Jan 17, 2010

Carry-Over Basis: Another Estate Tax Repeal Oddity

Last week I wrote about the 'death' and probable re-birth of the estate tax by 2011, if not sooner. Today, though, I want to tell you about the new carry-over basis rules. Until now, if you inherited an asset from someone who died, you also got a new tax basis equal to the value of that asset at the time of death. That's called a stepped-up basis.

The cost basis is the dollar amount the asset was worth when you purchased an item (with certain adjustments), and it's that value that the IRS uses to determine if there's been a gain or a loss on the sale. You pay capital gains taxes on the difference between the cost basis and the sales price. A higher basis means less of a gain when you sell, if the value of the asset has gone up.

The stepped-up basis was a big tax break for heirs. What it meant is that if your mother left you a house worth $1 million dollars that she purchased for $100,000 and then you turned around a sold it for $1 million dollars, you'd owe ZERO capital gains tax on that sale. And it was an unlimited tax-break, you got that step-up on all of the assets inherited at death.

But not this year. Now, each taxpayer is limited to $1.3 million dollars worth of a stepped-up basis. It will be their executor's job to allocate that to particular assets, like a house, and therefore to specific heirs. There's also a $3 million step-up available to spouses for appreciated assets. But all other assets are to be valued at their original value.

So, if your father purchased stock in IBM for a pittance in 1963, you're going to have to find out what that was and pay capital gains on the difference between that value and what you're selling it for today. That's called a carry-over basis, and it is going to make accountants and heirs nuts as they try and figure out what the original values are for long-ago purchased assets. Not to mention how much fun it will be to pay all those captial gains taxes.

To read more about this, read Kathleen Pender's good summary from the SF Chronicle.