What happens to basis when a gift is inherited back within one year?
Key takeaway
The decedent's adjusted basis immediately before death applies when property worth more than its adjusted basis when gifted to the decedent during the one year period ending at death passes back to the donor or donor's spouse.
Why the basis matters on a later sale
On a later sale, realized gain is the amount realized minus the adjusted basis applicable for determining gain, including any subsequent basis adjustments. A lower basis can leave more appreciation reflected in realized gain.
Whether that gain must be recognized currently remains subject to other Internal Revenue Code provisions.
Records to bring to a basis review
Gather the gift transfer record, the gift date valuation, the basis history, the date of death, and the documents identifying who receives the property. Ask your tax adviser to review those records together before a planned sale.
Two related terms
Adjusted tax basis is the basis used to measure realized gain after applicable adjustments.
Appreciated property, for this rule, means property whose fair market value exceeded its adjusted basis on the gift date.
An Investor Advantage perspective
"So I would just encourage all the listeners, if they haven't had a conversation with their estate planning attorney, or they've put off estate planning like most Americans, just 'cause they don't want to think about it,"
Frequently asked questions
Can improvements or depreciation change the adjusted basis?
Yes, properly capitalized items can increase basis, including improvements with a useful life exceeding one year, while depreciation deducted or deductible under the chosen method decreases basis.
Costs deductible as current expenses do not increase basis. If excessive depreciation was deducted, the reduction includes proper depreciation plus the excess that actually reduced tax liability.
Does selling through an estate or trust avoid the rule?
No, similar rules apply when the estate or a trust whose grantor was the decedent sells appreciated property gifted to the decedent during the year ending at death, to the extent the donor or donor's spouse is entitled to proceeds.