Why inheritance is the dirty secret of the middle classes

[OldShooter]

Some posts here are confusing an Estate Tax (which has a ~$13M exemption now, 2x for a couple), with the step-up in basis of assets.

If below the Estate Tax, there's no tax on the inherited assets until they are sold. Then the basis comes into play.

In the example above, the family would not have to sell the house to pay the tax bill, because the tax bill (capital gains) would not be due until they sold it!

If they could not afford to maintain the house, then they sell it, and it's all profit (after selling expenses). So even w/o a step up, they should have plenty to pay any cap gains taxes.

-ERD50

Thank you for this.

Re the step-up idea, the likelihood of it happening is probably zero as screaming in congresscritters' ears would be loud and long. But if it did happen it would be accompanied by rules for fairly handling assets for which no basis records are available and maybe a "special interest loophole" for decedents' principle residences something like we now have. So IMO arguing about how the present rules would apply to a theoretical future is pretty much a waste of effort.

 

[scrabbler1]

Whenever my dad has to spend some extra money on something unexpected, he jokes to my brother and me, "There goes more of your inheritance!"

 

[Dash man]

IME the IRS will look at the step up basis being the value at the time of death. I’ve told my kids to get appraisals as soon as they can to have proof of the value. If the IRS has to determine the step up value, it likely won’t be to your benefit.

 

[marko]

When Grandma dies, the house goes to the beneficiaries, they never have to sell it if they don't want to. That's how some homes have been handed down generations.

-ERD50

Speaking as someone who owns my great-great grandfather's house, I (respectfully) say "shame on grandma for still having the house in her name when she died".

A good tax/elder attorney can fix all those umm...'complications' well before they would ever surface.

 

[ERD50]

Thank you for this.

Re the step-up idea, the likelihood of it happening is probably zero as screaming in congresscritters' ears would be loud and long. But if it did happen it would be accompanied by rules for fairly handling assets for which no basis records are available and maybe a "special interest loophole" for decedents' principle residences something like we now have. So IMO arguing about how the present rules would apply to a theoretical future is pretty much a waste of effort.

Agreed. I sometimes like to think it through, just as a thought exercise though.

If they did eliminate the step-up basis, I was thinking, if you inherit something, what difference does it make what the cost basis was to the deceased? They're gone. So maybe the 'fair' thing to do is to set the cost basis to zero for everything? I mean, the beneficiary really did acquire it at zero cost, so why not treat it as such?

Hmmm, so in one case, a person inherits cash, and in another case (separate decedent), the person inherits stock. So would the person selling the stock pay cap gains tax, but not the person receiving cash? It gets tricky to eliminate the step up, and from this angle, maybe the step-up makes pretty good sense as being 'fair'?

IMO, the biggest problem with the Estate tax (assuming we are going to have one), is the high rate. It jumps to 30~40% pretty quickly, much higher than LTCG. That encourages work-arounds and loopholes. I guess even 5% would be a big number to a large estate, so maybe they'd still want to take steps to get around it? Makes me feel stronger to just get rid of it.

-ERD50

 

[ERD50]

Speaking as someone who owns my great-great grandfather's house, I (respectfully) say "shame on grandma for still having the house in her name when she died".

A good tax/elder attorney can fix all those umm...'complications' well before they would ever surface.

How does that fix anything? Wouldn't grandma have to gift the house to get it out of her estate? That gets accounted for against the lifetime exemption, so it's a wash, right? Maybe worse, [correction - Dash man pointed out it is the cost basis of the 'gifter') [-]your cost basis would be when it was gifted, not the date of death[/-].

And if Estate tax doesn't figure into it, you get the step-up, so what's the problem to solve?

-ERD50

 

[Dash man]

Maybe worse, your cost basis would be when it was gifted, not the date of death.



-ERD50

Gifting doesn’t change the cost basis. The recipient of the gift has to use the cost basis of the gifter.

 

[OldShooter]

Speaking as someone who owns my great-great grandfather's house, I (respectfully) say "shame on grandma for still having the house in her name when she died". ...

