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Income Tax Effects Related to Inheritance of Property, Including Stock

Over the last couple of weeks, I have had several clients ask how the inheritance of stock or property was going to affect their individual income tax returns. So I decided this was a good topic for today. They asked what the tax basis would be if they inherited stock and subsequently wanted to sell it.

Under the fair market value basis rules, also known as the “Step-Up and Step-Down” rules, the heir receives a basis in inherited property equal to its date of death value.

So, for example, if Uncle Bill bought Kodak stock in 1935 for $500 and it's worth $5 million at his death, the basis is stepped up to $5 million in the hands of his heirs and all of that gain escapes income taxation forever.

The fair market value basis rules apply to inherited property that’s includible in the deceased’s gross estate, whether or not a federal estate tax return was filed. Inherited stock is always deemed to be held for over a year and subject to long-term capital gain rates.

However this is not the case if the stock was received as a gift. If Uncle Bill, instead of dying owning the stock, decided to make a gift of it in honor of his 100th birthday, the “Step-Up” in basis from $500 to $5 million would be lost.

Property that has gone up in value acquired by gift is subject to the “Carryover” basis rules. The donee takes the same basis the donor had in it, or in this case just $500, plus a portion of any gift tax the donor pays on the gift. A recipient of a gift is deemed to have held the property the same time as the donor of the stock.

Under both of these examples however, the receipt of the stock as an inheritance or as a gift does not create taxable income for the recipient.

Disclaimer: The items included in the Tax Tip Tuesday Video Blog are informational only and are not meant as tax advice. Consult with your tax advisor to determine how any item applies to your situation. IRS Circular 230 disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. federal tax advise contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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