Taking advantage of your “Step Up” in Basis

If a loved one has passed away and left you property, you may be entitled to what is referred to as a “step up” in basis for tax purposes. Knowing what it is and how to take advantage of it is an important tax avoidance strategy. If you have recently received property through and inheritance, read on to find out more.

Form 8971

An executor who is administering over an estate is required to file two different tax forms. One is the estate or trusts income tax statement, which is like the statement that you regularly file as an individual. The second form is not one that you typically file with the IRS as an individual, this is called the form 8971. The 8971 form lists the property that each beneficiary receives and the value at which that property was received. The executor must get the services of a professional appraiser to determine the date of death value of the inherited property. This second tax form is only required if there is a possibility that estate taxes are owed on the estate. In the current tax climate, in 2019, most executors are not required to file this form. But the value of the property at time of death is still important for you as a beneficiary.

Why is the value at the date of death important?

The date of death value of property that you receive as an inheritance is important because of the way that it effects the tax basis of the property. You may have had experience paying capital gains tax in the past when you sold property that appreciated in value since you first purchased it. The amount of tax owed is calculated based on a few factors.

The first factor that the IRS looks at to determine how much you owe is the original purchase price of the property. The second factor that the IRS looks at is the amount that you invested in the property to improve it. The third factor is the amount that you depreciated the property over time. Finally, the IRS looks at how much the property was sold for. The property might be charged under short term or long-term capital gains rates.

A quick example to Demonstrate

Let’s say that your parents purchased a rental property in the year 2000 for $200,000. Now, let’s imagine that they both passed away in the year 2019 and the house appraised for and subsequently sold for $400,000. The property increased in value by $200,000 and this was reflected in the date of death appraisal. This might have been taxed at long term capital gains rates had your parents sold it while they were alive. This would have resulted in possibly $50,000 or more in taxes. After they passed, however, they gave the property to you through a trust. Since they waited till they passed to give you the property, you get what is commonly referred to as a step-up in basis. This means that the IRS no longer looks at the purchase price to determine how much tax is owed. Instead, they look to the value at date of death. Since the house was appraised for $400,000 and sold for $400,000, the amount of capital gains taxed owed is $0. Your parents were able to save you more than $50,000 in taxes with wise estate planning strategies.

To contact us about this and other wise estate planning strategies, call us at (951) 516-2292.