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Guarding Your Wealth for Senior Citizens
Senior Citizens and Adult Children Often Ask if They
Owe Taxes on a Gift
With a gift comes the cost basis of the person giving
the gift
By Jeffrey D. Voudrie, CFP
Feb.
4, 2008 - As a Certified Financial Planner, I’m often asked about issues
regarding inheritance, gifting and the resulting taxes. Here’s a classic
example of just how complicated these situations can be, using a
question from a reader in Michigan we’ll call ‘Bob’.
Bob writes, “I have a question about my mom's home
that I inherited. Before my mom died she put her real estate into joint
ownership between her and my sister. It was supposed to help make
settling her estate easier.
“Before mom passed away, my sister died. After my
sister died, mom placed the real estate jointly between herself and me.
Mom passed away over a year ago and I am now contemplating the sale of
her house. After mom's death I had the home transferred to my and my
wife’s names.
“What are my capital gains liabilities on the sale
of the house? Do I pay capital gains on the whole sale, half the sale,
or none of the sale?”
Bob’s lack of knowledge is nothing out of the
ordinary. Few people are aware of the tax implications and needlessly
end up creating a tax headache for themselves and their loved ones.
Let’s explain what an inheritance is and how it
differs from a gift. An inheritance is money, property, or another asset
of value that is transferred after death. A gift occurs when money,
property or other assets are transferred before death. An inheritance
and a gift are handled very differently from a tax standpoint.
Each of us can give gifts up to $12,000 per year to
any person we want without any Federal tax implications. (There may be
some state gift tax implications so check with an accountant.)
Inheritances aren’t subject to Federal Estate Tax
unless the estate’s value is over a certain amount, which is currently
two million dollars. Because all assets owned by the deceased are
included in the estate’s valuation (i.e. retirement accounts, annuities,
life insurance, etc.), reaching that two million dollar limit is easier
than you think.
Even if there is no gift or estate tax when the
assets are transferred, there can be capital gain taxes when the assets
are sold. The trick is determining the asset’s original value, or cost
basis, and that depends on whether the asset was a gift or an
inheritance.
When you receive a gift, you also receive the cost
basis the person giving the gift had.
So, if a parent paid $10,000 for a home and it was
worth $100,000 when it was gifted to the child, the child now has a cost
basis of $10,000. If the house is sold 5 years later for $125,000, the
child will owe taxes on a gain of $115,000.
If the house was instead inherited by the child,
the cost basis is the value of the house at the time of inheritance,
which in our example would be $100,000. So when the house is sold 5
years later for $125,000, the child only owes taxes on the gain of
$25,000.
In tax parlance, the house received a step-up in
basis when transferred after death. It doesn’t if transferred prior to
death.
Let’s apply this to Bob’s situation. When Mom added
Sister’s name to the deed, it was a gift to the sister of 50% of the
value of the home and Sister’s cost basis was 50% of Mom’s cost basis.
When Sister died and the house transferred back to
Mom, it was considered an inheritance. So Mom’s cost basis on the 50%
she inherited was the market value at the time she inherited it back. So
50% of Mom’s ownership is based on her original cost basis and the cost
basis of the other 50% is the value at Sister’s death.
When Mom then adds Bob’s name to the property, it’s
another gift. So Bob will inherit 50% of Mom’s new, adjusted cost basis.
When Mom dies and the other 50% is transferred to Mr. K, his cost basis
in that 50% is the value at the time of Mom’s death.
Now you know why
accountants make all that money!
If Mom had used a Living Trust instead, there would
have been no need to add names to her house and her heirs would have
100% of stepped up cost basis, saving thousands of dollars in taxes.
If you have a specific question or would like more
information, give me a call toll-free at 1-877-827-1463 or you can also reach me by email at
jeff@guardingyourwealth.com.
I will answer your financial question FREE.
About Guarding Your Wealth:
“Guarding Your Wealth” is a
nationally syndicated weekly personal finance column written by Jeffrey
D. Voudrie, CFP. Mr. Voudrie is the President of Legacy Planning Group,
a private wealth management firm that employs sophisticated proprietary
strategies designed to protect and grow its clients' investments. Visit his website,
www.guardingyourwealth.com to read past articles under the Guarding
Your Wealth Article Archive that may not have appeared in
SeniorJournal.com.
Guarding Your Wealth for Seniors, on
SeniorJournal.com, is
a collection of columns by Voudrie that deal with issues of particular
interest to senior citizens.
Click here
for all columns.
In addition to being a nationally
syndicated columnist and Certified Financial Planning Practitioner, Mr.
Voudrie provides personal, private money management services to select
private clients
nationwide.
Looking for an energetic expert who
is passionate about financial and wealth management? Mr. Voudrie is an
excellent speaker who will excite and inspire your audience. Mr. Voudrie
is available for a limited number of speaking engagements, television
appearances and radio talk shows. For bookings, email
jeff@guardingyourwealth.com.
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