and repurchased securities rather than moving them in-kind, the historical basis may be replaced by the new purchase price, which could be either favorable or unfavorable depending on the direction of price movement.

Real estate: If one spouse transfers real property to the other, the deed transfer is straightforward. But the property's original purchase price, closing costs, and any capital improvements must be documented and preserved as the cost basis for the receiving spouse. These records should be kept indefinitely—they determine taxable gain upon the eventual sale, which may be decades away.

THE JOINT ACCOUNT SIMPLIFICATION

For investment assets that both spouses will benefit from and neither plans to sell separately, holding assets in a joint taxable account (joint tenancy with right of survivorship or community property) often simplifies basis tracking while providing partial step-up benefits at the first death.

In common law states, the deceased spouse's half of jointly held property receives a stepped-up basis at death. The surviving spouse's half retains the original cost basis. A stock purchased for $60,000 jointly and worth $120,000 at the first spouse's death: the deceased's $30,000 basis steps up to $60,000; the surviving spouse's $30,000 basis remains. Combined basis: $90,000 on a $120,000 investment.

In community property states, both halves of community property receive a full step-up at the first spouse's death—a significantly more favorable outcome that can eliminate virtually all embedded capital gains in community property assets at the first death.

Basis tracking is not glamorous financial planning. It is the record-keeping that determines tax outcomes years or decades in the future—outcomes that can differ by tens of thousands of dollars depending on whether the basis is known and managed. In a marriage, where assets frequently move between accounts and spouses, the discipline of maintaining accurate basis records is one of the highest-return administrative habits available.