When it comes to tax law changes and estate planning, the substantial increases to the gift and estate tax exemptions under the Tax Cuts and Jobs Act are getting the most attention these days. But a tax law change enacted in 2015 also warrants your attention.
That change generally prohibits the income tax basis of inherited property from exceeding the property’s fair market value (FMV) for estate tax purposes. Why does this matter? Because it prevents beneficiaries from arguing that the estate undervalued the property and, therefore, they’re entitled to claim a higher basis for income tax purposes. The higher the basis, the lower the taxable gain on any subsequent sale of the property.
Before the 2015 tax law change, estates and their beneficiaries had conflicting incentives when it came to the valuation of a deceased person’s property. Executors had an incentive to value property as low as possible to minimize estate taxes, while beneficiaries had an incentive to value property as high as possible to minimize capital gains, should they sell the property.
The 2015 law requires consistency between a property’s basis reflected on an estate tax return and the basis used to calculate gain when it’s sold by the person who inherits it. It provides that the basis of property in the hands of a beneficiary may not exceed its value as finally determined for estate tax purposes.