Taxes Tax Planning What Is the Three-Year Rule for Estate Taxes? By Beverly Bird Beverly Bird Beverly Bird has been a writer and editor for 30+ years, covering tax breaks, tax preparation, and tax law. She also worked as a paralegal in the areas of tax law, bankruptcy, and family law from 1996 to 2010. Beverly has written and edited hundreds of articles for finance and legal sites like GOBankingRates, PocketSense, LegalZoom, and more. learn about our editorial policies Updated on November 10, 2022 Reviewed by David Kindness Reviewed by David Kindness David Kindness is a Certified Public Accountant (CPA) and an expert in the fields of financial accounting, corporate and individual tax planning and preparation, and investing and retirement planning. David has helped thousands of clients improve their accounting and financial systems, create budgets, and minimize their taxes. learn about our financial review board Fact checked by Hilarey Gould Fact checked by Hilarey Gould Twitter Website Hilarey Gould has spent 10+ years in the digital media space, where she's developed a passion for helping people understand economics, saving, investing, credit card perks, mortgage rates, and more. Hilarey is the editorial director for The Balance and has held full-time and freelance roles at a variety of financial media companies including realtor.com, Bankrate, and SmartAsset. She has a master's in journalism from the University of Missouri, and a bachelor's in journalism and professional writing from The College of New Jersey (TCNJ). learn about our editorial policies In This Article View All In This Article How the Three-Year Rule for Estate Taxes Works Exceptions and Alternatives to the Three-Year Rule Frequently Asked Questions (FAQs) Photo: FG Trade / Getty Images Definition The three-year rule for estate taxes requires that assets gifted within three years of a person's death must be included in the value of their estate for tax purposes. Key Takeaways The three-year rule provides that you must outlive any "gratuitous" transfer of your property by at least three years to avoid it being included in the value of your estate for estate tax purposes.You can sell your assets for full fair market value, but you can't give them as a gift within three years of your death.This rule commonly comes into play when life insurance policies are transferred into the name of an irrevocable trust after the policyholder dies. How the Three-Year Rule for Estate Taxes Works The three-year rule for estate taxes says that, when you transfer ownership of any property to another person within three years of your death, the property will still be included in the value of your estate. This rule presumes that the property would have been included in the value of your estate in the first place, assuming you hadn't given it away and moved it out of your ownership. Generally speaking, property transfers are included in the three-year rule if you transferred the property for less than fair market value. Gifts are exempt from the three-year rule if you did not have to file a gift tax return to claim the annual exclusion or did not have to pay the tax on the gift at the time you made it. However, this doesn't include certain life insurance policies. For example, the three-year rule would still apply in the case of a policy gifted to an irrevocable life insurance trust. What About the Estate Tax Exemption? The federal gift tax goes hand in hand with the federal estate tax. They share a single lifetime exemption of $12.06 million for tax year 2022 and $12.92 million for tax year 2023. So long as the total combined amount of your estate and lifetime gifts does not exceed the lifetime exemption for the year in which you die, you do not have to file an estate tax return. The value of your lifetime gifts is the total of all gifts that: Exceeded the small annual gift tax exclusion You didn't pay the gift tax at the time you made them For tax year 2022, the exclusion is up to $16,000 per person per year—the exclusion rises to $17,000 for tax year 2023. For example, for 2022, if the total of your lifetime gifts and your gross estate was $5 million, you would not owe the estate tax because that amount does not exceed $12.06 million. However, if the total came to $12.36 million, you'd owe taxes on $300,000—the difference after deducting the $12.06 million lifetime exemption. The taxable amount of your estate that exceeds the exemption amount is taxed at a rate of 40%. Note The Tax Cuts and Jobs Act (TCJA) increased the lifetime exemption in 2018 to $11.18 million from $5.49 million in 2017. It is set to drop back down (with inflation adjustments) if the TCJA expires as planned at the end of 2025. Exceptions and Alternatives to the Three-Year Rule You may be able to get around the three-year rule in the case of life insurance proceeds by reversing the order of the policy transfer. Rather than buying the policy, forming the irrevocable life insurance trust (ILIT), and then transferring the policy into the name of the trust, you could form the irrevocable trust first and then have it purchase the policy on your life. This way, the estate is the policy owner, not you, so it's typically irrelevant to the value of your estate regardless of your date of death. The same exception applies if you're the insured, but you never owned the policy on your own life because another person owns the policy. The three-year rule also doesn't apply if you sell the policy to the ILIT. The keyword in this tax rule is "gratuitously." You can't give the policy away, but you can sell it—or any other asset—within three years of your death without adding its value to your estate. For example, you can't sell something for $1 when it's worth $1 million to escape the rule. You must sell the asset for its full fair market value. Frequently Asked Questions (FAQs) What is the three-year rule? The three-year rule refers to an estate-tax rule that counts toward your estate's value any assets gifted ("transferred") within three years of the date of your death. How much can you inherit from your parents without paying taxes? There are no federal inheritance taxes. However, there are estate taxes on estates valued at more than $12.06 million in tax year 2022 and $12.92 million in tax year 2023. Was this page helpful? Thanks for your feedback! Tell us why! Other Submit Sources The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy. Cornell Law School Legal Information Institute. "26 U.S. Code § 2035 - Adjustments for Certain Gifts Made Within 3 Years of Decedent's Death." Howard Kaye Insurance Agency. "How the Three-Year Rule Could Impact Your Estate Taxes—and How To Work Around It." Journal of Accountancy. "Exploring the Estate Tax: Part 1." IRS. "IRS Provides Tax Inflation Adjustments for Tax Year 2023." IRS. "Estate Tax." IRS. "IRS Provides Tax Inflation Adjustments for Tax Year 2022." Charles Schwab. "The Estate Tax and Lifetime Gifting." Department of Agriculture Economic Research Service. "Federal Estate Taxes." Adler & Adler, PLLC. "Three Year Rule and Life Insurance Estate Taxation."