Congress

Taxed to Death At Death: The Coming Death Taxes

 

The Biden Administration has launched a crusade to increase tax rates to satisfy an insatiable appetite to fund expanded government. It has embraced one of the worse ideas in tax policy by advocating recognition of income tax on unrealized gains at death.

There is considerable confusion concerning tax consequences at death, often referred to as the Death Taxes. In two parts, I am going to explain the different facets and the consequences of such radical changes.

Part One

The difference between estate and income taxes

In order to understand all the nuances it is important to separate the income tax from the estate tax. The federal estate tax does not impact all that many estates even though the estate of every U.S. citizen is subject to tax upon death. Within certain limits, the decedents estate may have to cough up addition dough to the government for dying and having property. However, there is a lurking income tax issue out there that goes along with it and it is a sneaky one.

Many conservatives refer to the estate tax as the ”death” tax and would like to abolish it. Liberals, of course, believe everything belongs to the state and would like to have as high a tax rate and lowest exemption level as possible. There are also a few in the middle, like me. I have no problem with a reasonable tax rate on very large estates.

The dirty secret is that these very large estates through private foundations, charities, generation trusts and other such devices can largely blunt the effect of the estate tax and still more or less control the money from the grave.

The Starting Point is Basis

Every asset has a “basis”, usually its cost. It is the benchmark for future tax consequences, like selling, gifting, asset depreciation and bequeathing.

Property can be disposed during a lifetime like selling, gifting, or abandoning it. For example if my aunt buys a share of stock, which she paid $100 for 10 years ago, the $100 is her basis. If she sells it for $1000, she would incur a taxable gain of $900.

If she gives the stock to me, my basis is $100, and if I sell it for $1000, I have a $900 gain, which would be included in my income taxes. This is called “carryover basis”.

If the aunt dies and leaves the stock to someone, the asset acquired from her estates is “stepped-up.” That is to say, the assets in an estate and the subsequent beneficiaries receive a new income tax basis equal to the fair market value of the assets on the date of the decedent’s death, (or on an alternate valuation date an estate may elect on the six-month anniversary date of a decedent’s death.) Accordingly, a beneficiary will pay income taxes on any received assets subsequently sold based on the difference in value of the assets between the date of death value and the sales price.

In the above example instead of gifting the stock the aunt conveys it at her death, the beneficiary gets a basis of $1000 and upon its sale for $1000, there is no income tax because there is no gain. This is one of the few ways to avoid tax on appreciated property but, of course, someone has to die.

I would argue preserving stepped-up basis is much more important to the average taxpayer than whatever the estate tax rates are on mega-estates. This is an income tax issue after all. Normal taxpayers who inherit property do not always know what the basis is to the property received and why subject the property to the estate tax and then to the income tax?

Part Two will describe the consequences of the Administration embrace of installing a regime that will impose income taxes in all situations when a person dies.


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  • Jack O. NutterJack O. Nutter is a Washington DC attorney and a principal in the consulting firm Nutter & Harris, specializing in political and strategic advice with notable experience in tax, energy, environmental and climate issues.

    Mr. Nutter was previously Tax Counsel to the US Senate Finance Committee and has been involved in several US presidential campaigns.

    He has been in private law practice and worked in the former Soviet Union, Europe and Africa for 15 years on private investment and government projects.

    He holds a Master of Laws (taxation) from Georgetown University Law Center and a Doctor of Jurisprudence from the University of Arizona College of Law. He has been published in numerous tax journals and magazines.

    Reach Jack by e-mail here.