Taxed At Death: How Could the Deceased Owe more Taxes? Isn't Death Enough?

In part one, there was a discussion of how assets are treated upon the death of the taxpayer. Now, it get worse

The centerpiece of the President's tax proposal is much more than an increase in the capital gains rates. The Administration also wants to eliminate the current system by requiring estates to pay capital gains taxes upon death. That is to say, when a person dies, there is a phantom taxable gain on all appreciation in value of a property even though there has been no disposition of the asset.

Part Two: Taxed to death upon death

This is an income tax issue on major consequences and will deeply impact many small businesses, landholders, farmers, ranchers and even those who have owned their homes for many years. It is purely an attempt to raise taxes to enlarge government. It can definitely not be viewed as a deficit reduction measure, particularly the way the Federal government has expanded subsidies, and the welfare state. Deficits will continue to expand for more than the foreseeable future; particularly as interest debt payments and interest rates increase.

Asset appreciation could, in theory, be measured and taxed when the property owner dies and the assets or businesses are transferred to the heirs.

However, a under longstanding provision of US tax law, in place since the Revenue Act of 1921, the transfer of assets at death to an heir does not trigger a capital gains tax. Current tax law allows the heir to increase their basis in the bequeathed assets to fair market value without payment of capital gains tax. This is referred to as a ‘step-up’ of basis. The basis step-up prevents potential past capital gains tax on inherited to be taxed.

The Federal Treasury forgoes-according to some-a substantial amount of revenue by not taxing the gain on assets held until death. In fact, according to the Office of Management and Budget, it is one of the bigger existing “tax expenditures.” which is defined as revenue losses attributable to provisions of the Federal tax laws which allow a special exclusion, exemption, or deduction from gross income or which provide a special credit, a preferential rate of tax, or a deferral of tax liability.” 

Tax expenditures have the underlying assumption that the government is allowing taxpayers to keep their own money. It is important to note in the case of stepped up basis, it really not possible to know with any certainty, as data from all people who receive property from a decedent is not verifiable particularly where an estate tax return is not required to be filed.

There have been a few attempts to repeal this 100-year-old established principal of stepped-up basis. There was some fleeting success to a certain extent in Tax Reform Act of 1976, which installed a type of carryover basis regime and eliminated stepped-up basis. However, led by Senator Harry F. Byrd Jr. (I-VA) and Senator Robert J. Dole (R-KS). The provision was suspended and eventually repealed by Congress in short order

The Biden proposal goes beyond the elimination of “stepped-up basis”. It calls for a realization event at death, which means the asset will be deems sold at its fair market value even though it was not, and any untaxed appreciation will be recognized as gain.

So in the previous example, even though the aunt dies and passed on the asset, which is unsold by the beneficiary, there will be substantial income taxes due from the aunt.

Take an even worse example; a family farmer owns agricultural land which been has farmed for 40 years. The price of the land has gone up due to inflation and perhaps other reasons. The farmer wants to pass it on to his son to farm. There is a substantial income tax liability at the farmer’s death but there is no money to pay the tax so the result is the land must be sold, no more family farm.

In order to quell opposition to this very bad idea, the Administration proposal will likely be littered with income levels, carve outs and exceptions but the fact remains a person who dies will have all his property that has appreciated subject to income tax. A pretty horrible and drastic concept and a deviation from long established tax principles. When is enough enough?

These are uncertain times but any big tax expenditure is in jeopardy in a climate of tax increases.  Repeal of stepped-up basis is not necessarily an immediate tax hike that can be felt by everyone but it is a tax increase. Instigating an income tax at death goes far beyond this concept.  

In summary, there have been a number of proposals to repeal the step-up in basis at death to tax gains that were not recognized during the decedent’s lifetime.

The worse by far is to tax gains at death--- that is to deem death to be a “recognition event.” This tax would be in addition to any estate taxes owed, and if no money were available to pay what could be a sizable amount, the asset would have to be disposed. If the heirs take the property, a new fair market value basis would be in place to prevent double taxation in the future.

Promoting income taxes at death is such a terrible idea, destructive, punitive and just shows bad ideas never go away.











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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.