Have you inherited an asset — such as real estate, a valuable heirloom, or a business stake — from a deceased loved one? While taxes probably aren't the first thing on your mind right now, it's important to understand how they affect this asset now and later. To help you minimize any loss to taxation, here's what you need to know about tax basis for your inheritance.
What Is Tax Basis?
In accounting, the term 'basis' refers to what an asset's owner invested in the asset. It includes the original sale price as well as things like fees, taxes, shipping, and major repairs or value-adding upgrades. Tax basis is important because it is subtracted from the sale price to calculate taxable income from selling the asset.
What Is a Stepped-Up Basis?
If you inherit your grandparent's art collection, the tax basis is the amount paid for the individual pieces as well as other ancillary costs like those above. Perhaps this all amounts to $10,000. However, the collection's value at the time of your grandparent's passing is $50,000. If you sell the collection for this amount, you normally would pay taxes on $40,000.
Tax rules allow you to take what's known as a stepped-up basis. The new basis is the value of the art collection on the date of the owner's passing (or an alternative valuation date if elected by the estate). Now, the basis is $50,000. If you sell the collection for this amount, none of your profit is taxable.
Why Document Stepped Up Basis Now?
Preparing for the eventual taxation on an inherited asset begins when you inherit it. If the estate executor has had the item valued on the date of death, get documentation of this appraisal value and keep it with your inheritance information. Even if you don't plan to sell that art collection any time soon, it will be much harder to document the stepped-up basis many years after the person's passing.
When you do sell an inherited asset, work with a qualified tax preparer or accountant to determine the correct tax basis you can claim. This is a lynchpin of paying the lowest income tax legally allowed. For complex or previously unvalued assets, you may need to engage a professional to identify the correct valuation.
Where Can You Learn More?
Tax basis is an unfamiliar idea for most people, but it affects your taxes in a large way. No matter whether you've just inherited, are planning to sell, or have sold an inherited asset, start by consulting with a tax preparation professional in your state today to learn how to ensure your inheritance benefits you instead of Uncle Sam.