Why would you say that?

Keeping the house is the way, though not the only way, to ensure that the heirs get the basis step-up. Worst case is grandma gifts the house before she dies; then the recipient gets grandma's basis. DW was an SVP in the investments and trusts division of a megabank and saw this major error over and over. Very sad but un-fixable.

 

[JoeWras]

Gifting doesn’t change the cost basis. The recipient of the gift has to use the cost basis of the gifter.

And even worse when a loss is involved. If you are gifted property that has declined in price at the time of the gift, THEN you get the stepped-down basis at the gift date. Otherwise, it is the gifter's original basis. Seems like everything is against you when gift basis is applied.

 

[CRLLS]

Some posts here are confusing an Estate Tax (which has a ~$13M exemption now, 2x for a couple), with the step-up in basis of assets.

If below the Estate Tax, there's no tax on the inherited assets until they are sold. Then the basis comes into play.

In the example above, the family would not have to sell the house to pay the tax bill, because the tax bill (capital gains) would not be due until they sold it!

If they could not afford to maintain the house, then they sell it, and it's all profit (after selling expenses). So even w/o a step up, they should have plenty to pay any cap gains taxes.

-ERD50

Federally, that is correct. Each state may also have an estate tax that comes in much earlier. In Illinois, it is $4mil. The tax rate could be as high as 14.4% just before it reaches the start of Federal taxing.

Just sayin'

 

[pb4uski]

I wasn't expecting sympathy.

But to be clear,. There is a basis step up because the assets are subject to tax at death, even if tax is zero.

Similar to selling a stock and re-buying it when you are in the zero percent tax rate. Get a new basis, despite the fact that there was no tax. The sale was subject to tax.

I think I see your point... but the vast majority of estates fall under the exemption amount so the estate tax is nil but those assets still get a stepped up basis even though no estate tax has been paid so it ends up being a freebie to all estates under the exemption amount.

So if your estate solely is a $12m portfolio with $5m of unrealized gains then the estate tax is nil and the beneficiaries get a $5m step up. Doesn't pass the smell test in the fairness category to me.

 

[all4j]

Just for some clarity...it is perhaps more accurate to say basis is adjusted at death, not stepped up. I assume most, if not all, who are suggesting that stepped up basis be abolished would also abolish step down?

Any set of rules for taxing quickly becomes political imho. Often the more vocal points of view reflect a bias based on personal situations. If I am envious of someone, then I object to them not paying a tax. After all, they use loopholes. In my case, I am subjected to over burdensome, grossly unfair government meddling....

Ideally, as a country, tax policy is shaped by what behavior we want to encourage or discourage. Do we favor investing/saving or consuming? Hopefully, a balance is reached & minimal $s are diverted to taxes (or schemes to avoid taxes) from beneficial economic endeavors. But there will always be schemes to minimize taxes, those who aren't treated "fair" (think we can all agree on what IS fair?), etc But we aren't talking "ideally" anyway are we. Cause if we did we'd adjust basis for inflation!

Quick note on the house example being kicked around...example is an easy one. Try the case where the house is mortgaged to the max, 5 kids inheriting it (including one whose spouse initiated divorce proceedings, and another going through bankruptcy).

I would like to hear from some Canadians as I think there tax system has the estate treat all assets as if sold at time of death. That is, all unrealized gain/loss becomes taxable & that is settled before anyone inherits. Is that true? Better than USA or worse?

 

[ncbill]

"If there's a will...I want to be in it."

I suspect my siblings & I will have to disclaim any inheritance in favor of my Dad's widow, considering although he made plenty of money owning his own business he was so profligate that even with our disclaiming she will probably have to downsize her lifestyle.

As for step-up, it's just a simplification measure...the reality is there will never be enough tax agents, state or federal, to manually audit the number of estates opened every year here in the U.S.

 

[ERD50]

Gifting doesn’t change the cost basis. The recipient of the gift has to use the cost basis of the gifter.

