When someone passes away, their heirs often receive a “step-up” in the cost basis of inherited assets, which can significantly reduce capital gains taxes. But not all transfers qualify for this valuable tax treatment. Understanding which assets don’t receive a stepped-up basis is just as important as knowing which ones do—especially when crafting a thoughtful estate plan.
What Is a Stepped-Up Basis?
A "stepped-up basis" adjusts the cost basis of an asset to its fair market value at the owner's date of death. This means that if the asset is sold shortly after being inherited, there may be little or no capital gains tax. However, certain transfers and types of property don’t qualify.
Transfers That Do Not Receive a Stepped-Up Basis
1. Lifetime Gifts
If you gift an asset to someone during your lifetime, they inherit your original cost basis—known as a carryover basis. This means any appreciation during your lifetime is still subject to capital gains tax when the recipient sells it.
2. Assets in Irrevocable Trusts (If Excluded from the Estate)
Assets transferred to an irrevocable trust may not receive a step-up in basis if they are not included in the decedent's taxable estate. The key issue is whether the decedent retained sufficient control or interest in the trust.
3. Jointly Owned Property (Depending on Contribution)
In joint tenancy with right of survivorship (JTWROS) or tenancy by the entirety, only the deceased owner’s portion receives a step-up in basis. The surviving owner’s share retains its original basis unless it can be shown they didn’t contribute to the purchase.
4. Retirement Accounts
Accounts such as IRAs, 401(k)s, and annuities are considered income in respect of a decedent (IRD) and do not receive a stepped-up basis. Beneficiaries are taxed on distributions at their ordinary income tax rates.
5. Income in Respect of a Decedent (IRD) Assets
These include:
- Accrued but unpaid wages or bonuses
- Deferred compensation
- Uncollected business income
- Installment sale balances
- U.S. savings bonds (e.g., EE or I Bonds)
- Accrued interest or dividends
These assets pass with their existing value and are taxed as income to the beneficiary.
6. Grantor Trusts Without Estate Inclusion
Assets in certain irrevocable trusts where the grantor retains no interest may not be included in the estate and therefore don’t receive a step-up. It depends heavily on the trust’s structure.
7. Some Business Interests
Certain partnerships and LLCs taxed as partnerships may limit the ability to apply a step-up in basis to underlying assets, especially where special tax elections (like §754) are not made.
8. Out-of-State Joint Property (in Community Property States)
In community property states, the entire property may receive a step-up when one spouse dies—but only if it’s titled as community property. If titled as joint tenancy, only half may qualify.
Why It Matters for Your Estate Plan
A key goal of estate planning is to minimize taxes for your beneficiaries. If you transfer assets during your lifetime or place them in structures that aren’t included in your estate, you may unintentionally forfeit the step-up in basis, leading to higher tax bills for your heirs.
If you have questions about how to protect your family's financial future and take advantage of the step-up in basis, contact Bart Scovill, PLC. We’re dedicated to helping Florida families plan wisely. https://scovills.com/?p=2498
No comments:
Post a Comment