Friday, August 1, 2014

When Assets Get a ½ Step-Up in Cost Basis



Many people are aware that when the owner of a taxable asset passes away, the party that inherits that asset do so at a stepped-up cost basis. For example, suppose a husband owns a stock in a taxable investment account that he purchased for $100,000 but is now worth $150,000. If the husband sells the stock, there will be taxes due on the $50,000 of growth, or the difference between the current value and the cost basis. However, if the husband passes away and a wife inherits the stock, the wife’s cost basis gets increased to the full $150,000, the value of the account on the date the husband passed away. This enables the wife to sell the stock and keep the full $150,000 of value without paying taxes.

However, what happens to assets that are owned jointly with a right of survivorship when one spouse passes away? Did you know in this scenario, it is possible for assets to receive a ½ step-up in basis? The formula looks like this:

(Date-of-death fair market value + Old basis) / 2 = New Basis

In a practical example, suppose John contributes $10,000 to a joint account with a right of survivorship and Jane contributed $5,000 to the same account. When John passes, the account is valued at $20,000. This will cause Jane to get a step-up in basis to $17,500 on the taxable account.

($20,000 + $15,000) / 2 = $17,500

Jane receives a ½ step-up in basis on each position within the investment account. She is unable to claim a full-step up on one stock within the account and no step-up on other assets.

Notice that even though the spouse’s contributed different amounts to the account, they each share a full 50% share of the property for inclusion in their estates. However, this is unique to spouses with right of survivorship and the issue is more complex if the parties involved are not married.

To be clear, this step-up only occurs on taxable assets like physical property or taxable investment accounts. A step-up does not occur on tax-deferred investments like IRAs or 401(k)s.

2 comments:

Unknown said...

The transfer of assets after a passing is such a confusing topic, so thank you for explaining it thoroughly and clearly. My husband and I are planning our estate right now. As part of the planning, we've considered hiring a financial counselor to help me makes sure that we are getting the most out of our money. Do you have any advice or recommendations. http://www.financialguidancecenter.org/financial_counseling.php

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