Normally, a person receiving an inheritance, the beneficiary, does not have to pay federal estate tax on their bequest, although the estate itself may be subject to estate taxes. But what happens if the beneficiary then chooses to sell the property?
Determining the cost basis of the inheritance will determine if the sale of inherited property is taxable. A basis is the term that tax law uses to refer to the amount of investment in property. The basis of property you purchase is usually its cost or purchase price, along with certain other expenses allowable in acquiring the property. For inherited property, the fair market value of the property at the date of the individual’s death is generally used as the basis (although for farms and businesses this may not be the case).
For 2011 and thereafter (unless Congress changes the law), the manner in which the cost basis of inherited assets is allocated among the inheritors is very different than in previous years. Getting advice on this important issue is paramount.
When property is received as an inheritance, the beneficiary’s basis is often termed “stepped-up” or “stepped-down,” meaning the beneficiary’s basis of the inherited property is the value on the date of the donor’s death rather than the deceased’s original basis in the property. This is important considering a deceased’s basis may be a purchase price from several decades before their passing.
The calculation of a beneficiary’s cost basis is calculated on the property’s value at the time of the donor’s passing, and a beneficiary will pay capital gains taxes only on any gains or losses realized on the asset after the donor’s death.
Estate planning and inheritance planning take into account the IRS guidelines that govern both gifts and inheritances. Working with an estate planning lawyer knowledgeable in estate and inheritance taxes can not only save your estate money, but reduce the financial impact on your beneficiaries, ensuring that your inheritance is a blessing, not a burden.