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Last updateTue, 21 Nov 2017 4pm

Business & Real Estate

2010: Not the year to die

The year 2010 is not the time to die. No, I’m not talking about you – I’m talking about your rich Uncle John. And all because Congress failed to prevent the estate tax from automatically expiring in 2010, as established back in 2001 by the Economic Growth and Tax Relief Reconciliation Act.

“Wow!” you might be thinking. “That sounds great! If there’s no more estate tax, that leaves more money for me to inherit from his estate, doesn’t it?”

Well, kind of. The estate tax originally was created to try to recoup some of the taxes successfully sheltered by wealthy families. But there has always been a built-in exclusion amount that eliminated the tax for all but the wealthiest estates. As recently as 2005, less than 1 percent of deceased taxpayers were forced to pay any estate tax at all.

But there’s a little known and much bigger problem with elimination of the estate tax in 2010 that will affect a larger proportion of taxpayers, and that’s the consequent elimination of the step-up in basis for inherited property.

Suppose Uncle John passed away in 2009 and left you his entire estate, his $1 million house. Because the estate-tax exclusion amount in 2009 was $3.5 million, his estate did not have to pay any estate tax on the transfer, and inherited property is always income-tax-free to heirs.

But the house was located in Virginia, so you decided to sell it and use the cash to establish a new restaurant, pay off credit cards and hire a financial planner to help you manage the rest. Congratulations on your prudent approach to financial management.

Hold on a moment. What happened after you sold the house? You had to pay capital-gains taxes on the difference between what you paid for it – called its cost basis – and the amount a buyer paid for it. Because you didn’t buy it, what is its cost basis? Under 2009 and previous years’ estate-planning rules, the cost basis of an inherited home is “stepped up” to its market value on the day the owner dies.

Therefore, because you sold the house shortly after inheriting it, the sales price was approximately the same as the cost basis, so no capital-gains taxes are owed on the sale. Sweet.

However, in 2010, the results would be quite different. Now when you sell the inherited home, you must establish how much Uncle John paid for it and then pay taxes on the difference between his cost and the price you received.

For instance, if he purchased the house in 1957 for $20,000 and you sell it for $1 million, here’s what you would pay the IRS: $1 million - $20,000 = $980,000; 15 percent of $980,00 = $147,000. Ouch.

This same step-up in basis rule applies to stocks, bonds and other investments you inherit. Not only will heirs have to pay more in taxes when selling property inherited in 2010 compared with selling in 2009, imagine the nightmare of having to track down the original cost basis for all this property before being able to complete tax returns.

The government did include a special clause for 2010 that allows heirs to take a step-up in basis for up to $1.3 million of inherited property. But those of you with rich uncles living in the Bay Area are likely to inherit property that exceeds this figure.

So the next time you talk to your rich Uncle John, ask him to do you a favor – try to stay alive this year.

Artie Green is a Los Altos resident and certified financial planner and investment adviser with PWJohnson Wealth Management. Call him at (408) 747-1222 or e-mail This email address is being protected from spambots. You need JavaScript enabled to view it..

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