By Kaye A. Thomas
Current as of January 7, 2015
Special rules apply to assets inherited from decedents who died in 2010.
As a general rule, stock or other assets held by a decedent take a basis equal to their fair market value on the date of death. (For more on this rule, see Inherited Stock.) The rule is helpful in two ways. Executors and beneficiaries often have difficulty finding records that would be needed to establish the basis of assets the decedent held for many years, or in some cases decades. The basis adjustment rule eliminates the need to do so. What’s more, while assets may decline in value (and therefore receive a lower basis as a result of this rule), it more often happens that the date-of-death value is higher than the original cost of the asset. In this common scenario, basis is stepped up despite the fact that no one has paid tax on the increase in value.
This basis adjustment rule is connected with the estate tax. It applies to assets held by a decedent who died in a year when the estate tax applies, even if the estate was too small to require payment of estate tax. We don’t have an unlimited step-up in basis for a decedent who dies in a year when the estate tax doesn’t exist, however. That is the situation we had for the year 2010. The tax law passed in 2001 repealed the estate tax for 2010. Federal budget rules in place when this law was passed required a sunset for that law, so the estate tax (together with the basis adjustment rule described above) returned in 2011. Solely for individuals dying in 2010 we have a different rule for determining the basis of assets received from a decedent.
The bad news
The general rule (but see “good news” below!) for assets received from a someone dying in 2010 is to make the basis equal to the lower of the basis they had in the hands of the decedent on the date of death or the value of the assets on that date. Under this rule, if you inherited stock worth $20,000 that cost $5,000 when the decedent bought it, your basis would be $5,000, and a sale at its value when inherited would require you to report a capital gain of $15,000. On the other hand, if you inherited stock worth $5,000 that cost $20,000, your basis once again is $5,000, and you would not be allowed to claim a loss on a sale at $5,000, the value when it was inherited.
The good news
As noted earlier, the rule allowing a step-up in basis for years when the estate tax was in force applied even for assets held in estates that were not large enough to incur the estate tax. In the law that repealed the estate tax for 2010, Congress created a rule that in effect preserves this benefit for estates of the vast majority of 2010 decedents. The rule allows a limited, but reasonably generous, increase in the basis of these assets.
Under this rule, $3 million in basis adjustments can be made to assets left to a spouse, and an additional $1.3 million in basis adjustments can be made to assets left to any beneficiary (including the spouse). These dollar figures refer to the size of the basis adjustment, not the value of the assets, so a spouse inheriting a $10 million estate consisting of assets that have $6 million in basis prior to this adjustment can obtain the full basis adjustment that would have been allowed in a year when the estate tax applied. Assets may not, however, be assigned a basis greater than their value on the date of death.
The $1.3 million available for assets left to any beneficiary is increased in the event the decedent died with an unused capital loss carryover or net operating loss carryover. It’s also increased to the extent any assets held by the decedent would have produced a loss if sold on the date of death. For example, if the decedent held an investment that cost $2 million but was worth only $1.4 million on the date of death, the basis of that asset would be reduced to $1.4 million, but the amount available for a favorable adjustment in the basis of other assets that went up in value would be increased by $600,000.
If the overall amount of basis adjustment allowed isn’t large enough to cover all assets that have a built-in gain on the date of death, the executor of the estate can allocate the basis adjustment among the assets. This rule makes it possible to make the full basis adjustment for assets that are expected to be sold soon, while making a smaller basis adjustment (or none at all) for assets that might be held indefinitely.
This summary omits many details, such as a rule that reduces the $1.3 million basis adjustment to $60,000 in the case of a decedent who is a nonresident alien.