You are correct, thanks, I'll see if I can edit my post. -ERD50

 

[marko]

How does that fix anything? Wouldn't grandma have to gift the house to get it out of her estate? That gets accounted for against the lifetime exemption, so it's a wash, right? Maybe worse, your cost basis would be when it was gifted, not the date of death.

And if Estate tax doesn't figure into it, you get the step-up, so what's the problem to solve?

-ERD50

Why would you say that?

Keeping the house is the way, though not the only way, to ensure that the heirs get the basis step-up. Worst case is grandma gifts the house before she dies; then the recipient gets grandma's basis. DW was an SVP in the investments and trusts division of a megabank and saw this major error over and over. Very sad but un-fixable.

Well, if step-up basis was the only consideration, I'd agree.

But there's avoiding probate, avoiding Medicaid liens, reducing estate/inheritance taxes and lessening contested wills, among a few.

My own father was sued by a family member because "I don't care what the will says, Grandma always said she'd leave the house to ME!"

IANAL but we pay them good money to worry about such things and the suggestion does come up from time to time. Trusts are a good vehicle to avoid many conflicts.

Going out on a limb here but gifting the house might be different than selling it for a certain amount and life estates are another avenue. I don't recall how we've done it in the past.

 

[Montecfo]

I think I see your point... but the vast majority of estates fall under the exemption amount so the estate tax is nil but those assets still get a stepped up basis even though no estate tax has been paid so it ends up being a freebie to all estates under the exemption amount.

So if your estate solely is a $12m portfolio with $5m of unrealized gains then the estate tax is nil and the beneficiaries get a $5m step up. Doesn't pass the smell test in the fairness category to me.

You said you see my point, but you re+made yours in response I see.

I find it wrong we have a death tax, a second tax system completely separate from income taxes. This is nothing more than a money grab. The modestly high threshold and basis step up seem well deserved under the circumstances.

 

[sengsational]

Ideally, as a country, tax policy is shaped by what behavior we want to encourage or discourage.

That, combined with whatever is easiest to document, which is where a lot of the "unfairness" arises.

 

[MichealKnight]

I am fortunate to have a higher net worth than maybe 85% of the nation depending on what you research. However, there's people who have way more than me - including on this forum. Whatever you did to amass for more than me: Work or save. Educate yourself. Play a mean game of poker. Sell your body (darn you, nobody gonna rent mine ever, maybe you won it or you worked for it or whatever.........I do *not* have the right to tell you, to divest yourself of those monies - so that my grandkids might have an. easier time.

On the flip side I do see America becoming 3rd world-ish vis a vis glaring gilded age ........but I feel there's other remedies and discussions for such. For instance - many of our most solvent, educated Americans - hail from other lands. 1st and 2nd generation. Coincidence: Dysfunction is low, traditional upbringings are high. Consumerism is prudent while frugality is the order of the day. Nobody gave them a thing. Yet when you look around at this very minute from the highest levels of Western governments, to hospitals, to science, to academia - somehow - there they are. If you tour neighborhoods that are highly concentrated with these demographics - or even watch their ethnic TV stations - stores and ads for math tutoring, insurance, loans for small business are commonplace. Pursuits of fashion, vanity, and dysfunction - hardly. 50's America is not obsolete - it's alive and well.......within these demographics.

My hope is that our society gets some of that back. And then yes, I think some sort of taxation will be needed because Gilded Ages dont work out well. Would be more than open to things like consumption taxes....... who knows? Might focus the country on the fact that newest Smartphones, hairstyles, tennis shoes, might *not * be being bought just by billionaires and the monies raised - maybe could be used towards more egalitarianism in things like education, trade school subsidy, personal finance education (if they system allows it...

As someone who did very well in medium-to-high ticket retail businesses for 25 years I can say with 100% certainty - those who will leave estates - were most thrifty. Those who will leave things world in arrears - demanded the nicest stuff whether they could afford it or not.

 

[SecondCor521]

And even worse when a loss is involved. If you are gifted property that has declined in price at the time of the gift, THEN you get the stepped-down basis at the gift date. Otherwise, it is the gifter's original basis. Seems like everything is against you when gift basis is applied.

