When making transfers of business interests or other assets to family members, there’s a three-year period where the IRS can challenge their values for gift tax purposes. During that time, the tax agency can claim the transfers you treated as nongifts were actually gifts or partial gifts.

The three-year statute of limitations period doesn’t begin until you “adequately disclose” the transfers to the IRS. Otherwise, the IRS, years later, can determine that you owe unpaid gift tax on the transfers and assess penalties and interest.

How do you avoid this scenario? Your gift tax return must meet the IRS’s adequate disclosure requirements. Be aware that if you decide not to disclose the transfers on a gift tax return, you must properly document the transactions. This documentation must be retained by you, the transferor, and each transferee.

Adequate disclosure requirements

In the year that you transfer an asset to a loved one, you’re generally required to file Form 709, “United States Gift (and Generation-Skipping Transfer) Tax Return,” for any gift that exceeds the annual exclusion ($18,000 for 2024 and $19,000 for 2025). The exclusion is effectively doubled for married couples.

However, it may be prudent to also file gift tax returns for nongift transfers and noncash gifts below the annual threshold. Why? Filing a gift tax return establishes the asset’s value and adequately discloses the transfer with the IRS — which starts the clock on the statute of limitations. The return must include:

• A description of the transferred property and any consideration received,
• The identities of, and relationships between, the transferor and each transferee,
• If property is transferred to a trust, the trust’s tax identification number and a brief description of its terms (or a copy of the trust instrument),
• A detailed description of the method used to value the transferred property or a qualified appraisal, and
• A statement describing any position taken that’s contrary to any proposed, temporary or final tax regulations or revenue rulings published at the time of the transfer.

Additional information is required for certain transactions between related parties, such as grantor retained annuity trusts, qualified personal residence trusts, and transfers of interests in corporations or partnerships.

For transfers reported on a gift tax return as nongifts, describe the methods used to value the property or furnish an appraisal. You’ll also need to state your case as to why they’re not gifts.

Recent Tax Court ruling

Often, strict compliance with tax regulations is required. However, in Schlapfer v. Commissioner (T.C. Memo 2023-65), the U.S. Tax Court held that substantial compliance with the adequate disclosure regulations is sufficient. The disclosure must be “sufficiently detailed to alert the Commissioner and his agents as to the nature of the transaction so that the decision as to whether to select the return for audit may be a reasonably informed one.”

This decision may provide some relief to taxpayers who fail to cover all the bases when disclosing gifts. But, to avoid an IRS challenge and potential litigation, it’s advisable to follow the regs as closely as possible.

Bottom line

Even if you treat an asset transfer (such as the transfer of an asset in exchange for full and adequate consideration) as a nongift, you may want to report it on a gift tax return anyway. This extra precaution may prevent the IRS from arguing, many years later, that you made a taxable gift.

Indeed, the best way to protect your estate plan is to report all gifts or transfers on timely filed gift tax returns that satisfy the adequate disclosure requirements. The deadline for a gift tax return is April 15 of the year following the year of the transfer (adjusted for weekends and holidays). Contact your estate planning advisor for more details.