Step Up in Basis Part 2

In Part 1, we covered a “step up in cost basis” principles with regards to real estate. In this post we will address step up in basis rules pertaining to marketable securities such as stocks, bonds, and mutual funds.

Your cost basis in a security is what you initially purchased it for plus any reinvested dividends.  So if mom bought 1,000 shares of Ford Motor Company back in 1980 when it was trading at $1.00 a share her cost basis is exactly $1,000 (trading costs such as commissions can also be included).   As of 10/25/2013 Ford was trading at $17.60 a share so if mom sold it today she would receive $17,600 from the sale of the Ford stock.  She would be able to subtract her basis for tax purposes ($1,000) and she would have a long term realized capital gain of $16,600.  At today’s long-term capital gains rates mom would owe Uncle Sam as much as 20% of that gain or $3,320.  However, let’s say mom never sold her Ford stock and left it to you after her death.  If mom died on October 25th 2013 your new inherited basis would be the closing market price of Ford on the date of death ($17.60).  Assuming you sold Ford stock at $17.60 you would owe nothing in capital gains thanks to the step up in basis rule.  Please remember that this analysis is only relevant if you are inheriting assets in a taxable account. If you are inheriting Ford stock inside of an IRA (or other similar tax deferred account) then the cost basis is irrelevant – at least for income tax purposes. 

What if mom is feeling generous and decides she wants to gift you the shares of Ford Stock while she is alive?  In this instance you would also receive mom’s cost basis of $1.00 rather than the higher step up in basis at death. 

As always, income tax consequences alone should not dictate financial decisions.  However, care should be taken to maximize both gifts and inheritances. Please speak with a financial advisor about cost basis and other tax-related issues.

Matthew Trujillo is a Registered Support Associate at Center for Financial Planning, Inc. Matt currently assists Center planners and clients, and is a contributor to Money Centered.

The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete.  Any opinions are those of Center for Financial Planning, Inc., and not necessarily those of RJFS or Raymond James.  Please note, changes in tax laws may occur at any time and could have a substantial impact upon each person’s situation.  While we are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters.  You should discuss tax or legal matters with the appropriate professional.  The illustration is hypothetical.  Individual results will vary.  This information is not intended as a solicitation or an offer to buy or sell any security referred to herein.  Individual results will vary.   This information is not intended as a solicitation or an offer to buy or sell any security referred to herein.  Center for Financial Planning, Inc., Raymond James Financial Services, Inc., its affiliates, officers, directors or branch offices may in the course of business have a position in any securities mentioned in this report.

Step Up in Basis Part 1: A Key to Understanding Your Inheritance

If you stand to inherit assets, it is crucial that you get the gist of the often-misunderstood concept of step up in basis. This is an area that is more pertinent then ever before as the aging U.S. population looks to transfer a large amount of wealth to the next generation.  The rules are a little different depending on what type of asset you are dealing with, but this blog is going to focus on “real assets” such as property.

In order to fully understand this topic, you need to know what cost basis means.  Your cost basis is simply how much you paid for something.  If you bought some land for $10,000 then your cost basis in the property is $10,000.  If that property appreciates in value and you sell it for $100,000 then you have realized a $90,000 capital gain.  The IRS allows you to subtract the original $10,000 (your cost basis) from the $100,000 sale price because you already paid tax on the $10,000.

Next you need to understand what step up in basis means.  A step up in basis typically occurs when somebody dies and leaves assets to their heirs.  Using our land example again, let’s say that Mom bought a property back in 1960 for $10,000 and left it to you in her will when she died.  The fair market value upon Mom’s death is $100,000.  If Mom sells the property the day before she died she would have a $90,000 capital gain.  However, if Mom leaves the property to you in her will, and you decided to sell it the day after the funeral, you would pay no capital gains tax on the sale proceeds.  The reason for this is that the IRS gives you a full step up in basis at the date of death.  So the $10,000 cost basis that represents the property’s original purchase price is now stepped up to the current market value of $100,000.

In our next blog, we will focus on step up in basis when you are dealing with securities such as stocks, bonds, mutual funds, etc.

Matthew Trujillo is a Registered Support Associate at Center for Financial Planning, Inc. Matt currently assists Center planners and clients, and is a contributor to Money Centered.

The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete.  Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation.  Please note, changes in tax laws may occur at any time and could have a substantial impact upon each person’s situation.  While we are familiar with the tax provisions of the issues presented herein, as Financial Advisors, of RJFS, we are not qualified to render advice on tax or legal matters.  You should discuss tax or legal matters with the appropriate professional.