When No Estate Tax is a Bad Thing
Most farmers are assuming that since there is no estate tax for 2010, that this must be a good thing for all taxpayers. The reality is that many farmers may end up paying more in taxes than under the law in effect for 2009. This is due to the fact that carryover basis will no longer be in effect for many estates.
Under the old law, when a person died, all of their assets were revalued for income tax purposes based upon the value at the time of death. Then when the heirs sold the assets, this was the “cost” that they could use in determining their gain or loss.
For example, suppose, a farmer died owning equipment that was worth $1 million dollars that had been fully written off. Under the old law, you could step up the value to $1 million dollars and depreciate it over 5 to 7 years. If instead, you decided to sell the farm equipment for $1 million immediately, there would be no tax owed.
Now, when you inherit the equipment, you get no step up in basis, and when you elect to sell the equipment, the gain will be completely taxable. Also, this sale will not qualify for capital gains treatment, therefore it will be subject to ordinary income tax rates. At a 35% bracket, this would result in owing $350,000 of tax.
Therefore, due to not having an estate tax, we went from (1) complete step up in value to date of death value, (2) no estate tax being owed for all estates under $3,5 million, and (3) full write of assets over time as depreciation against other income to owing $350,000 in income taxes. This does not sound too good to me.
I am hoping that Congress gets their act together and fixes this, but I am not too hopeful. I will keep you updated.
Paul Neiffer is a certified public accountant and business advisor specializing in income taxation, accounting services, and succession planning for farmers and agribusiness processors. Paul is a principal with CliftonLarsonAllen in Walla Walla, Washington, as well as a regular speaker at national conferences and contributor at agweb.com. Raised on a farm in central Washington, he has been immersed in the ag industry his entire life, including the last 30 years professionally. Paul and his wife purchase an 180 acre ranch in 2016 and enjoy keeping it full of animals.
In addition to the $4.3 million basis adjustment and the Section 121 exclusion for the sale of a personal residence that Paul Parker correctly describes above, remember two things (1) you can allocate much of the basis adjustment to the personal property (equipment) that Paul Neiffer includes in his example and thus offset ordinary income tax on the depreciation recapture; and (2) Section 1031 of the “Infernal” Revenue Code allows you to defer (postpone) gain on the sale of real estate if you are willing to invest in other real estate.
Hopefully, Congress with stop acting like spoiled three year olds and work out a short term fix if nothing else and eliminate some of this uncertainty.