It's a bit more complicated than that.

For gifts where FMV is lower than the giver's cost basis, there is a dual basis which creates three ranges. Sale below FMV creates a loss relative to FMV, sale above FMV but below cost basis results in neither loss nor gain, sale above cost basis creates a gain relative to cost basis. Approximately, anyway. See https://www.irs.gov/faqs/capital-ga...e-of-home-etc/property-basis-sale-of-home-etc

 

[aja8888]

I am fortunate to have a higher net worth than maybe 85% of the nation depending on what you research. However, there's people who have way more than me - including on this forum. Whatever you did to amass for more than me: Work or save. Educate yourself. Play a mean game of poker. Sell your body (darn you, nobody gonna rent mine ever, maybe you won it or you worked for it or whatever.........I do *not* have the right to tell you, to divest yourself of those monies - so that my grandkids might have an. easier time.

On the flip side I do see America becoming 3rd world-ish vis a vis glaring gilded age ........but I feel there's other remedies and discussions for such. For instance - many of our most solvent, educated Americans - hail from other lands. 1st and 2nd generation. Coincidence: Dysfunction is low, traditional upbringings are high. Consumerism is prudent while frugality is the order of the day. Nobody gave them a thing. Yet when you look around at this very minute from the highest levels of Western governments, to hospitals, to science, to academia - somehow - there they are. If you tour neighborhoods that are highly concentrated with these demographics - or even watch their ethnic TV stations - stores and ads for math tutoring, insurance, loans for small business are commonplace. Pursuits of fashion, vanity, and dysfunction - hardly. 50's America is not obsolete - it's alive and well.......within these demographics.

My hope is that our society gets some of that back. And then yes, I think some sort of taxation will be needed because Gilded Ages dont work out well. Would be more than open to things like consumption taxes....... who knows? Might focus the country on the fact that newest Smartphones, hairstyles, tennis shoes, might *not * be being bought just by billionaires and the monies raised - maybe could be used towards more egalitarianism in things like education, trade school subsidy, personal finance education (if they system allows it...

As someone who did very well in medium-to-high ticket retail businesses for 25 years I can say with 100% certainty - those who will leave estates - were most thrifty. Those who will leave things world in arrears - demanded the nicest stuff whether they could afford it or not.

Thanks for the post. Some food for thought here, for sure.

 

[anethum]

You said you see my point, but you re+made yours in response I see.

I find it wrong we have a death tax, a second tax system completely separate from income taxes. This is nothing more than a money grab. The modestly high threshold and basis step up seem well deserved under the circumstances.

"death tax" is a deliberate misnomer for the inheritance tax, coined by a political party with the intent of confusing millions of voters whose estates will never be taxed. Nobody is taxed when they die. I urge you to refrain from posting loaded and misleading political talking points like "death tax".

As for "modestly high threshold", I would not describe a $12.06 million (double that for a couple) federal threshold as "modestly high". It's extremely high, and it will increase to $12.92 million in 2023. Due to loopholes, I believe we need an Alternative Minimum Inheritance Tax.

The following site has an excellent graph showing the distribution of wealth in the US in 2022 based on data from the Federal Reserve:

https://www.statista.com/statistics...second quarter of,percent of the total wealth.

31.1% of the nation's wealth is in the hands of the top 1%.
68% of the nation's wealth is in the hands of the top 10%
Only 3.2% of the nation's wealth is in the hands of the bottom 50%.

The effective lack of an inheritance tax in the US is an important part of why a country like France now has better wealth distribution than the US. It seems that more is never enough for many of the uber-wealthy. Things have not ended well in every society where wealth became too concentrated.

 

[OldShooter]

... The effective lack of an inheritance tax in the US is an important part of why a country like France now has better wealth distribution than the US. ...

Objection!! Speculation on the part of the witness. Assertion not proven.

 

[anethum]

Objection!! Speculation on the part of the witness. Assertion not proven.

