| 04 May 2010
While the absence of an estate tax in 2010 may sound like an ideal situation for many investors and their heirs, an in-depth analysis illustrates that previous estate tax rules may have been more beneficial for most individuals. According to a report prepared by the Democratic staff of the House Ways and Means Committee, the estates negatively affected by the 2010 estate tax changes may outnumber estates benefited by the changes nine-to-one. The trouble stems from the repeal of the long-standing rule that when property is inherited, the beneficiary receives the property with stepped-up cost basis equal to its fair market value on the date of the decedent’s death. Subsequently, with the step-up rule no longer available heirs now inherit embedded capital gains and face future tax liability based on the decedent’s adjusted cost basis. Compounding the harm of losing the traditional step-up is the retention of the step-down in cost basis rule for property that has lost value at the time of the decedent’s death.
The resolution to losing the step-up at the decedent’s death is provided within IRC Section 1022 making eligible an aggregate cost basis increase of $1,300,000. This amount can be assigned to any appreciated property in the estate but cannot be used to increase basis to the point of establishing embedded losses. An additional $3,000,000 of aggregate basis is available for surviving spouses, but this remains a far cry from the previous unlimited marital estate tax deduction for property passing to a surviving spouse. The aggregate cost basis increase also interjects complications of allocating the cost basis by the estate executor; the executor now gets to decide which assets and heirs should benefit from the $1,300,000 step-up – this could create a fight amongst family members.
To counter this, we suggest revisiting your estate documents with your attorney and giving special attention to the following:
- Confirm cost basis information is in good order and possibly provide guidance to the estate executor for allocating the aggregate cost basis increase; address potential fiduciary liability concerns by appointing a separate executor to distribute cost basis
- Evaluate re-titling assets between spouses to maximize the utilization of the 2010 cost basis step-up
- Determine if documents maximize current year planning opportunities but retain the flexibility to account for retroactive estate tax changes
Estate taxes are a very hot topic in Washington so this situation could change at any time throughout the year. Your attorney should be able to discuss with you the ramifications of making changes. Note that I have not discussed many of the other issues within the current law – I am leaving that to future columns. But this cost basis accounting could cause a lot of administrative headaches so attend to it now.
Though less than 1 percent of the U.S. population needed to be concerned with estate taxes in 2009 and many investors will not need to take additional action in 2010; document changes, even short-term changes only needed until estate law is altered again, should be reviewed because the potential ramifications of the trouble in 2010 may be substantial. I recommend a review now and if you do not have an estate plan in place, this is the year to get one.