A basis adjustment also called a step-up in basis has been a cornerstone of many estate plans throughout the years. Let us take a look at what a basis adjustment is, how it works, and some recent news about its possible demise.

To begin with, the basis is a tax term and is the amount that someone paid for the property. If that property is later sold, capital gains or losses must be reported. This would be the amount taxed on the difference of the original basis amount as well as the amount of the sales price.

Basis Adjustment

However, a basis adjustment occurs when the property is inherited. What I mean by this is, the beneficiary of that property receives it based on its current fair market value instead of its original purchase price. That may sound a little complicated, so let us look at an example. 

Nancy bought stock in XYZ Corp. in 1970 for $100,000. It is now worth $500,000. If she sold it this year, she would have to pay capital gains tax on the $400,000 profit. Instead, if Nancy died this year and her son inherited the property, he would take the property with a value of $500,000. Nancy’s son could then sell the property at its fair market value of $500,000 with no capital gains tax due. That is because he received a step-up in basis.

As I mentioned last month, one way that this basis adjustment can be preserved is within a properly drafted Medicaid Asset Protection Trust. A basis adjustment is preserved via reserving a limited power of appointment. Per Treasury Regulation 25.2511-(b)(2), a limited power of appointment is an incomplete gift. An incomplete gift means that the Grantor never relinquished full control of that asset and it will be included in his/her estate. If assets are includable in the Grantor’s estate, then the assets qualify for a step-up in basis, see 26 US Code § 1014(b)(9). 

While this planning is generally desirable, if the estate is subject to estate tax, then a decision will need to be made: Is a basis adjustment more desirable or is the avoidance of estate tax?

The answer to this question is what I am here for and something that we can talk about. There are no one-size-fits-all solutions, and it is important that we discuss so that we can come up with the best answer for you. 

last wishes

There has been recent news that there may be an end to the step-up in basis, especially when property is inherited. The Sensible Taxation and Equity Promotion (STEP) Act has been introduced in the Senate. It purports to tax any transfer of property, including at death. However, there would be a $1 million exclusion for inherited property.

What would it mean if the basis adjustment goes away? It is hard to say right now because legislation has not been discussed yet, but once Congress makes a decision, I will write about the new law and its ramifications. 

If you are interested in learning more about this vital tax exclusion, please contact our office at (978) 269-4485 or email me at: jebacher@teric7.sg-host.com. We are always happy to help.