How do I handle taxes on a very large "gift" from my employers?

Question

My husband just received a $700,000 "gift" from the partners at the organization he has worked for for over 13.5 years.

These particular partners sold their share of the partnership, making an extraordinary profit and the "gift" was given to my husband on the day the sale transaction closed, out of a non-business account.

I am struggling with calling this a "gift" and not reporting it as taxable income, but he is adamant that the gift was not at all related to his 13.5 years of working with these partners (who would not know if he never worked for them...). I do not want to get caught up in tax fraud.

Can you please reply so I can show my husband I am not crazy for wanting to claim this amount as income?

Answer 1

You're right about your suspicions. I'm not a professional (I suggest you talk to a real one, a one with CPA, EA or Attorney credentials and license in your State), but I would be very cautious in this case.

The IRS will look at all the facts and circumstances to make a claim, but my guess would be that the initial claim would be for this to be taxable income for your husband. He'd have to prove it to be otherwise. It does seem to be related to his performance, and I doubt that had they not known him through his employment, they'd give him such a gift. I may be wrong. So may be an IRS Revenue Officer. But I'd bet he'd think the same.

Did they give "gifts" like that to anyone else? If they did - was it to other employees or they gave similar gifts to all their friends and family? Did those who gave your husband a gift file a gift tax return? Had they paid the gift tax? Were they principles in the partnership or they were limited partners (i.e.: not the ones with authority to make any decision)? Was your husband instrumental in making their extraordinary profit, or his job was not related to the profits these people made?

These questions are inquiring about the facts and circumstances of the transaction. Based on what he can find out, and other potential information, your husband will have to decide whether he can reasonably claim that it was a gift.

Beware: unreasonable claims lead to equally unreasonable penalties and charges. IRS and your State will definitely want to know more about this transaction, its not an amount to slide under the radar.

This is not a matter where you can rely on a free opinions written by amateurs who don't know the whole story. You (or, rather, your husband) are highly encouraged to hire a paid professional - a CPA, EA (enrolled agent) or tax attorney with enough experience in fighting gift vs income characterization issues against the IRS (and the State, don't forget your State).

An experienced professional may be able to identify something in the facts and the circumstances of the situation that would lead to reducing the tax bill or shifting it to the partners, but it is not something you do on your own.

Answer 2

You should be aware that the IRS considers all gifts of cash or cash equivalents from an employer (the partnership in this case) to an employee (your husband in this case) to be wages, regardless of what the transfer is called by either party, or how it is transferred. I'd strongly recommend that you review IRS publications 535 and 15-B, which are linked in my response to the question that littleadv referred to above.

I would also recommend speaking with a lawyer, as in this case, you have knowledge of the income and would not be able to claim an "innocent spouse" provision if he is convicted of tax evasion/fraud.

Good luck.