Articles

A couple of quick notes for your information:

New REV-1500

Ken Lewis notes that the Department of Revenue Bureau of Inheritance Tax has a new form 1500, which contains a very small changes eliminating the "Firm Name", eliminating the heavily lines on page 3 and eliminating shaded areas on the form. None of that would wake you up if it were not for the statement in the Department of Revenues Tax Update that says "older versions of the returns submitted after July 1 will be rejected by Registers of Wills and returned to taxpayers."

The new forms are available at the following URL:

http://www.revenue.state.pa.us/portal/server.pt/community/inheritance_tax/14695

We have heard conflicting reports as to how seriously they mean the foregoing, but at least you have been informed if you did not know already.

Small Group Health Insurance on Life Support.

For those of you interested in the post several weeks ago about the ACBA Group Health Insurance Plan and the increases on average of 26% and in some cases as high as 89%, please note that after considering the matter, our firm is dropping the group coverage and will be picking out individual guaranteed issue policies from Highmark for its employees requiring it. At least at the moment, Highmark is offering high deductible plans at under $700 a month per employee with a deductible of $1200 and a maximum out-of-pocket additional copayment of $1500. This High Deductible Plan can be paired with an HSA account so that if $2700 is put into the HSA account you have a very similar plan with no pre-existing conditions, no unusual exclusions, no copayments and no deductibles not covered by the HSA account. In our case, this yielded a better result for us and the HSA account balance not utilized in any year can be carried forward because it Is the property of the employee, rather than Highmark. Further, if you wish to cover a husband and wife with the individual policies, the husband and wife can be covered at double the expense of the employee rather than the unexplained 80% additional premium charged on the spouse by Highmark (employee and spouse are 2.8 times the employee's rate without children).

I have been unsuccessful so far in interesting a local newspaper person to delve into this further. However, the Philadelphia Inquirer has reported that the Rendell administration and the PA Insurance Commission is starting an investigation of insurance practices in connection with small business group policies:

See Pattern of Rate Hikes Spurs Probe of PA. Insurers:

http://www.philly.com/philly/business/homepage/20100610_Pattern_of_rate_hikes_spurs_probe_of_Pa__insurers.html#axzz0r2atW48M

The article stated that the Governor's Office and the Insurance Commission were not able to cite any specific examples of 50% or more increases. I will fix that.

2010 Cost Basis GPS-- Slow Traffic Ahead

Executive Summary--you must obtain the cost basis and the acquisition date of every non cash asset in an estate of a decedent dying in 2010, however small the estate, in order to know the acquisition date for fiduciary income tax purposes. If the decedent's cost basis at the time of death is more than the date of death value, the acquisition date is the date of death, and sale of the asset will generate short term gains or losses for one year after the date of death.

Only Exception to this nasty rule--if you have net capital losses in an estate--in which case it won't matter whether they are long or short.

Don't believe it but it matters to you? You are sentenced to read this unusually long and technical post.

I always knew that I appreciated section 1014 of the Internal Revenue Code. You know, that's the one that gives us the step up in cost basis in a decedent's estate. Yes, that's the one we don't have this year because of the addition of section 1014(f):

"Termination -- This section shall not apply with respect to the decedents dying after December 31, 2009."

Instead, we have section 1022, which provides that except as otherwise provided in that section

(1) "property acquired from a decedent dying after December 31, 2009, shall be treated for purposes of this subtitle as transferred by gift, and

(2) the basis of the person acquiring property from such a decedent shall be the lesser of --

(A) the adjusted basis of the decedent, or

(B) the fair market value of the property at the date of the decedent's death."

And this is a lot like the cost basis rules that apply to gifts, but it is not the same. Under section 1015(a), if the cost basis in the hands of the donor or is greater than the value at the date of the gift, then the donor's cost basis is used for purposes of determining a capital gain, and the fair market value of the property at the date of the gift is used for purposes of determining a capital loss. If the actual sales price is in between the donor's cost basis and the value on the date of the gift, there is neither gain nor loss. Section 1022 is simpler -- heads the IRS wins and tails the taxpayer loses. No matter how much Grandma paid for the stock--say she bought Bank of America Stock for $50 a share a couple of years back, and then died when it was $15 a share more recently. Her cost basis for gain or loss is $15 a share. If BAC eventually comes back to $50 a share (not this week!) her estate or her heirs will pay capital gains tax on the $35 she lost and got back again! So that is our basic lose-lose rule.

In addition, section 1022 allows for a basis increase allocated to property to which section 1022 applies in an aggregate amount of $1,300,000, and an aggregate spousal property basis increase of $3 million for property transferred to the spouse outright or by giving the spouse qualifying terminable interest property.

Because we know that the cost basis is the lesser of the decedent's cost basis or the fair market value on the date of death, and because we know, or think we know, that we have an aggregate basis increase of $1.3 million generally and for spouses an aggregate basis increase of an additional $3 million, we may think that in many cases we would not have to start our archeological project to dig (with a spoon, of course) the historical cost basis and acquisition dates of assets passing through an estate -- after all -- in most of those cases either because of the 1.3 million aggregate basis increase or the $3 million spousal aggregate basis increase, we may know that we can "cover" all of this section 1022 property even if the decedent's cost basis is zero, and so we don't need to know it's a real original cost basis or acquisition date. :) However, we would be wrong in thinking so. :(

We would also think that for a smaller estate -- say $500,000, comprised of securities -- that since we know we can cover the date of death value regardless of the cost basis that we don't really have to dig out that basis. Again, I believe we would be wrong in thinking so. :((

The difficulty, bad as it is, does not lie with section 1022, but in section 1223 of the Internal Revenue Code. Section 1223 (9) provides that a person acquiring property from a decedent where our beloved section 1014 applied, the basis of the property was determined under section 1014 and even if the property were sold right away, it is "considered to have [been] held... for more than 1 year."

