By Attorney Suzanne R. Sayward (February 2012)
This time of year, people’s thoughts turn to income taxes, which can make even the most cheerful person cranky. However, there are some tax laws in effect right now that are quite favorable to taxpayers and that may not be around forever (or for very much longer). In the spirit of trying to bring a little cheer to tax time, here are five tax rules that could help keep a little more in taxpayers’ pockets.
1. Exemptions from Estate Tax. Many times clients come in to see me convinced that the government is going to take a big chunk from their estate at their deaths. For most people, this is simply not the case. Both federal and state tax codes include large exemptions from the estate tax. For people who die in 2012, the IRS will only collect tax on estates worth more than $5 million. Massachusetts is not quite as generous as the federal government, but even for Massachusetts estates, taxes are only payable on estates valued in excess of $1 million. Further, for both state and federal purposes, all assets that pass to a surviving spouse who is a U.S. citizen are free of estate tax.
2. Exclusion of Gain on the Sale of a Primary Residence. When it comes to taxes payable on the sale of your home, the current law is quite favorable to the taxpayer. A homeowner can exclude up to $250,000 of profit on the sale of his primary residence. For married couples, this means up to $500,000 of profit can be excluded. The exemption is available to those who have owned and used the property as a primary residence for at least two years. The law also provides exceptions to the rule for a residence that is sold after the death of a qualifying owner, or if an owner resides in a nursing home. This exclusion can save a lot of tax for people who bought their homes many years ago and have seen the property appreciate significantly.
3. Stepped-Up Basis for Inherited Assets. Another taxpayer-favored rule is the stepped-up basis for inherited assets. This section of the tax code provides that when someone dies owning an appreciated asset such as stock or real estate, the tax basis of the asset is “stepped-up” to its fair market value at the date of the owner’s death. For example, I had a client who bought stock in the 1970s for $5,000. When she died, the value of that stock was close to $70,000. If she had sold the stock during her lifetime, she would have had to pay capital gain tax on the difference between her basis of $5,000 and the sale price of $70,000. Because the stock was part of her estate at her death, her family inherited the stock with a tax basis of $70,000. When they sell the stock, gain or loss on the sale will be determined by subtracting $70,000 from the sale price of the stock.
4. Inherited Assets Not Taxable to Heirs (for the most part). In addition to receiving inherited assets with a stepped-up basis, the assets are not income taxable to the beneficiaries. For example, if my auntie dies and leaves me her house and $50,000 of life insurance, I do not need to report the receipt of those assets on my personal tax return; they come to me tax free. An exception to this rule is receipt of qualified retirement accounts such as IRAs and 401ks. When monies are withdrawn from qualified retirement accounts, the amount withdrawn is taxable income to the beneficiary. However, there are currently favorable rules in place for beneficiaries of these assets too.
5. Gift Taxes Exclusions. Many people are confused about gift taxes. Gift tax is payable on gifts made in excess of the lifetime gift tax exclusion. In 2012, the federal lifetime gift tax exclusion amount is more than $5 million ($5,120,000 to be exact). Further, although some states impose a gift tax, Massachusetts does not. In addition to the lifetime gift tax exclusion, the federal gift tax law allows each person to make annual exclusions gifts of up to $13,000 to as many people as you like. So if you have 10 grandchildren, you can give each of them $13,000 each year without using any of your $5 million lifetime exclusion. If you are married, your spouse can also make annual exclusion gifts. One caveat: under the current law the lifetime gift tax exclusion will be reduced to $1 million in 2013. Therefore, if you have a very large estate, consider whether it makes sense to undertake some gifting before the end of 2012.
One more tax tidbit to be glad about this year – the April 15th deadline is extended to April 17th because the 15th is a Sunday and the 16th is a holiday in Washington D.C. – cheers!
Attorney Suzanne R. Sayward is an estate planning and elder law attorney and a partner with the Dedham law firm of Samuel, Sayward & Baler LLC. This article is not intended to provide legal advice or create or imply an attorney-client relationship. No information contained herein is a substitute for a personal consultation with an attorney. For more information about estate tax planning, visit www.ssbllc.com or call (781) 461-1020.
Pursuant to IRS Circular 230, please be informed that any tax advice contained in this communication, including attachments, is not intended or written to be used for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or promoting, marketing or recommending this transaction or a tax-related matter to another party.