My claim was hardly speculation. The data are readily available. Here's one source:

https://stats.oecd.org/index.aspx?queryid=81611

Select a country in the pull-down menu at the top right of the table. Then scroll down and look at the bottom 3 lines in the column on the right for the share of wealth for the selected nation's top 1%, 5%, and 10%.

Top 1% in France: 17.1%. Top 10% in France: 49.2%

Canada has slightly greater wealth concentration than France. The wealth concentration is much greater in the US than France or Canada.

 

[OldShooter]

My claim was hardly speculation. ...

The speculation is your statement that inheritance taxes are a "significant part of why" the wealth disparity in France is lower. You don't know that and it would be a very hard thing to determine.

My recollection, in fact, that France's very high taxes on wealth have caused a number of mega-wealthy people to decamp to other countries. https://www.investorschronicle.co.u...-france-s-wealth-tax-did-more-harm-than-good/ That reduces disparity too, but at the expense of national wealth.

I am reminded of Margaret Thatcher's comment concerning an MP wanting to raise taxes on the rich: "He would rather have the poor poorer provided that the rich were less rich." Worth a listen:

https://twitter.com/x/status/1208738206323269632

 

[ERD50]

I am fortunate to have a higher net worth than maybe 85% of the nation depending on what you research. ....
As someone who did very well in medium-to-high ticket retail businesses for 25 years I can say with 100% certainty - those who will leave estates - were most thrifty. Those who will leave things world in arrears - demanded the nicest stuff whether they could afford it or not.

Thanks for the post. Some food for thought here, for sure.

+1

"death tax" is a deliberate misnomer for the inheritance tax, coined by a political party with the intent of confusing millions of voters whose estates will never be taxed. Nobody is taxed when they die. I urge you to refrain from posting loaded and misleading political talking points like "death tax". ...

And from my viewpoint, it is disingenuous and a misleading political talking point to claim that the "death tax" reference is "misleading political talking points".

There is no Estate Tax until death. It is perfectly reasonable to refer to it as a "death tax". The beneficiaries do not directly pay the tax, the estate of the deceased does. Those are facts. Yes, it affects the beneficiaries, but technically, the tax is on the estate of the diseased.

[ ... As for "modestly high threshold", I would not describe a $12.06 million (double that for a couple) federal threshold as "modestly high". It's extremely high, and it will increase to $12.92 million in 2023. ...

While I'm opposed to the concept of a "death tax", I agree with you that the +$12M threshold is high.

... The following site has an excellent graph showing the distribution of wealth in the US in 2022 based on data from the Federal Reserve:

https://www.statista.com/statistics...second quarter of,percent of the total wealth.

31.1% of the nation's wealth is in the hands of the top 1%.
68% of the nation's wealth is in the hands of the top 10%
Only 3.2% of the nation's wealth is in the hands of the bottom 50%. ...

Seems more than "fair". IMO, it's so much more than "fair", that it is unfair!

"31.1% of the nation's wealth is in the hands of the top 1%." .. well. only 1% of the top graduates in college/high school were in the top 1% (obviously ). I'd expect them to control 99% of the nation's wealth.

What % of baseball players make it to the Majors?

Think for a minute. I've spent some time with the top 1% of High School grads. An impressive bunch. Now, consider that some % never even finish High School, and/or are in prison by then. I'd fully expect the best and the brightest to manage to control most of the wealth. Why is that surprising to anyone? Would we even want that wealth in the hands of under-achievers and felons?

Be careful what you wish for.

This very forum of early retirees is a special subset of the general population. And many (most?) of us are well off. Not because we all were the top 1% of anything, but mostly we LBYM, saved and did simple investments. No magic. A lot of people who could achieve this did not, but they could have.


PS: I'm going to dig deeper into the records, but my DW never had a high paying job, was a stay-at-home Mom for many years, and I just noted that her own Roth IRA is now over 1/2 a Million dollars (and very conservatively invested, I counted it as part of our fixed income AA). Yes, I had a good career so she could be a SAHM, and then take a modest paying job she enjoyed. But a half-million is doable for many, if they choose to make a max contribution to their IRA, rather than spend it.

-ERD50