But, alas, our 1014 can't help us this year and so we must turn to section 1223(2):

"in determining the period for which the taxpayer has held property however acquired there shall be included the period for which such property was held by any other person, if under this chapter such property has, for the purpose of determining gain or loss from the sale or exchange, the same basis in whole or in part in his hands as it would have in the hands of such other person."

If the basis of the decedent was less than the fair market value at the date of the decedents death, then section 1022 tells us that the basis in the hands of the estate will be the decedent's basis, and whether or not additional basis is added by virtue of the $1.3 million aggregate appreciation allowed to anyone or the $3 million aggregate appreciation allowed for a surviving spouse, the decedent's basis was "in whole or in part" the basis of the asset in the estate. That means we can "tack" the decedent's holding period onto that of the estate. So if a decedent had held a security whose cost basis was less than the fair market value on the date of his death for more than one year prior to his death, the property would be long-term in the hands of the estate.

So if BAC were purchased in March of 2009 for $4.50 a share and then grandma died last week when it was $15 a share, the $4.50 is "part of" the $15 whether part of Grandma's $1.3 Million were allocated to it to bring it up part way or all the way to $15.

But what if the cost basis of the property was more than the fair market value at the date of the decedents death? Do we get to"tack" the Grandma's holding period on here also? I fear we do not, because the decedent's higher cost basis is not "in whole or in part" the cost basis in the estate.

There are of course no regulations under section 1022, and thus no help comes from that direction. If we look at the "tacking" rules for gifts in publication 544 Sales and Other Dispositions of Assets at page 36, we find that the IRS says that the holding period for property received in the gift is as follows:

"If your basis is giver's adjusted basis, same day as giver's holding period began. If your basis is FMV, day after date of gift."

Following that line of reasoning, and unfortunately the "plain(??)" language of the statute, if the decedent's cost basis is greater than the fair market value at the date of death, and therefore the date of death value is utilized, the date of death will be the acquisition date, and a sale within one year could be a short-term capital gain, potentially taxed at 35%, rather than a long-term gain, taxed at a maximum of 15% in 2010.

That can't be right, you say! That's not fair! Okay--0 for 2. We are talking tax law here.

Trying to dig deeper, there is a paucity of authority on the subject matter generally. The closest and arguably the only case closely on point is a fifth circuit Court of Appeals case entitled The Citizens National Bank of Waco, Trustee vs. United States. 417 F.2d 675 (5th Cir. 1969).

Judge Goldberg begins his opinion , with a statement which we tax and estate practitioners can easily empathize:

"In this tax case we are confounded by the jargon of the regulations, unassisted by guiding case law, and confronted with an enacting environment singularly unilluminating."

The facts of that case were that a privately held company subject to a loan was gifted into trusts and fairly shortly thereafter the stock was sold in the trusts. The trusts had assumed the debt of the settlors, and the trusts reported that capital gain, using as the acquisition date the date the stock was acquired by the settlors. The cost basis for this transfer is determined under section 1015(a) and 1015(b), which in both instances start with the transferor's basis. Section 1015(b) states that for transfers other than a gift, bequest or devise "the basis shall be the same as it would be in the hands of the grantor increased in the amount of gain or decreased in the amount of loss recognized to the grantor on such transfer under the law applicable to the year in which the transfer was made." The Treasury Regulation provided that the transferee trusts bases in the property acquired in a part gift and part sale transaction is the greater of (1) the amount paid by the transferee or (2) the transferor's adjusted basis." In this particular case it was the amount paid by the transferee which was used as the basis.

The Fifth Circuit held the Regulation invalid because the regulation, unlike the underlying statutes, made the cost basis in the hands of the transferee trust a figure which "has no reference to the transferor's cost basis as required under section 1223 for tacking." Remember that the underlying statute started with the transferor's cost basis and then increased it in the amount of gain or decreased it in the amount of loss recognized.

The situation with Section 1022 is the same -- once we have applied Section 1022 to determine that the applicable basis is the date of death value, it is the date of death value, and not the donor's basis "in whole or in part" which determines the basis in the hands of the estate. As such, the date of acquisition is the date of death.

What's it all mean Alfie? It means that unless we know both the acquisition date and the cost basis of each security that is held in an estate, we cannot know whether or not it is held short-term or long-term for the first year after the decedent's death. That is so because we cannot determine its acquisition date -- whether it is the date of death (making it short-term for a year) or long-term because we are able to tack on the holding period of the decedent. Whew!

If that doesn't give you a headache, try to find statutory support for the automatic application of the $1.3 Million Section 1022 basis adjustment to estates that are not "large transfers" under Section 6018. We think, as my partner, Tim Burke, noted, that Homer nodded. In other words, they forgot to put it in. I am afraid in this case we had folks a good deal less erudite than Homer writing this stuff--more like Homer Simpson than The Homer. . .

Your Faithful Exhausted Reporter

Please read the important information relating to tax advice at the bottom of this web page.

Best regards,
Bob Wolf, Moderator

“Any tax advice in the foregoing message was not intended or written to be used, and cannot be used by any person for the purpose of avoiding tax penalties that may be imposed with respect to the matters addressed. Some of that advice may have been written to support the promotion or marketing of the transactions or matters addressed within the meaning of IRS Circular 230, in which case, be advised that the advice was written to support the promotion or marketing of the transaction(s) or matter(s) addressed, and you should seek advice based on your particular circumstances from an independent tax advisor.”