How tax basis changes with gifts and inheritances

Basis affects the tax result when property is sold

Basis measures your investment in property for tax purposes. It is used to determine depreciation, amortization, depletion, casualty losses, and gain or loss on a sale or other disposition.

Gain generally equals the amount realized minus adjusted gain basis. Loss equals adjusted loss basis minus the amount realized. Whether the resulting gain or loss is recognized remains subject to other tax provisions.

A gift can have separate bases for gain and loss

For a lifetime gift, the donor’s basis generally carries over to the recipient. If the donor’s adjusted basis exceeds fair market value when the gift is made, that fair market value is used to determine loss.

A sale price between those two amounts produces neither gain nor loss. Keep both the donor’s adjusted basis and the value when the gift was made, rather than treating one amount as the answer for every sale.

Inherited basis depends on how the property passed

The general fair market value rule applies to property acquired from a decedent within section 1014, including qualifying inheritances, revocable trust property, and property included in the gross estate. It does not cover every asset associated with someone who died.

The adjustment can decrease basis when fair market value at death is lower than the previous basis. A qualifying alternate valuation election can instead establish basis using the applicable alternate valuation value.

That election covers all gross estate property and must reduce both gross estate value and combined estate and applicable generation skipping transfer taxes after credits.

Property disposed of within six months after death uses its disposition value. Other property uses its value six months after death. Interests affected merely by time use death value, adjusted for changes unrelated to time.

The executor makes the irrevocable election on the estate tax return. It is unavailable if that return is filed more than one year after its extended due date.

Income in respect of a decedent receives no new basis. When income was not properly includible on the decedent’s final return, the estate or person acquiring the right includes it in gross income in the year received.

Income tax ownership alone does not establish inherited basis

Under the IRS ruling’s stated facts, an irrevocable trust’s appreciated asset received no basis adjustment when its income tax owner died. The completed gift was outside the owner’s gross estate and outside section 1014(b).

The retained power created income tax ownership without estate inclusion. At death, trust liabilities did not exceed asset basis, and neither the trust nor the donor held the other’s note.

The asset’s basis immediately after death therefore remained its basis immediately before death. This ruling addresses those facts rather than every irrevocable trust or earlier gift.

Estate values can limit inherited basis

The statutory consistency ceiling applies only when including the property increased federal estate tax liability after credits. For that property, section 1014 basis cannot exceed the finally determined estate tax value.

Before final determination, the ceiling uses the value in a furnished section 6035(a) statement identifying the property’s value. This statutory limit does not apply to every inheritance.

Final value can come from a return value the IRS leaves uncontested through the assessment period, an IRS value the executor does not timely contest, a court determination, or an IRS settlement.

Gather the records before reviewing a transfer or sale

Keep accurate records of every item affecting basis. For a gift, retain the donor’s adjusted basis immediately before transfer, fair market value when given, and any gift tax paid.

Retain relevant estate valuation statements and beneficiary schedules while their contents may remain material to federal tax administration.

• Ask for the donor’s basis records when receiving a gift.
• Keep the valuation supporting the property’s value when given or inherited.
• Gather records of subsequent basis adjustments.
• Keep relevant estate valuation statements with the property records.

Two related terms

Adjusted tax basis is basis after the required adjustments to the investment in property for tax purposes.

Income in respect of a decedent is income the decedent earned but did not receive that was not properly includible on the final income tax return.

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