Background

Under current law, an estate may be worth as much as $5.43 million before federal estate taxes will apply. (This exclusion amount increases to $5.45 million in 2016 due to IRS inflation adjustments.) When certain requirements are met, married couples may potentially exclude up to twice this amount from estate tax (e.g., $10.86 million in 2015 or $10.9 million in 2016) by using the tax law’s exclusion “portability” provisions.

Including Assets in an Estate

With such a high exclusion amount, most taxpayers face little risk of incurring federal estate-tax liability. Instead of trying to reduce their estates by making lifetime gifts, taxpayers may want to consider keeping selected assets in their estates. This strategy could reduce the capital gains taxes their heirs will owe if they later sell the assets.

How to reduce capital gains taxes?

Upon sale, capital gains tax will apply to the difference between an asset’s “basis” and the net sale proceeds. “Basis” is generally equal to an asset’s original cost, plus improvements, minus depreciation. However, assets passing through an estate generally receive a step-up in basis to their fair market value on the date of death. For example, securities purchased for $10,000 that are worth $75,000 when the owner dies will have a basis of $75,000 to the person who receives them from the estate. If that person sells the securities for $75,000, no capital gains tax would be due. In contrast, assets transferred as lifetime gifts receive no basis step-up.

Because the value of many assets — such as investments and houses — tends to increase over long periods, leaving these assets in the estate can substantially reduce the future capital gains tax liability of beneficiaries in the event the assets are subsequently sold.

However, each individual taxpayer’s situation is different, so each gifting strategy should be separately analyzed to determine the best course of action.

Recent Development

To improve consistency in basis reporting, a recently enacted law requires executors of estates to report the value of estate assets to both the IRS and the person receiving an interest in the property, generally within 30 days after filing the estate-tax return for the estate.

The new law is applicable for federal estate-tax returns filed after July 31, 2015. However, for statements required to be filed with the IRS or furnished to a beneficiary before February 29, 2016, the IRS has delayed the due date of the statements until February 29, 2016.

Please contact Michael Orlowkski at morlowski@dopkins.com or your Dopkins Tax Advisor if we can help you with your estate planning, tax planning or with preparing basis-reporting statements for an estate.

About the Author

Michael J. Orlowkski CPA, CFP

Mike directs and reviews general and specialized tax related engagements for not-for-profit organizations, employee benefit plans, and commercial clients. He also consults on tax planning, estate planning, and tax saving opportunities.