Steve Akers
Martin Shenkman   Steve Akers

Estate Tax or Carryover Basis ...

That is the question.

November 10, 2011
by Martin Shenkman, CPA, PFS and Steve Akers, JD

If For some estates, the determination about whether carryover basis is preferable may not be obvious. This is because the timing of the tax incurred under an estate versus carryover basis election may differ considerably. The estate tax would be required to be paid rather quickly if the default estate tax approach is used by the estate. In contrast, whereas even if a lower basis adjustment would result, under the car­ryover basis regime that the larger future capital gains tax that would be triggered because the tax basis of assets would not be fully stepped up to the fair market values at death could be deferred.

For larger estates, when the election of the carryover basis regime is an obvious answer, the daunting task of how to allocate the limited basis adjustment to various assets that may be received by different beneficiaries will require nimble and cautious planning considering a host of factors. This is far from a simple matter to address as the possibilities are endless. For example:

  • What is the expected holding period for the property? If property, such as a family cottage, is intended to remain for generations in the family, it is less in need of an allocation to increase basis than are other assets that are more likely to be sold.
  • Are other avenues to avoid, defer, or minimize the potential future capital gains tax available, and how does their availability compare to other assets in the estate if the maximum basis adjustment has to be rationed to the various assets?
  • If the estate holds raw land that is likely to be donated to the local church for an expansion project, the basis adjustment is less important as compared to other assets if a charitable remainder trust could be used.
  • If the estate owns a shopping center and, rather than sell it a tax-deferred Internal Revenue Code (IRC) Section 1031 exchange is a likely possibility, then the allocation of basis to the shopping center may be less advantageous than an allocation to other assets.
  • If highly appreciated securities could be contributed to an exchange fund to diversify without in­curring capital gains, then these assets would be less in need of an allocation.
  • If the decedent’s principal residence can be sold and exclude gain under the home sale exclusion rules, then to the extent that that exclusion will avoid taxable gain, basis adjustment should not favor the residence. What will the capital gains tax rates be? Although the TRA extended them for two years at the low George W. Bush-era rates, will they be extended further in 2013, or will deficit worries result in much higher rates?
  • What will the tax bracket and status of the beneficiaries receiving the property be? How will the Medicaid tax on passive investment income affect this?

The myriad of factors and competing interests of different beneficiaries will also make it difficult for advisers to evaluate and weigh the many options. How will counsel to the executor advise on the alloca­tions? If no directives are present in the will (and few have any because no advisers really thought that the estate tax repeal scenario would occur) about how the basis adjustment should be allocated, what framework can be used to make a determination? Executors might consider carving out specific assets that should or should not receive an allocation. This might include a direction not to favor a family busi­ness in the basis adjustment allocation because the testator’s intent is that it not be sold.

This article has been excerpted from Estate Planning After the Tax Relief and Job Creation Act of 2010: Tools, Tips and Tactics. You can purchase the book at www.cpa2biz.com.

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Martin M. Shenkman, CPA, MBA, PFS, AEP, JD, is an attorney in New Jersey and New York City. His practice concentrates on estate and closely held business planning, tax planning and estate administration.Steve R. Akers, JD, is an attorney with 33 years of experience in estate planning and probate law matters. He is a managing director at Bessemer Trust. Editor Note: The authors are donating 100 percent of the royalties from this book’s sales to the following three foundations: Michael J. Fox Foundation for Parkinson’s Research, National Multiple Sclerosis Society and the Association of Hole in the Wall Camps.

* The AICPA’s Personal Financial Planning Section is the premier provider of information, tools, advocacy and guidance for CPAs who specialize in providing estate, tax, retirement, risk management and investment planning advice to individuals and closely held entities. The Personal Financial Planning Section is open to all Regular Members, Associate Members and Non-CPA Section Associate Members of the AICPA. If you are a CPA who wants to demonstrate your expertise in this subject matter, become a Personal Financial Specialist Credential holder. Visit www.aicpa.org/PFP to learn more.